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8/19/2003 U.S. Securities and Exchange Commission Attention: Mr. Jonathon Katz, Secretary Re: File No. SR-NASD-2003-128 Dear Mr. Katz, I appreciate the opportunity to comment on Rule Filing SR-NASD-2003-128. The basic and fundamental foundation of the rule filing is to force any and all Alternative Trading Systems to conform to a standard of three-tenths of one cent as a quotation access fee for transactions conducted over NASDAQ's SuperMontage execution system. The support for this rule filing is Regulation ATS 301(b)(4), which states:
Obviously, it is the latter part of the regulation that is being used as support to justify the proposal. In that, the regulation states that exchanges or associations can establish rules designed to assure consistency with standards for access and that the alternative trading system shall not charge any fee to members that is contrary to or that is inconsistent with any standard of equivalent access established by such rules. I implore the Securities and Exchange Commission to apply sincere and independent thought before approving such a proposal. It is clear to anyone, who understands market structure, that this rule cannot be approved. It cannot be approved economically. It is not a standard solution in terms of collections. It is clear price fixing. It is anti-competitive and predatory. Its justifications are ridiculous and unsound, and it is destructive to the Order Handling Rules of 1997. Additionally, the NASD is over stepping its bounds by filing this for the NASDAQ, and the SEC has already established standards for access to quotations displayed on such national securities exchange. First, let's speak from an economical point of view. There is not an exchange or ATS on the planet that can operate profitably in a three-tenths environment. Examine the largest three: Instinet, Archipelago, and even NASAQ themselves are losing money quarter over quarter as prices get driven lower and lower. NASDAQ lost 49 million dollars last quarter. The three-tenths model is a losing model. No matter how unfortunate it is profit is essential. If the underlying business cannot turn profit, or stay breakeven, then that business will ultimately close. Closing market centers is extremely bad for the individual investor. Imagine what would happen to investor sentiment if the NYSE were to close. Second, let's discuss a fundamental crux of ATSs, and the members of the association. That is the issue of collections. No matter what the rate, some member of the association will not pay ATS fees. They just refuse to pay on "principle". This is not a problem that the NASDAQ has because should a member choose not to pay the fees assessed by the NASDAQ, then said member losses their membership and ability to trade. The fact that NASDAQ can assume a perfect collection rate and the ATSs will not have that same luxury, creates a dichotomy that cannot be ignored. Should this proposal pass; the goal of creating a standard will not be accomplished because of the variable of collections and collection rates thereof. This must not be ignored or glossed over as it speaks to the inability of the NASD's proposal to promote competition, a standard the Commission knows must be satisfied in order for rulemaking to pass. Before I continue in my next set of rationale, I seriously want the SEC to consider not only the ramifications of approving this proposal, but I want the SEC to consider approving this rule for a minimum of five to ten years. If the NASDAQ is willing to have their prices set at three-tenths of one cent for the next five to ten years, then NASD is submitting a proposal that is well thought out and serves the benefit of the individual investor. Should NASDAQ be unwilling to have their prices fixed at a three-tenths level, for the foreseeable long-term, then the motive of this proposal is clearly not to benefit traders, trading, and most important the individual. The motive needs to be questioned. With that said, let's move on to price fixing. By stating in the rule proposal that the NASD wants to set the standard at three-tenths of one cent, the NASD is openly admitting to price fixing. The second portion of ATS 301(b)(4) does state that the association can establish rules to assure consistency. However, this is not a green light to fix prices. There is no other industry that such actions would be tolerated. Consider for a second, that the airline industry mandated that all flights could not exceed three dollars. And that transportation companies could charge whatever they wanted for automotive or rail transportation, but because of three sentences in a rule, airfare is now restricted to three dollars. There is no difference between the analogy drawn above and the proposed rule. They are both absurd. Moreover, the motive for such maneuvering is clearly anti-competitive and predatory. Consider for a moment, being the NASDAQ and having cash reserves, and a client base larger than any of the competitors. The best way best way to monopolize or cannibalize the landscape would be to put the competitors in such a compromising situation that they are removed by attrition. Then, once the competitive landscape is cleared, resetting prices to a manageable level. This is called anti-competitive and predatory practices. So, as mentioned above, if the proposal is to be further considered, I challenge the SEC to not just pass this rule, but also put a minimum horizon on the rule of a 10 years and see if NASDAQ is still willing to go forward with the proposal. In the proposal, NASD states that the rationale for the proposal is so that traders can better project trading costs. Well, that is a very poorly thought out rationale. The argument stems from the fact that the contra, in SuperMontage, is unknown until such point that the execution is already over and then the order entry firms learns the contra and any applicable access fees. And because the order entry firm learns of costs post execution, projection of trading fees becomes impossible. Under the proposal this dilemma still holds true. Unless of course, NASDAQ is willing to waive their fee when the execution is provided against an ATS. The order entry firm does not know before hand if the execution is going to take place against an ATS, therefore, and because NASDAQ will take a piece of the action, the trader