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March 25, 2004 Mr. Jonathan G. Katz Re: SEC Release No. 34-48709 (File No. S7-23-03) Dear Mr. Katz: The staff of The NASDAQ Stock Market ("NASDAQ")1 respectfully responds to the Securities and Exchange Commission's ("Commission") proposing release regarding new Regulation SHO ("Proposing Release").2 The Proposing Release represents a much-needed reassessment of short sale regulation, including Commission Rules 3b-3, 10a-1 and 10a-2 under the Securities Exchange Act of 1934 ("Exchange Act")3 to address recent, dramatic changes in securities trading. NASDAQ applauds the thoughtful analysis and hard work evident in the Proposing Release, and we appreciate the opportunity to suggest several ways to improve upon it. NASDAQ fully supports the Commission's clear attempts to establish consistent short sale regulation across all markets. On several occasions, NASDAQ has voiced its view that consistent regulation of trading on all markets is a critical component of an effective national market system. Regulatory disparities exist in several areas, but are particularly acute in short sale regulation. The NASD has voluntarily adopted a short sale rule for NASDAQ securities that mirrors, to a great extent, SEC Rule 10a-1, to protect investors from the potential for manipulative short selling. At the same time, several exchanges that trade NASDAQ securities ("UTP Exchanges") do so with no short sale regulation, encouraging market participants to route short sale orders to their markets to avoid any regulatory restriction. As a result, "the level of regulatory protection an investor receives depends almost entirely on the market to which the investor's order is routed."4 NASDAQ believes that investors deciding where to risk their capital, and issuers evaluating their capital-raising opportunities, deserve a consistently high degree of protection from abusive short selling across markets. Regulatory arbitrage in short sale regulation is one symptom (among many) of the market fragmentation that the Commission and investors face today. In NASDAQ's view, proposed Regulation SHO ignores this fragmentation and assumes levels of centralization and accessibility that simply do not exist in today's markets. Two aspects of Regulation SHO are particularly unmanageable in a fragmented market: tying the Uniform Price Test to the consolidated best bid and exempting certain short sales executed during a locked market. In a fragmented market, the proposed Uniform Price Test may unnecessarily inhibit trading where, for example, a market that is not easily accessible is responsible for the consolidated best bid. Likewise, the efficacy of the locked markets exception to the Uniform Price Test depends upon the existence and enforcement of uniform inter-market locked and crossed rules that do not exist at this time. On February 26, 2004, the Commission acknowledged the existence and harmful effects of market fragmentation by proposing Regulation NMS, an ambitious attempt to address them. The adoption of the trade through and market access provisions of Regulation NMS are inextricably linked to the success of Regulation SHO. In order to succeed, both proposals must address the significant market structure differences between dealer and auction markets and between automated and manual markets. In this regard, consistent regulation demands recognition that market structures differ. The Commission is in the midst of exploring those market structure differences, and is on the brink of major market reforms. NASDAQ strongly urges the Commission to leverage that exploration by coordinating its consideration and adoption of Regulation SHO and Regulation NMS. We also urge the Commission to ensure that any modification to existing short sale regulation enhance, or at least preserve, our nation's equity markets as the most liquid, efficient markets in the world. In that vein, the Commission should not undermine the Congressional and Commission objective of allowing relatively unrestricted short selling in an advancing market, unless it has empirical evidence to support such restriction.5 Nor should the Commission disrupt the status quo to eliminate the longstanding exemption for bona fide market making on NASDAQ without empirical evidence that the market maker exemption harms public investors or is otherwise inconsistent with the Exchange Act. No such evidence is presented in the Proposing Release and NASDAQ respectfully submits that no such evidence exists. Mindful of these general principles -- the need for consistent short-sale regulation, the recognition that market structure differences require a tailored application of short-sale rules and the paramount importance of liquidity and efficiency -- NASDAQ suggests that the Commission modify the following aspects of the Proposing Release. (1) NASDAQ supports the Commission's goals in proposing the two-year Pilot for certain liquid securities. We suggest, however, that the Pilot be for one year and that the Commission strive to ensure that Pilot stocks are selected in a manner that affects all listing markets equally. (2) The proposed Uniform Price Test should permit executions at the bid in advancing markets. Requiring price improvement for all short sales in an advancing market contradicts the historical objectives of Rule 10a-1 and will unduly harm liquidity and efficiency in all markets. (3) The Commission should link Regulation SHO with Proposed Regulation NMS. The proposed Uniform Price Test and Locked and Crossed markets exceptions are impractical in today's markets unless and until the Commission can ensure that all markets are easily and equally accessible. (4) There must be an exception to the Uniform Price Test for bona fide market making to preserve the liquidity market makers provide by guaranteeing executions at prices prevailing in other venues, by working block orders, and by filling customer orders held on a riskless principal basis. (5) The proposed Uniform Price Test should only apply during normal market hours. There is no evidence that extending the Uniform Price Test to after hours trading would further any of the goals of regulating short sales. (6) NASDAQ supports the Commission's proposed locate and deliver requirements and believes that they are adequately designed to reduce naked short selling. We urge the Commission to ensure that those requirements apply equally to all stocks wherever they are traded. (7) The implementation of Regulation SHO must allow adequate time for firms and Self Regulatory Organizations ("SROs") to re-program their systems. Set forth below is NASDAQ's analysis of these aspects of the Proposing Release. 