Latency matters — and embedded within this little trick forced by Reg NMS, is an agency conflict to boot: who’s really motivated to give me, the little guy, the best possible price??
The New York Stock Exchange next week will unveil a plan for further upgrading its automated execution system, Direct Plus, to enable more trades to be processed electronically. Earlier this year, the NYSE upgraded the system to handle orders of any size and to let investors use the system as often and as rapidly as they like; previously, Direct Plus was restricted to order sizes of less than 1,100 shares and investors had to wait 30 seconds before entering another order.
The NYSE plan is an effort to meet an SEC definition of “fast market” under trading rules proposed in February. That SEC definition would allow the NYSE to keep a large portion of its order flow. But the move to electronic trading will move business away from the floor. Friday was the deadline for comments on the watchdog agency’s Regulation NMS, or national market system.
The trade-through rule, which was first instituted in 1975, was designed to make sure investors got the best available price for their stock trade. A market system would not allow one customer to “trade through” an existing order without first matching that order. A customer’s order has to be routed to the destination with the best price at the moment the order is entered.
That sounds like a good idea on the surface, but the rule was enacted before electronic markets existed. Though it’s moving in the direction of automation, the NYSE is still at heart a manual system, with trades handled by specialists in particular stocks.
Nasdaq, however, is fully automated, so while a quote on a Nasdaq stock is currently executable, a quote on an NYSE stock is considered an indication and not a firm quote.
The trade-through rule as it stands means that if you place an order and the best possible quote is with a particular specialist on the floor of the NYSE, then your broker is required to route your order there. But a NYSE quote is not immediately executable–it’s more analogous to an advertised price than an actual price.
Specialists are allowed to hold an order for 30 seconds before either executing it or handing it off to another specialist—and during that time, the price may change.