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July 6, 2009

Flash Point

By Nina Mehta

Another best-execution issue is that broker-dealers seeking flash executions could miss executions if the NBBO changes during the flash period. Larry Harris, a finance professor at the University of Southern California and a former chief economist at the SEC, notes that exchanges generally are not allowed to trade through better-priced protected quotes, although they can trade at that price. "But the flip side is that the exchange may lose the opportunity to obtain a trade at that price if they hold the order during the flash period," he said. "The person who submitted the order to the flash process takes the risk that the NBBO will change or that no one will respond while the order at the other market disappears."

Great Executions

Christopher Nagy, managing director for order routing, sales and strategy at TD Ameritrade, said his firm's experience with Direct Edge's flash orders has been positive. Ameritrade began using Direct Edge's ELP program when it started in 2006. "We saw that clients were getting great executions on limit orders, and a more consistent execution experience, so we continued utilizing the program," he said.

For investors, Nagy continued, flash orders avoid slippage concerns associated with displayed orders. "Reg NMS doesn't incentivize retail or institutional orders to display their hands for fear of slippage," he said. "If you can enter a transparent environment but essentially be hidden, you're more apt to transact in that world." He added that Ameritrade usually receives better prices than the NBBO on Direct Edge.

Larry Harris, University of Southern California

Direct Edge's O'Brien argues that critics of his market's ELP program are twisting a successful innovation into a regulatory concern for purely competitive reasons. He said the ELP program gives participants a choice about how they want their order flow handled, and enables customers to lower their market-impact and transaction costs. He also notes that critics of the ELP program, which includes dark pools among its participants, are anti-internalization. Internalization refers to the ability of brokers to match customer orders away from public markets. But the ECN's flash orders, on the contrary, O'Brien said, have "democratized access to dark liquidity sources by enabling retail customers to choose to interact with that liquidity to seek larger-size executions and potentially better prices."

Despite its introduction of flash orders, BATS Exchange shares NYSE Euronext's concern about tiered markets. Ratterman notes that flash order types create a private market for an exchange's participants. He stresses that the consolidated tape has been a valuable reference point for three decades. "If we go down the path where that doesn't reflect the best quotes in the market, that's not a good outcome," Ratterman said. "And the amount of time the quotations are flashed and not provided to the consolidated tape shouldn't be a deciding factor."

NBBO Matches