Three options market-making firms have petitioned the Securities and Exchange Commission to adopt a rule that would require all block orders to be exposed to all market participants electronically.
Susquehanna International Group, Citadel Securities and the Chicago Trading Company argue in their petition that investors are often hurt when firms execute block orders—those of 500 contracts or more—on the floors of exchanges. That’s because the number of floor traders has decreased in recent years as electronic trading has taken hold.
With fewer traders on the floor, those orders that do hit the floor are subject to less price competition, thereby leaving the customer with an inferior execution, the dealers argue.
“Many of these larger-sized blocks are ‘auctioned’ out of sight and reach of the market professionals that provide the vast majority of the available liquidity in the subject option class,” the authors told the SEC. “This is unfortunate.”
Susquehanna, et al., want the SEC to require all exchanges operating floors to incorporate technology that broadcasts any block order hitting their floors out to the Street before a trade occurs. The greater level of competition that is expected to result would help ensure the customer gets the best price possible.
The three firms that authored the petition are all longtime options dealers that conduct a significant amount of their trading from their offices, rather than on the exchange floors.
Four of the options exchanges run open outcry auctions on physical floors: the Chicago Board Options Exchange, NYSE Amex Options, NYSE Arca Options, and Nasdaq OMX PHLX
Among the exchanges, the petition has its supporters and detractors. Gary Katz, president and chief executive of International Securities Exchange—which does not operate a floor—is in favor.
“It’s the right thing for the customer. It’s the right thing for the industry. And it’s the right thing for the market makers,” he told attendees at this year’s options industry conference in Las Vegas. “More and more of the business is being done away from them.”
Katz estimated that only 20 percent of market maker liquidity is available on the floor. The vast majority is being offered electronically from upstairs desks. So when a large order hits the floor of an exchange, dealers are not in a position to interact with it.
Steve Crutchfield, NYSE Euronext’s head of options trading, is skeptical of the need for such a change. “We don’t believe investors are being disadvantaged,” he told reporters at a media briefing. “Plus, there is no evidence that investors would receive a better execution experience if everything was broadcast electronically. So, it’s not obvious to us that there is a problem to which this is a solution.”
Others disagree. Tom Wittman, head of Nasdaq OMX Group’s options exchanges, told conference attendees that empty floors are no different from dark pools that permit institutional brokers to trade against their customers’ orders without fear of competition.
Wittman said he was a proponent of electronic trading but still frets that any move to force exchanges to broadcast their block orders could hurt the institutional brokers and others that risk capital when bringing those orders to the floor in the first place.
“Any rule has to strike a balance that would preserve liquidity by not deterring firms from deploying capital to facilitate a contra-sided order,” Wittman told conference-goers.