1. The Proposed Pilot NASDAQ agrees that a Pilot that temporarily suspends price regulation of short sales is a valid approach to studying the continued efficacy of short sale regulation on highly liquid securities. In our experience, many stocks have liquidity sufficient to resist attempts at a bear raid or other abusive practices that short sale regulation is designed to prevent. The NASD's rigorous real-time surveillance and enforcement of current laws prohibiting market manipulation, combined either with the NASD's existing affirmative determination and delivery requirements or with the Commission's proposed locate and deliver requirements, are sufficient to protect investors in Pilot securities. NASDAQ is concerned, however, about the absence of clear criteria for determining whether a security is eligible for inclusion in the Pilot Program. The Proposing Release states only that the Pilot would include one-third of the securities in the Russell 1000 Index, that the Commission would use an "objective method" to create two samples similar in average market value and average volume. This objective method should be firmly established prior to the start of the Pilot, such that the markets and investors can be certain that the criteria are applied consistently during the Pilot and that they will support the adoption of a meaningful rule when the Pilot ends. The objective method should consider not only the statistical significance of the samples, but also the effect on competition between listing markets and the overall implementation costs to the industry. In addition, NASDAQ believes that the proposed two-year period for the Pilot is too long. To minimize its impact on issuers and market participants, the Pilot should last only as long as absolutely necessary to produce meaningful data for studying the continued efficacy of short sale price regulation. A six-month or twelve-month pilot program should provide data on a variety of market conditions and enable the Commission to analyze the effect of the suspension of short sale price regulation in advancing and declining markets. We note that even after collecting the data, the Commission will need time to analyze it, and to prepare, adopt, and implement any resulting rule proposal. This could extend a two-year pilot another full year or more. 2. The Uniform Price Test Should Permit Short Sales At And Below The Bid In Advancing Markets NASDAQ applauds the Commission for recognizing the superiority of a short sale test based upon the last prevailing bid ("Bid Test") over a test based on the last transaction reported ("Tick Test"). We have long believed that the Tick Test currently used by Rule 10a-1 is flawed because last sale data does not reflect real-time market movements but rather asynchronous trades executed within a 90 second window of the actual execution. Therefore, unlike the Bid Test under NASD Rule 3350, the reference price used by Rule 10a-1 can be unrelated to the real-time movement of quotations in a security. This disconnect creates serious compliance difficulties in today's highly automated trading environment. NASDAQ is concerned, however, that the proposed Uniform Price Test under Regulation SHO will introduce unnecessary inefficiencies into the market. Undoubtedly, short sale regulation disrupts "efficient market" by suppressing valuable price discovery information based upon negative perceptions about the value of a security. This inefficiency is compounded, critics contend, because it is asymmetrical; there is no corresponding restraint of information based upon positive perceptions. Arguably, these inefficiencies are offset by investor protection benefits gained when short sellers are prevented from selling at successively lower prices and from accelerating a declining market by exhausting all remaining bids at one or more price levels. Congress and the Commission have long sought to balance these costs and benefits. Proposed Regulation SHO upsets this delicate balance by requiring that all short sales be executed at one penny above the prevailing national best bid regardless of the direction of the most recent change in the bid price. This aspect of the proposal ignores the Commission's own long-standing goal of permitting relatively unrestricted short selling in an advancing market when the potential harms of manipulative or abusive short selling are less pronounced. In fact, the Commission itself has worried that NASD Rule 3350 "may restrict non-abusive short-selling for lengthy periods of time when the bid is stable after a down-bid."6 Yet, the proposed Uniform Price Test under Regulation SHO would inhibit even more non-abusive short sales than NASD Rule 3350. The proposal would suppress negative price discovery information during periods when there are no or little investor protection benefits available. Regulation SHO would force short sellers to offer a higher price for the stock, reducing short sellers' willingness to enter limit orders thereby increasing the price paid by buyers and hindering the execution of displayed limit bids. Rather than limiting abusive downward price pressure, the proposed Uniform Price Test of Regulation SHO could foster upward price pressure by impeding short selling in a rising market. NASDAQ sees no economic rationale for extending short sale regulation in this manner, and the Proposing Release offers no empirical evidence demonstrating that it is necessary or appropriate. NASDAQ strongly urges the Commission to reconsider this proposal to limit short sales at any price in an advancing market. The Proposing Release presents no empirical evidence, just conjecture, that short sales below the bid during an advancing market cause any harm to investors. If the Commission nonetheless feels compelled to restrict short selling during an advancing market, NASDAQ supports the proposal of Citigroup Global Markets Inc., Goldman, Sachs & Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated, and Morgan Stanley & Co. Incorporated that short selling be permitted in each individual market at the best bid prevailing in that market, rather than limiting the reference point to the NBBO7. 