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October 1, 2010

UBS Talks Market Structure Changes

By James Ramage

The equities markets, in the wake of May 6, seem ripe for change. But the industry better consider carefully any tweaks or alterations it plans to make, said two electronic trading executives at UBS. Such changes could have a dramatic effect on how the industry trades.

At a press briefing in UBS's office in Midtown Manhattan, Owain Self, who runs global algorithmic trading for the firm, and Charles Susi, who runs electronic trading in the Americas, outlined the pros and cons of some of the more prominent issues occupying regulators, market centers and broker-dealers. Among the issues they discussed were whether the maker-taker model at exchanges has been good for the markets and how to address the rising level of quote traffic away from the bid and offer.

Owain Self

Accusations, speculation and relatively esoteric concepts-such as "stub quotes" and "quote stuffing"-have surfaced as regulators and others have pored over market data to find causes for the turbulence on May 6. Self and Susi said the market structure's increased complexity would likely complicate any solutions.

For instance, the maker-taker model of fees and rebates at the exchanges has given budding market centers the ability to attract liquidity, innovate and grow, Self said. Without any pricing power, new market centers would be unable to compete with their larger or more established brethren, he added.

At the same time, the maker-taker model-and the significant spread between make rebates and take fees-has led to the rise of dark liquidity and flash orders. Traders explored different ways to avoid paying take fees, Susi said.

They cautioned against regulators forcing exchanges to eliminate maker-taker or requiring them to set "make" rebates and "take" fees at the same amount. Either would likely widen spreads and shrink volumes, Susi said.

"Competition and innovation have a positive net benefit for the markets," Self added. "But you need to have the right constructs around it that make sure it can work."

Self and Susi also discussed the Securities and Exchange Commission's review of the enormous amount of quote traffic away from the inside market to determine if the practice is harming the markets. SEC chairman Mary Schapiro has raised the subject of requiring a minimum "time-in-force" for quotations to ensure that large amounts of orders are no longer sent and then immediately canceled. The practice may affect price discovery, Schapiro said in a speech last month at the Economic Club of New York.

Self and Susi agreed. Something needs to be done to lessen the excess noise that so much message traffic generates, Self said. But, the two emphasized, excessive traffic has not affected UBS.

"At the end of the day, it's CPU power," Self said. "And the more it's used, the more it affects every other user, like any utility."

The question of a time-in-force solution, though, presents issues, Self said. Time-in-force means requiring quotes to be posted for a minimum amount of time. That minimum time cannot be so stringent that it thoroughly hamstrings traders, he added.

Instituting a time-in-force for quotes that lasts through the trading day-as in some emerging markets-would be too limiting, Self said. Conversely, posting an order for only 10 microseconds is ridiculous, he added.

"No one can react to that quote and respond to it in that timeframe," Self said, "so they obviously had no intention of actually trading. Their intention was something else."




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