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May 1, 2011

SEC Likely to Have 'Trade-At' Debate

By Peter Chapman

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  • SEC Likely to Have 'Trade-At' Debate
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The Securities and Exchange Commission is likely to initiate a debate on a potential new rule that could drastically crimp the activities of broker-dealers that trade against their own orders.

Known as "trade-at," the rule would force brokers who match their orders internally-rather than sending them to a public exchange-to make a choice. They could either fill the orders at significantly better prices than are available in the public market or route them away to the public market.

Janet Angstadt

Such a rule could wreak havoc with the businesses of wholesalers and operators of dark pools. It could increase their costs significantly and/or force them out of the business altogether. Just about every major broker internalizes a portion of its orders. For the wholesalers, the practice is a considerable part of their overall business.

"The SEC has a political issue with the original 'flash crash' report," Janet Angstadt, a partner with law firm Katten Muchin Rosenman, said yesterday at the annual conference of the New York chapter of the Security Traders Association. "It showed how the internalizers reacted that day. So we may see something from the Commission."

On May 6, 2010, within a 15-minute time frame, the major market indexes dropped 6 percent and then rebounded. The flash crash frightened American investors and led to cries of action from Congress. The SEC produced a study that, among other things, alleged the wholesalers dumped their sell orders on the public markets, thereby fueling the crash.

"I think the Commission has to do something about the internalizers," Angstadt said. "It may be a concept release. It will be interesting to see if it is a trade-at rule or something else."

The SEC first broached the idea of a trade-at rule in its January 2010 Concept Release covering market structure. At the time, the idea was derided as a non-starter by many in the industry. After the flash crash, however, the sentiment changed.

"The probability of a trade-at rule happening is much higher than it ever was," said Vlad Khandros, who heads market structure and government relations at Liquidnet, a block crossing network.

"There are some very senior congressional staffers asking us how this would work," Khandros told the STANY crowd. "The fact that they are thinking about it and asking us tells us something."

Others contend that a recent report from an advisory committee convened by the SEC and the Commodity Futures Trading Commission makes a trade-at debate inevitable. The committee presented the regulators with a list of 14 recommendations for preventing another flash crash. Among them was the implementation of a trade-at rule.

Khandros expects action by the SEC after it finishes up its work on the Dodd-Frank legislation-perhaps later in the year or next year.