June 1, 2000
Mr. Jonathan G. Katz
Securities and Exchange Commission
450 Fifth Street, NW
Washington, DC 20549-0609
Re: Amendment No. 4, File No. SR-NASD-99-53 (NASD SuperMontage Proposal)
"You don't see ECNs in Paris, Frankfurt, or Zurich or even in London, which is moving towards a much more efficient market".
Doug Atkin, CEO, Instinet Corporation; Traders Magazine, October 1999
Even Island ECN President Matthew Andresen admitted that ECNs "existing in small, rather illiquid pools of trading is not really a viable business model going forward."
Securites Industry News, October 11, 1999
Dear Mr. Katz:
It has come to my attention through a former colleague at the National Association of Securities Dealers, Inc. ("NASD") that my name was used in conjunction with a comment letter relating to the NASD "SuperMontage" proposal. I would like to take this opportunity to clarify my remarks which were made while I was an employee of The Nasdaq Stock Market, Inc. ("Nasdaq") and also to provide commentary to NASD's proposal from my new perspective as the director of investor relations at a Nasdaq-listed company.
I appreciate the opportunity to participate in the commentary on the proposed rule change by the NASD to develop a solution to the increasing problem of fragmentation in the Nasdaq marketplace; as have many interested parties such as the Island ECN, INC. ("Island"). It would appear, however, that in an effort to preserve their business franchise, Island has mischaracterized not only my remarks which were included in their comment letter, but also the benefits of the proposed NASD system.
I believe the SEC is well aware of the problems SuperMontage is looking to solve: market fragmentation, lack of transparency, and difficulty in accessing orders. By now, it is also equally clear the issues impeding the implementation of systems to remedy these problems: entrenched interests of market participants. It is my hope that the SEC sees beyond the continued objections of firms seeking to preserve their ability to profit based on market inefficiencies.
"Our intent, by improving trading interest information and enabling more automatic executions, is to reconsolidate some of the trading and liquidity that has been flowing to ECNs lately," says Robert Bannon, director of institutional services at Nasdaq. "SuperMontage would commoditize that information and ability, and will require ECNs to compete on a different issue, such as their user interface."
Investment Dealer's Digest - March 6, 2000 at page 21
(Quotation used in Island comment letter to SEC dated May 25, 2000)
My background at the NASD was one which lead me to represent the interests of investors and issuers rather than that of market participants in Nasdaq. As such, my opinions tended to focus on what is the best market structure for investors rather than how to maintain a structure which ensures member profitability. Clearly, the two concepts are usually at odds.
In the Investment Dealer's Digest article in which I was quoted in Island's comment letter, I was explaining the benefit of SuperMontage from the perspective of a buy-side firm. That is, one of the main reasons for the implementation of SuperMontage was to respond to the issues raised by institutional investors that trading interest in Nasdaq securities has become increasingly fragmented. SuperMontage attempts to correct that situation by consolidating market participant order information (best-priced orders and voluntary inclusion of orders way from the best price) in one place, where those orders are easily accessed via automated execution.
What's not to like? Apparently a lot, if you are one of the fragments of order information.
Market Fragmentation Issues
Problems resulting from market fragmentation have been plainly illustrated recently in varied comment letters to the SEC's recent Concept Release (File No. SR-NYSE-99-48, Issues Relating to Market Fragmentation). Please refer to my comment letter outlining my views in that regard: http://www.sec.gov/rules/sro/ny9948/bannon1.htm.
Nasdaq's SuperMontage proposal goes a long way towards improving the current state of fragmented trading in Nasdaq-listed securities. Specifically, I see three major benefits to the proposal:
The display of aggregated trading interest a three price increments on the bid and offer side of the market is a vast improvement over the current quote display. Moreover, the ability to have market participants display orders at multiple price levels would dramatically increase the visibility of available orders in the market. Similarly, the ability for market makers and ECNs to display non-attributable orders would improve the visibility of orders to all investors.
The ability to have automatic executions for some orders, and automated executions for other orders from some ECNs from a single source is a marked improvement over the current dual execution systems of SOES and SelectNet.
The SuperMontage execution algorithm that executes orders based on strict price and time priority will foster price competition among market participants. Moreover, by definition, ECNs that are charging access fees should loose their standing as their order is effectively an inferior price. Similarly, all else being equal, if one market participant accepts auto-ex and another does not, it would be advisable to give execution priority to the participant who is willing to automatically execute the order. Encouraging auto-ex is a good thing and something from which that the NASD and SEC should not back away.
While not perfect, the SuperMontage proposal is a definite move forward. I would encourage the SEC and NASD to continue to improve the basic foundation of SuperMontage after it is approved. Natural next steps would include providing direct sponsored institutional access, direct access by non-market maker NASD members, and the implementation of a trade through rule.
Even as currently envisioned, the SuperMontage proposal would mark the most dramatic improvement in Nasdaq market structure since the Order Handling Rules. While some institutional investors would like to see more aggressive changes made, the fact that these are steps in the right direction is indisputable.
In fact, when first proposed, SuperMontage had the support of several notable ECNs, including Instinet. Even Island's Mr. Andreson, admitted in an October 11, 1999 Securities Industry News article, "[in its present form, the proposed Nasdaq system is] a small step forward-a potentially positive step, but certainly not a revolutionary one."
I believe it is the role of the central market where securities are listed/traded to consolidate pre-trade information and allow an easy mechanism for the exchange of shares between buyers and sellers in a well-regulated environment. This is the value derived from the listing fee we pay each year to Nasdaq. To the extent that providing this function competes with other's business models or their profitability, then they are in the exchange business and should be prepared to add value beyond the role of the traditional exchanges.
Island and other ECNs have a great model: allow anyone to enter orders anonymously, display all orders to everyone, and provide executions to participants in the system based on price/time priority. Why shouldn't Nasdaq have the same opportunity to provide this functionality to its broader group of participants? If the only answer is that it competes with ECNs or other member owned systems, that is no reason not to move forward with changes that will make the Nasdaq market more efficient and less costly for investors.
Some of the more progressive ECNs have indicated there is little need for an "ECN" in an efficient market and that the rise of ECNs was a direct result of the inability of Nasdaq to provide a limit order file. I believe this is clearly the case, and these ECNs are the ones who will continue to add value and successfully compete. Others talk about the innovation that will be lost if Nasdaq is allowed to move towards providing ECN functionality. I think the SuperMontage proposal is exactly the kind of innovation that is needed in the Nasdaq marketplace. SuperMontage is a necessary step to make Nasdaq more competitive from a global perspective and more efficient for investors. Its approval will not threaten future innovation, just the future of those who fail to innovate.
I encourage the SEC to approve Nasdaq's SuperMontage proposal.
Robert Bannon, CFA
Director, Investor Relations
Net2000 Communications, Inc.
2180 Fox Mill Road
Herndon, VA 20171