As Flash Orders Fade, SEC Turns To 'Indications of Interest'
September 29 2009 - 12:41PM
Dow Jones News
With flash-order programs likely to be banned in their current
form, U.S. regulators are expected to soon turn their attention to
indications of interest, a practice some market participants see
raising similar issues around information leakage.
The Securities and Exchange Commission this month voted to
propose a ban on controversial flash-order routing programs, but
the proposal didn't address IOI programs, in which exchanges look
to execute customer orders on off-exchange trading venues.
However, following on public comments from James Brigagliano,
co-acting director of the SEC's Division of Trading and Markets,
regulators plan to examine IOIs amid continued investor
concerns.
"Actionable IOIs are simply a close cousin to the practice of
flash orders and need to be looked at simultaneously," said Andrew
Silverman, a managing director for Morgan Stanley.
All major U.S. stock exchanges offer order-routing programs
incorporating indications of interest from what are known as dark
pools, anonymous electronic trading venues used to execute big
stock orders privately. Some dark pools send IOIs to exchanges,
signaling available liquidity in a particular stock on the dark
pool's book.
IOIs have been incorporated into exchange order-routing
strategies that can function similar to flash-order programs -
unfilled stock orders are sent to a group of market participants,
who can act on the order before it is sent to another venue or
canceled.
There are clear differences between the two practices. Unlike
flash-order programs, IOI programs don't give dark-pool
participants a view of the full order, and they must signal their
available liquidity beforehand instead of being "flashed" on one
side of the trade.
For exchanges, programs incorporating indications of interest
can help avoid routing fees when unfilled orders are sent to other
markets, while hanging on to market share.
Overall, exchanges' IOI programs account for a tiny amount of
overall stock volume - less than 1% per day at the top four U.S.
stock trading venues - and customers can opt out of having their
orders checked against IOIs.
But the proliferation of high-frequency trading firms in the
last year has some Wall Street brokers worried that IOIs could be
used to front-run their orders.
They worry that dark pools backed by super-fast trading outfits
could send IOIs to get a look at unfilled stock orders, choose not
to act on them, and rush to trade against them before the orders
are completed in another market.
Exchange officials note that they police their IOI programs.
NYSE Euronext (NYX), which calls its program Arca Cloud, evaluates
the performance of its participants daily and, if one participant
consistently isn't following through on its IOIs, that participant
is sent to the bottom of the priority pile.
The best participants in Arca Cloud fill 90% of the orders sent
to them, according to NYSE Arca Executive Vice President Paul
Adcock, with 40% at the low end - a range he said compares to other
markets.
That percentage varies at electronic equity venues BATS Exchange
and Direct Edge. Brian Hyndman, head of transaction services for
Nasdaq OMX Group Inc. (NDAQ), said that, while his exchange
utilizes IOIs, orders never go to non-displayed venues before
public markets.
The SEC's examination of the IOI issue hinges on whether
indications of interest meet the definition of a quote, since they
can include the stock symbol, order size and a price.
If regulators decide to classify IOIs as quotes, they could
become subject to order-handling rules and made part of the public
centralized quotation system - and many dark pools may decide to
stop sending them, according to exchange officials.
-By Jacob Bunge, Dow Jones Newswires; 312-750 4117;
jacob.bunge@dowjones.com;
-By Geoffrey Rogow, Dow Jones Newswires; 212-416-2179;
geoffrey.rogow@dowjones.com