September 5, 2007
While we believe that the NASD's proposal for tiered price improvement standards is sensible, we have noted inconsistencies, likely unintended, in their application. These inconsistencies are noted in low priced securities where trades and orders exist in more than one tier. For example, consider the first two tiers. The filing states that:
"1) For customer limit orders priced greater than or equal to $1.00, the minimum amount of price improvement required is $0.01 for NMS stocks and the lesser of $0.01 or one-half (1/2) of the current inside spread for OTC equity securities
2) For customer limit orders priced greater than or equal to $.01 and less than $1.00, the minimum amount of price improvement required is the lesser of $0.01 or one-half (1/2) of the current inside spread."
Suppose the inside market is .996 to 1.00 in a NMS stock. One-half of the spread would therefore be $.002. If a sell trade were effected at .996 then sell orders priced below .998 would be protected. Sell orders priced from .998 to but not including 1.00 would not be protected because the price improvement required is half the spread, in this example $.002. Sell orders priced from 1.00 and less than 1.01 would be also protected because for orders priced at $1 or above the minimum amount of price improvement required is $.01. So amazingly, and likely not intentionally, a sell order of 1.00 would be protected but a better priced sell order of .998 would not be protected.
We have found the same apparent inconsistency evident at other tiers as well.
The filing states that: "4) For customer limit orders priced less than $.01 but greater than or equal to $0.001,
the minimum amount of price improvement required is the lesser of $0.001 or one-half (1/2) of the current inside spread"
Suppose the inside market is .0088 to .0288. One half of the spread is .01 and for orders priced less than one cent the minimum required price improvement is the lesser of one half the spread or $0.001, in this case the standard would be $0.001. If a sell trade were effected at $0.0088 then sell orders priced less than $.0098 would be protected. Sell orders priced $.0098 to but not including $.01 would not be protected. Sell orders priced from $0.01 to less than $0.0188 would also be protected because orders priced greater than or equal to $.01 and less than $1.00, the minimum amount of price improvement required is the lesser of $.01 or one-half the inside spread and in this example one-half of the inside spread is $.01. So amazingly, and likely not intentionally, a sell order of $.01 would be protected but a better priced sell order of $.0098 would not be protected.
We would like to suggest that the NASD consider basing the minimum price improvement standard on the trade price rather than the order price. As an alternative to tiers the NASD may want to consider usign a rounded percentage of the trade price to determine the minimum price improvement required. We believe these alternative methods of determining the minimum price improvement required would address the inconsistency described above.
In addition the filing states:
"7) For customer limit orders priced outside the best inside market, the minimum amount of price improvement required must either meet the requirements set forth above or the member must trade at a price at or inside the best inside market for the security."
It is not clear whether the choice described above may be elected on a trade by trade basis, whether members must elect the methodology based on a rationale such as determining the least amount of price improvement, or whether members must choose a methodology and use it consistently. We believe it would be helpful to have this requirement clarified.
Thank you for providing us this opportunity to comment on the filing.