still couldn't project trading costs. The justifications for this proposal are totally and utterly unsound. Based on the proposal, NASDAQ is openly admitting that they do not like the fact that certain ATSs are charging more than the rate that the SuperMontage execution system charges. This disdain more than likely stems from complaints of other SuperMontage participants. NASDAQ can easily cure this dilemma without restricting fees. NASDAQ could very easily program the SuperMontage matrix so that participant A could choose the acceptable contra parties. This would enable certain SuperMontage participants the ability to route around any other participant. So the issue of particular ATS charging more than other ATSs and more than Montage is alleviated by the routing flexibilities. Admittedly, this could cause best execution problems, because a participant might be routing around a lone bid or offer and executing against an inferior price. It should be noted, however, that the SuperMontage "decrementation function" has the same underlying problem as the aforementioned solution. In that, should an ATS deny access to a participant for any reason, said participant could decrement the ATSs quotation thereby forcing the ATS (and SuperMontage itself) into a violation of limit order display and a potential best execution violation as a result of the decrement. So, the precedent has been set by the SEC to either ignore or not comprehend the consequences of rule proposals by the NASDAQ. However, best execution does not need to be wholly sacrificed. The SEC has two fantastic opportunities to streamline market efficiencies while keeping market regulations intact. First, the SEC could enact a rule that states the order entry firm must execute against the best available price regardless of market center. This would allow ATSs to retain flexibility and profitability, while giving NASDAQ the ability to cap their own costs on Montage. As it stands today, firms often trade around secondary market centers, namely ADF. This clearly violates best execution. Second, the SEC could and should deny this proposed rule and remove decrementation. That would allow the ECN to execute against valid contras while solving the issue of the market participants. Moreover, this proposal is nothing more than a semi-clever guise by SuperMontage to fool the Commission. SuperMontage has accessory charges that 1.) ATSs do not have and 2.) skew the mathematics, namely order entry and order cancellation fees. As an example, I place an order to buy 100 shares on SuperMontage; I cancel that order and replace the order again because the price moved. Then I get an execution on my 100 shares. I have incurred two order entry fees, one order cancel fee and an execution fee. A dime plus a dime plus another dime plus thirty cents for my execution equals sixty cents on my 100 lot, or six-tenths of a cent per share. Should this rule pass, then NASDAQ themselves would be charging rates that are inconsistent with the proposal. After all, six-tenths is not three-tenths. The SEC has issued some guidance that quotation access fee should not create a barrier for entry and that a potential solution would be to integrate such fees into the actual quotation. That solution is narrow because it harms the ATS and places the user, possibly an individual investor, at an artificially deflated quotation. A superior solution would be to allow the ATS to adjust the clearing entry by the value of access fee. This would allow the individual investor to place their order on the ATS, have the ATS display the order as is, and once an execution occurs, the ATS would create two separate reports, one report stating a no-clearing, tape only entry and the second being a clearing-only, no tape entry with the Exchange or ATS fee integrated into the entry. This solution solves the barrier of entry problem, solves the collection issues, and creates a palatable mechanism for all involved. Passing of this rule will force any profit seeking alternative trading system to remove their order flow off of the NASDAQ and seek a new exchange or association for quotation display. This is clear and obvious based upon the available quarterly financial data of the existing Alternative Trading Systems that are charging three-tenths. Removing order flow off of the association completely contradicts the order handling rules and opens up the possibility for the market collusion and manipulative practices that spurred the creation and implementation of the order handling rules in the first place. Alternative Trading Systems are good for all associations and better for individual investors. Should this proposal be enacted, the SEC would be going back on years of progress and giving in to pressures of market participants. Alternative Trading Systems have proven to be an asset to aiding the SEC in the creation and continuance of productive markets. Additionally, it should be brought to forefront that the NASD is overstepping their bounds and creating a severe conflict of interest by filing this on NASDAQ's behalf. This proposal clearly, solely benefits NASDAQ. There is supposed to be a distinct separation between the two entities and the NASD should step out of the middle. Of course, this won't happen because of the convertible notes that the NASD owns on the NASDAQ. NASD would never consider filing a proposal that said the ADF got to review all NASDAQ order flow before it was entered in to the SuperMontage system. By passing this proposal, the SEC would be allowing a conflict of interest so grand that it would appall most sensible people. Most importantly, the SEC has already established standards for access to quotations displayed on such national securities exchange or associations. That is the whole point behind the restrictive pricing nature of the No-Action letters. In conclusion, the reasons that this proposal cannot pass are too numerous to ignore. Simply, it cannot be approved economically, it clear price fixing, it is anti-competitive and predatory, its justifications are ridiculous and unsound, it is not a standard solution in terms of collections, it is destructive to the order handling rules of 1997, the NASD is over stepping its bounds by filing this for the NASDAQ, and the SEC has already established standards for access to quotations displayed on such national securities exchange. Thank you, Josef Schaible |