Managing regulation

The International Securities Exchange (ISE) announced this week that it is introducing a new order type called “Do not route” (DNR). Both “priority” and “professional customers” will be able to designate an order DNR so that it would not be routed to another exchange if the ISE is not posting the National Best Bid or Offer (NBBO).

According to the release, these orders will be executed at the NBBO in whole or part on the ISE order book only. If ISE is not posting NBBO, ISE members can match or improve on NBBO through a step up auction (flash) to trade with the DNR order.

The rule is a little troubling in that it seems conceived to protect customers from a potentially costly and misguided regulation.

The SEC is contemplating a ban flash orders. What flash orders do, in the options arena, is to allow the exchange to flash orders to their market makers allowing them to meet the NBBO before an order is routed away from that exchange. There is a benefit to end users with flash orders because there is a routing fee charged by away markets when an order is sent away from the home market and because several options exchanges have a maker/taker pricing function that charges the market taker (the one hitting the bid or lifting the offer) and paying the market maker. That is all fine and good but if flash orders are restricted in options, the SEC would be penalizing end users by forcing them into a more expensive trade.

As I said the new order type is troubling. Not that the ISE would come up with it but that they would expend innovative capital to offset a potentially harmful regulation. Perhaps it is not the first time this has happened but I am sure ISE would prefer working on a new contract.

Boris Ilyevsky, Managing Director of ISE options acknowledges that the threat of a ban on flash orders contributed to the need for DNR orders but added that there are other reasons as well. He points out that most high frequency traders execute trades bases on specific cost (and time) calculations and to have orders routed to an exchange with another pricing structure creates problems.

Do not route type orders have been in existence for a number of years in the equity arena.

It doesn’t seem too efficient for exchanges to be correcting the affects of potentially harmful regulations. Ever since the financial crisis of 2008—and really long before than—Congress have been looking for boogiemen to blame for the various financial messes we find ourselves in. The have attempted to blame speculators, market makers, high frequency traders, algorithmic traders and Wall Street in general. Everything and anything except themselves. Perhaps if there was as much thumb pointing as finger pointing there would not be the need for massive financial reform.


About the Author
Daniel P. Collins

Editor-in-Chief of Futures Magazine, Daniel Collins is a 25-year veteran of the futures industry having worked on the trading floors of both the Chicago Board of Trade and Chicago Mercantile Exchange. Dan joined Futures in 2001 and in 2005 he was promoted to Managing Editor, responsible for overseeing all the content that went into Futures and Dan’s incisive reporting and no-holds barred commentary places him among the most recognized national media figures covering futures, derivative trading and alternative investments.

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