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Tuesday, February 2, 2010

Equity Trader Alert #2010 - 6
NASDAQ OMX Reminds Firms About ACT Explicit Fee Functionality

Markets Impacted:

  • The NASDAQ Stock Market
  • Post Trade

Contact Information:

What you need to know:

  • Explicit Fee is a function that allows the application of fees between brokers and the collection of payment as part of the standard equity settlement cycle.
  • Explicit Fee functionality is available and supported as standard in NASDAQ’s ACT technology platform for both the FINRA/NASDAQ Trade Reporting Facility (TRF) and NASDAQ.
  • Explicit Fee related values are fully supported on NSCC’s OTC Contract Sheets for U.S. Equities.

What is Explicit Fee?

Explicit Fee is a transfer or application of mutually-agreed upon charges between two broker-dealers in advance of a transaction. This function allows a trade to be reported at the sale price, exclusive of the fee, and to be cleared at a price inclusive of the fee. The difference between the two prices represents the value of the agreed to Explicit Fee.

Explicit Fee functionality is allowed on certain clearing-eligible trades reported through NASDAQ’s ACT System, facilitating the application of a fee expressed on a per share basis between two broker/dealers who are party to the trade. The collection of those fees occurs as a result of the clearing and settlement process.

Why do firms use Explicit Fee?

Explicit Fee provides the following benefits:

  • Ease of use via the ACT System
  • Accelerated and assured fee collection via normal trade settlement
    • Explicit Fees are part of the total contract value submitted to National Securities Clearing Corporation (NSCC) for clearing, eliminating the need for time consuming and costly collection processes that generally occur on a 30-day or greater billing cycle.
  • Trade and clearing price transparency
    • Fees are displayed as trade details on the NASDAQ Workstation®/Weblink ACTSM Trade Scans.
    • Trade price and clearing price fields are displayed in ACT “Function G” format output messages.
    • Since February 2009, trade price, fee amount and final contract amounts are available discretely on NSCC OTC Contract Sheets and Machine Readable Output (MRO) files.

When might firms use the Explicit Fee function?

Firms could use the Explicit Fee function in the scenarios below:

  • Fee for execution
  • Fee on “riskless” flip
  • Remuneration on “Step-Outs”

For detailed examples, refer to the Explicit Fee Reference Guide on the NASDAQ OMX Trader® website.

How does the Explicit Fee work in practice?

The function allows parties to trade at one price and clear at another; the Explicit Fee is the difference between the trade price and the clearing price. The fee is expressed on entry and processed by the system as a value per share.

ACT can accommodate up to six decimal places in both the trade price and clearing price fields, allowing for sub-penny per share fee application.

Firms can realize collection of fees on a trade using this function as either the Seller or the Buyer, and as either the Reporting Party or the Counter Party.

  • When a Seller is realizing collection, the clearing price will be higher than the trade price.
  • When a Buyer is realizing collection, the clearing price will be lower than the trade price.

For detailed process information, refer to the Explicit Fee Reference Guide.

What types of trades are eligible for the Explicit Fee function?

Under The NASDAQ Stock Exchange® (NASDAQ®) rules, Explicit Fee is allowed on non-tape, or “riskless,” eligible transactions reported to ACT by members. This function is allowed on “Step-Outs.” FINRA members may also use Explicit Fee when submitting tape and non-tape reports to the FINRA/NASDAQ Trade Reporting FacilitySM (TRFSM), in accordance with FINRA Rule 7230A(h). FINRA members should refer to applicable FINRA rules and guidance for determining the circumstances under which Explicit Fee may be used. Members may also refer to the July 3, 2007 FINRA Member Alert for more information.

Note: NASDAQ rules provide for certain non-Last Sale (tape) trades to be submitted by members of the exchange on the ACT System, including “Riskless Principal,” “Riskless Agency” and “Step-Outs.” Use of these functions on ACT under NASDAQ rules does not answer any other Self-Regulatory Organization’s trade reporting obligations. For more information on these post-trade functions, refer to Equity Trader Alert #2008-84.

**There are several differences between Explicit Fee transactions executed via NASDAQ versus the FINRA/NASDAQ TRF. For more detailed information, participants should refer to the Explicit Fee Reference Guide on the NASDAQ OMX Trader website.**

What do I need in order to use Explicit Fee?

In addition to connectivity to ACT, agreements must be in place between each broker pair and their clearing firms in order to apply Explicit Fee. The Four Party Transaction Fee Agreement, as well as any Give-Up relationships intended are checked and enforced systemically by ACT. All agreements can be submitted via fax to NASDAQ Subscriber Services at +1 212 231 5426.

FINRA members must comply with FINRA Rule 7230A(h), including execution of the agreements specified in that Rule.

Brokers should check with their clearing firms or clearing/back office departments to make sure they are capable of supporting Explicit Fee functionality.

What is the cost of Explicit Fee via ACT?

The use of Explicit Fee is $0.03 per side (per trade per party).

Why is now a good time to update systems to use Explicit Fee?

Most firms will have some coding changes to make in order to comply with FINRA rule changes effective March 2010 as described in Equity Technical Update 2009-22; specifically upgrading systems to use Trade Input Message Function G and the corresponding unsolicited message (UM) series. Function G series Trade Entry and UM messages fully support Explicit Fee and its related fields.

Since Function G includes the Clearing Price field, this is an opportunity for firms to plan for the use of NASDAQ Explicit Fee functionality.

Where can I find additional information?

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