The Securities Industry & Financial Markets Association asked the Securities and Exchange Commission in a letter last week to disapprove a proposal by the National Stock Exchange to adopt a new order type that would allow traders to bypass the quotes of the exchange’s two largest customers—the LavaFlow and Light Pool ECNs.
According to SIFMA, NSX’s proposed “Auto-Ex Only” order type “raises concerns” about its legality under Regulation NMS.
In particular, the broker-dealer lobbying group contends the proposal is “inconsistent with the underlying policy goals” of Rule 610 and 611 of Reg NMS.
Rule 611 grants protected status to automated quotations. Rule 610 bars exchanges from inhibiting access to protected quotes. The National’s proposal violates Rule 611 because ECN quotes are deemed automated under Reg NMS, according to SIFMA. The proposal violates Rule 610 because it allows the National to discriminate against the ECN’s quotes, SIFMA contends.
The National did not respond to a request for comment.
In February, the National proposed an “Auto-Ex Only” order type that would allow its customers to trade only against those quotes that are immediately accessible.
That would preclude trades against quotes from electronic communications networks such as Citgroup’s LavaFlow and Credit Suisse’s LightPool systems, because of time delays. On the National exchange, ECN’s operate under an “order delivery” mode, under which a notification of an order is sent and the respondent is given a fraction of a second to back away. ECNs are given “defined time frames” to send back confirmation of a complete fill, a partial fill, or instruction to cancel in full.
SIFMA is not the only industry player opposed to the National’s rule proposal. Peter Driscoll, an investment professional, advised the SEC to disapprove the proposal and conduct an examination into the legality of the NSX order delivery mechanism. Driscoll contends the mechanism is outdated and gives the ECNs an unfair time advantage.[[time advantage?]]
Both ECNs quote only on the National because the exchange is the only venue that operates an order delivery service. Under the service, the National notifies the ECNs of an incoming order, giving them a fraction of a second to accept or decline the trade.
Driscoll contends that fraction of a second equates to a “free option,” or an unfair time advantage similar to the 30-second window that New York Stock Exchange specialists had to fill or kill an order before automated trading became standard under Regulation NMS.
“The notion that an ECN needs extra time to determine whether or not their quote has already been executed on their own book is ludicrous in this day and age,” Driscoll told the SEC.
According to a National Stock Exchange filing, the ECNs are its largest quoting customers. In November, the NSX found that the ECNs accounted for 74 percent of the exchange’s message traffic, but only 9 percent of its trading volume. NSX trades about 25 million shares per day.
Representatives from Citi and Credit Suisse declined to comment.
