The National Association of Securities Dealers' effort to keep its proposed integrated trading system under wraps, until details were filed for public comment on Dec. 22, riled a well-known electronic communications network (ECN).
"The general NASD membership had not been allowed to hear the proposal ideas beforehand," said Kevin Foley, manager of equity-trading applications at Bloomberg Tradebook, the ECN launched 12 months ago by Bloomberg L.P. Bloomberg is an NASD member firm.
"I am finding out about NASD plans as a member of the general public," Foley added.
The proposed trading platform, originally billed Next Nasdaq, could radically transform Nasdaq's current system. But full details are sketchy, as the trading community has yet to interpret the full scope of the NASD's 119-page filing.
As envisioned by the NASD board of governors, the new system aims to integrate SOES and SelectNet and to provide a voluntary central limit order file.
Some ECNs, meanwhile, worry that the proposed facility could turn into a mandatory, centralizing network that somehow sets the inside market.
Foley worries that the new system could replicate an earlier but unsuccessful Nasdaq plan NAqcess to launch an integrated system.
Foley said that if the market is forced to protect the file and not allow trading around it, the system could unfairly hurt competition.
"It would be unfair if all ECN orders had to go to the book for execution," Foley added. "You can't prevent competition."
However, if the Nasdaq system functions as an ECN, Foley said, it would be a welcome competitor in the marketplace.
Island, an SEC-approved ECN used by day-trading firms, but unpopular with market makers, is also concerned.
"It is hard to say how the new system will look like until it is filed," said Josh Levine, president of New York-based Big J. Securities, prior to the December filing. "If it is fair, that will be great. But if it unfair, it could be awful."
Levine added that an equitable system, in his view, would immediately match customers' orders under certain parameters, and would not shut out rival systems. "Any system just needs to keep a level playing field," he said.
Outlines
Several people close to Nasdaq's Quality of Markets Committee, who were consulted on the NASD's proposed platform, provided some outlines of the system, but were unclear about substantive elements.
Based on accounts from these sources, broker dealers will have access to the system for the execution of customer orders. The current plan allows broker dealers to sponsor an institutional client's direct access to the new system. Under this arrangement, the system would operate on a price-time priority, interacting with any quote in the book.
Nasdaq considered a ten-second delay rule for orders entered into the system, apparently as an effort to curb gaming or market manipulation on ECNs. With the delay rule, an order placed in the new system could not be canceled until ten seconds had elapsed.
SOES Bandits
Another suggested measure could crimp abuses by so-called SOES bandits who enter small orders for automatic execution. Under this proposal, a market maker would have up to 30 seconds to execute or decline an order of up to 1,000 shares if that market maker has already traded that stock at the current posted quote-size.
If the market maker declines to execute the small order, the market maker's quote would have to be adjusted. If the quote was not adjusted within 30 seconds, the order would be automatically executed. Conversely, a market maker who had not traded at a current quote could not decline an order of up to 1,000 shares.
The new Nasdaq system would track whether market makers have traded at their current quote-size, and automatically execute orders as appropriate. However, if the market makers' current quote-size is 5,000 shares or more, this rule would not apply.
Some experts question a 30-second delay rule, suggesting it seems to technically violate the firm-quote rule.
Disapproval
Meanwhile, many Nasdaq market makers have voiced their disapproval of a Nasdaq execution system. Foley offered his sympathy.
"I think NASD members question why a regulator is getting into a competitive marketplace," he said. "We at Bloomberg can't be afraid of competition, but will the competition be fair?"
A member of the Quality of Markets Committee, who requested anonymity, agrees.
"Should a self-regulating agency be competing with ECNs?" the committee member asked. "Does the NASD have the technology to pull this off?"
