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Friday, September 24, 2010

Equity Regulatory Alert #2010 - 13
NASDAQ OMX Files Enhancements to Market Maker Quotation Obligations

Markets Impacted:

Contact Information:

What you need to know:

  • In concert with other U.S. equity markets, NASDAQ OMX® has filed rules with the Securities and Exchange Commission (SEC) to enhance minimum market maker quotation obligations on The NASDAQ Stock Market® (NASDAQ®) and NASDAQ OMX BXSM (BXSM).
  • For each National Market System (NMS) security in which an exchange member is registered as a market maker, the member will be required to maintain a two-sided trading interest continuously during regular market hours at prices within certain parameters expressed as a percentage reference from the National Best Bid or Offer (NBBO) as applicable.
  • These proposals appear on the SEC website and are open for a standard comment period. The effective date after approval has not yet been determined.

What is changing?

NASDAQ and BX propose to adopt rules to enhance minimum quotation requirements for market makers. Under the proposal, NASDAQ and BX will require market makers for each stock in which they are registered to continuously maintain a two-sided quotation within a designated percentage of the NBBO.

These enhanced market maker quotation requirements are intended to eliminate trade executions against market maker placeholder quotations traditionally priced far away from the inside market, commonly known as “stub quotes.” They are also intended to augment and work in relation to the single stock pause standards already in place on a pilot basis for stocks in the S&P 500, Russell 1000, and specified Exchange Traded Funds (ETFs). The rule covers all NMS stocks.

How will the rule requirements work in practice?

Quotations to meet a market maker’s two-sided obligation must be published on the exchange at a price no greater than a certain percentage, called the “Designated Percentage” in the rule, from the NBBO (National Best Bid for BUY quotes and National Best Offer for SELL quotes). Once published, the quote is allowed to rest as the NBBO moves until such time as the market maker quote reaches a certain percentage from the NBBO, called the “Defined Limit” in the rule, at which time the market maker must update its quote by publishing a new quote, or identifying an existing quote within the designated percentage to satisfy the two-sided obligation.

Market makers may enter additional quotes in the NASDAQ or BX books at any price, either as attributable or anonymous, displayed or hidden.

Quotations to meet a market maker’s two-sided obligation must have the following characteristics:

  • Two-sided
  • Continuous throughout Regular Market Hours
  • Be identified to the exchange as satisfying the requirement
  • Displayed
  • At least one round lot
  • Initially published no further than the Designated Percentage from the NBBO
  • Drift no further than the Defined Limit from the NBBO before being republished

What are the “Designated Percentage” and “Defined Limit” values?

The designated percentage and defined limit values are the reference distances from the NBBO that a market maker’s compliant quote must be initially published, and remain within after publish, respectively. In the event that there is no NBBO present, the Last Consolidated Sale Price will be the price from which the reference will rely.

These parameters are derived when applicable from the trigger percentage from the Single Stock Trading Pause rules in place throughout the market for certain securities. For times of the regular trading day when trading pause rules aren’t effective, i.e. 9:30-9:45 a.m, Eastern Time (ET) and 3:35-4:00 p.m., ET, and for securities not covered by those rules, the Market Maker Quotation rule assumes a percentage in order to derive the designated percentage and defined limit.

Today, Single Stock Trading Pause rules cover S&P 500, Russell 1000, and specified ETFs and for all have a trigger percentage of 10%. The Designated Percentage is defined as the trigger percentage less two (2) percentage points, in this case 8% from the NBBO. The Defined Limit is defined as the trigger percentage less one-half (1/2) percentage point, in this case 9.5%.

For the first fifteen and last twenty five minutes of the trading day when the single stock trading pause is not effective for securities it covers, the designated percentage calculation assumes the trigger percent to be 22%. For securities not covered by single stock trading pause rules the designated percentage calculation assumes a trigger percentage of 32%.

Securities Covered by Single Stock Trading Pause (10% Trigger)
All other NMS Securities
Designated Percentage
(Initial Publish)
Defined Limit
(Drift)
Designated Percentage
(Initial Publish)
Defined Limit
(Drift)
Pre Market
N/A
N/A
N/A
N/A
9:30 - 9:45
20%
21.50%
30%
31.50%
9:45 - 3:35
8%
9.50%
30%
31.50%
3:35 - 4:00
20%
21.50%
30%
31.50%
Post Market
N/A
N/A
N/A
N/A

Will NASDAQ OMX offer any system functionality to assist firms in meeting these obligations?

Yes. For each issue in which a market maker is registered, the system will automatically create a quotation for display to comply with this rule. System-created compliant displayed quotations will be allowed to be published at the Designated Limit and allowed to rest until the percentage from the NBBO either increases to meet or exceed the Defined Limit, or decreases to within four (4) percentage points of the NBBO, at which time the system will republish the quote at the Designated Limit.

As the system allows for multiple attributable quotations by a market maker in an issue, quotations originally entered by market makers shall be allowed to move freely towards or away from the NBBO, as appropriate, for potential execution.

In the event of an execution against a system created compliant quotation, the market maker shall have its quote refreshed by the system on the executed side of the market at the applicable Designated Percentage away from the then National Best Bid (Offer) (or if no National Best Bid (Offer), the last reported sale).

Where can I find additional information?


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