All customers are not created equal. The International Securities Exchange, after seeing no action for almost two years, is now a step closer to winning Securities and Exchange Commission approval to create, effectively, two tiers of options customers.
This development come as the ISE received a green light to allow high-frequency-trading customers to voluntarily have their orders treated as if they were broker-dealer orders for purposes of execution priority and transaction fees. The SEC granted that request in late March.
Boris Ilyevsky, head of options business development at the ISE, said an amended filing to mandate the ISE’s classification of professional orders is “approvable.” If it’s approved, he said, “the [current] voluntary-professionals designation becomes moot.”
In May 2006, the ISE petitioned the SEC to permit it to mandate that broker-dealer members identify orders from certain public customers as “professional orders.” Those customers that execute 390 or more trades per day (one trade per minute) would meet that definition. They would have their orders treated like those from broker-dealers with regard to certain exchange trading and transaction fee rules. The rule change was proposed to prevent high-frequency trading customers, such as some hedge funds and sophisticated trading shops, from competing with market makers without accepting the obligations imposed on market-making firms, while at the same time benefiting from the execution priority and lack of transaction fees granted to public customers.
“If the ISE can force a professional-order designation on someone’s trades, it can change behavior that is harmful to its market-maker participants,” said Kevin Fischer, manager of block execution services at Interactive Brokers. “If the SEC approves the mandatory language, that gives the ISE the ability to get rid of a segment of trader that they don’t value and that is potentially harmful to their market-making participants.”
The ISE’s filing to create the mandatory classification was published for comment by the SEC on February 1, after a 20-month delay, and after the ISE in January filed an amendment to the original request, further clarifying its plans. The SEC’s objection over the intervening months has stemmed from its desire that exchanges not unfairly discriminate against customers. The ISE has argued that these non-broker-dealer traders engaging in rapid, high-volume trading are not, in fact, customers as that category has historically been understood.
Ed Tilly, vice chairman of the Chicago Board Options Exchange, said his exchange is “watching the ISE’s [mandatory] filing process closely.” He noted that the rule change would entail obligations on order-sending firms to track when customers reached the volume threshold. “We are interested to see this [get] approved,” he said. “We like the idea but must make sure it’s practical.”
