A rule change by the Chicago Board Options Exchange (CBOE) will affect the way some of its customers do business. On Jan. 8, CBOE implemented a new order type called “professional” orders. The new rule, approved by the SEC on Dec. 24, lets CBOE distinguish between public customer orders routed to CBOE, which are for non-professional, retail investors, and customer orders, which are for entities that have access to technology that allows them to professionally trade options in the same manner as a broker-dealer. This will put them further back in line. The International Securities Exchange (ISE) passed a similar rule filing last year.
George Ruhana, CEO of OptionsHouse, says “professional” customers caused two problems for CBOE and ISE before this rule went into effect. “First, they get priority at the top of the book, so they get filled before the market makers, when in essence they are making markets in much the same way. Second, these people do not pay fees. …they were free-loading in the CBOE model,” he explains.
Peter Bottini, vice president of trading at optionsXpress, says market makers were getting front-run by these very sophisticated clients, which lowered the revenue for the options exchanges. “Both ISE and CBOE are attempting to create a new category that helps the market makers to increase the reward they get by providing the liquidity by increasing their interaction with marketable orders.”
Bottini says the new rule should have no impact on retail customers and “it should increase interaction rates for market makers, which is good for market makers and good for the exchanges.”
Bottini disagrees with speculation that the new rule could decrease CBOE’s market share, or that it has already decreased ISE’s market share. He says expansion of the penny pilot program for NYSE Arca and large dividends in ETFs on Nasdaq OMX PHLX are what have impacted market share moves. “The Amex has had an increase in market share due to their new program in place where Goldman Sachs and Citadel own a significant chunk of the exchange,” he adds.
Ruhana says the rule might affect CBOE’s market share, “but I don’t know if the CBOE will care. The people making these trades were not paying for them, so does it really hurt the CBOE? It might go back to where it was. We had three months where these people could trade on the CBOE without these hindrances, but now the playing field is more level.”
CBOE, meanwhile, received SEC approval for its new exchange, C2, in late December. However, its launch is still on hold as the SEC makes decisions on whether or not to ban flash orders.
C2 would allow CBOE to experiment with different order types and fee structures that they wouldn’t want to use on their primary exchange. At a press lunch on Jan. 5, CBOE Chairman Bill Brodsky noted that any new regulations should be done in a “careful way.” He said CBOE is working closely with Congress and the SEC, but it was hard to say when many regulatory issues would be addressed, although he said that whatever gets done in Congress had to be done by the end of June. He also noted that Washington should stop demonizing high frequency trading. Although Washington is giving it a “dirty name,” Brodsky said high frequency trading actually has resulted in better, faster and tighter markets and leveled the playing field.