Mathisson: Institute ‘Universal Order Types’

When Dan Mathisson took his Series 7 exam in 1992 to become a broker, there were half a dozen order types: the market order, the limit order and a few others.

Now, BATS Global Markets says it says it has 2,000 “unique order type combinations” on its two national exchanges. And other exchanges keep coming up with additional order types to compete and take order flow away from each other.

Mathisson, now the head of U.S. equity trading at Credit Suisse, says the Securities and Exchange Commission could resolve the problem by mandating a handful of “universal order types” that all exchanges would offer.

The only new type of order that an exchange likely would need beyond those in existence in 1992, he said, would be a “pegged” order type that would allow a buy or sell order to be tied to the movement, say, of the midpoint between the national best bid and offer. That’s needed, he said, because of how fast technology now allows prices to move. Pegging would reduce the amount of cancellations and re-creation of orders that might be necessary.

Mathisson’s comments came at a discussion of self-regulation in securities markets held by the Securities Industry and Financial Markets Association Wednesday in New York.

Credit Suisse operates a pool of buy and sell orders called Crossfinder that allows anonymous trading and a Light Pool that is its version of a lit venue, with openly displayed prices like an exchange. Light Pool caters to long-term investors, such as mutual funds.

But Credit Suisse, as a broker, can’t post its quotes directly to the consolidated feed, he noted. Instead, the firm has to send them to the tape through the National Stock Exchange.

His firm, he said, would be interested in turning its alternative trading systems into exchanges. But is blocked by a limit on how much ownership a broker can take in an exchange, currently 20 percent.

He suggested that a unified set of rules be created for what he called “market centers,’’ that would replace the separate set of rules that govern exchanges and alternative trading systems.

These “ATS-plus, Exchange-minus” centers, as Davis Polk & Wardwell partner Annette L. Nazareth characterized them, would level the playing field between brokers and exchanges, Mathisson said, which have become contentious.

Roughly 35 percent of all equity trading now occurs off exchange. And exchanges are campaigning the SEC to help bring it back.

Exchanges have increasingly turned to the Financial Regulatory Authority to take over the examination of their members, a critical part of their “self-regulatory” responsibility, noted Thomas McManus, chief regulatory officer at Direct Edge. Once Direct Edge hands that off to FINRA, roughly 90 percent of that facet of ‘self-regulation’ will be handled by FINRA, even if the decisions made on recommendations from those examinations remain the responsibility of exchanges.

In any event, the regulatory function could be jobbed out, to an independent authority. And whether brokers or existing exchange companies were operating ‘market centers,’’ they each would be responsible for their operations and the liability that comes with failures, such as a breakdown in a stock offering, Mathisson said.

Should that liability lead to a failure of a market center, “market forces would fill the void,’’ said Michael J. Masone, director and counsel at the equities division at Citigroup Capital Markets.

In the initial offering of Facebook stock last year, the Nasdaq Stock Market had regulatory immunity, for instance, in paying out for all the losses engendered by faulty pricing of those shares.

UBS, another large Swiss broker, contends it paid out $350 million, as a result. Nasdaq’s compensation plan, for all affected parties, only calls for a payout of $62 million.

Removing that immunity and creating a single set of rules would make it possible to reduce complexity.

The permutations on order types would, for instance, go into algorithms that market makers, brokers or trading firms used, Mathisson suggested. And you wouldn’t even need order type approval, if there were one set of rules, privileges and economics under a “market center” system. And a handful of “universal order types” mandated by that set of rules.

“You don’t need 150 order types at a market center,” Mathisson said.