3. Critical Market Structure Issues Must Be Addressed Before The Uniform Price Test And Locked And Crossed Markets Exception Are Adopted Proposed Regulation NMS represents a significant step forward for investors and NASDAQ looks forward to working with the Commission on the important market structure issues that proposal addresses. NASDAQ believes that Proposed Regulation SHO implicates many of the same market structure issues and that the two proposals should be linked. Specifically, the scope of the trade through rule and the adequacy of market access must be resolved before the introduction of a test based on the consolidated best bid. For NASDAQ securities, the NBBO is regularly different from the best bid that is reasonably accessible to many market participants. It is possible for a market that is relatively inaccessible to affect the NBBO and accordingly have an impact on short sale rule obligation in NASDAQ, a result that we believe is inequitable. For example, a short seller might feel compelled to route short sale orders to the market displaying the best bid because there is a higher likelihood of obtaining the minimum price permitted by the proposed Uniform Price Test. Yet, due to limited access, the bid at that market may become stale before the short sale order reaches it.8 Also, in the interim, another market could increase the consolidated best bid making that short sale impermissible. NASDAQ's enterprise wide network is synchronized to ensure that all firms receive quotation information simultaneously within our network. The same is not true across markets. Without adequate access and coordination, the potential for inadvertent violations of the proposed short sale regulation is high in the current fragmented environment. By moving to an NBBO-based reference price, the Proposing Release also compounds the existing problem of flickering bids. A fundamental problem with short sale regulation is the need to determine the minimum price at which executing a short sale is permissible. As predicted by numerous market participants, growth in trading volumes and the advent of decimal trading has exacerbated the long term problem of "flickering" that occurs whenever the reference price changes rapidly. The reference price can change multiple times each second, whether it is based upon quotations as is NASDAQ's rule or on trade reports, as is current Rule 10a-1. Flickering is problematic from a firm perspective because it hinders firms' ability to ensure compliance with the rule, even with the application of sophisticated order management systems. It also increases the cost and difficulty of the markets' efforts to enforce short sale compliance. The Proposing Release does not adequately address the problem of flickering because firms and markets will still need to determine a reference price for each short sale under the Uniform Price Test. Proposed Regulation NMS also intersects the proposed exception to Rule 201 of Regulation SHO that would permit broker-dealers to effect a short sale at a price equal to its posted offer when the market is locked or crossed, when consistent with its best execution obligations. The exception would not apply to any broker-dealer that initiated the locked or crossed market. This proposal will be completely unworkable in today's markets that are characterized by multiple linkages, rapid quote changes, and differing market models. NASDAQ has experienced the same difficulties in enforcing NASD Rule 4613(e), the "Trade or Move" rule that operates during the pre-market session on NASDAQ. NASDAQ suggests that the better approach is for the Commission to tackle directly the problem of locked and crossed markets, which it has proposed to do via Regulation NMS, and to consider the comments the Commission is about to receive on that proposal. Absent resolution of these market structure issues, the adoption of Regulation SHO will aggravate current inefficiencies in the equity markets. Application of the proposed short sale restriction in today's market structure would not achieve the underlying objectives of the Short Sale Rule. Accordingly, NASDAQ urges the Commission to resolve these pending market structure issues before it adopts wholesale short sale regulation revisions. 4. There Must Be A Market Maker Exemption For Competing Dealers With limited discussion and no empirical support, the Proposing Release concludes that the Market Maker Exception currently contained in NASD Rule 3350 is unnecessary under Proposed Regulation SHO. The analysis is flawed in several ways: (a) it summarily dismisses valid arguments that the Market Maker Exemption is beneficial in competing dealer markets; (b) it fails to demonstrate that retaining the exemption harms investors; (c) it fails to identify any benefits derived by eliminating the exemption; and (d) it improperly cites the need for consistency between market makers and specialists. (A) The Market Maker Exemption Improves Market Quality The Commission should acknowledge the substantial risks and responsibilities that market makers assume based on their obligations as market makers, including maintaining continuous two-sided quotes and sometimes providing liquidity by accumulating temporary, unbalanced long stock positions. The market maker exception supports this role by permitting market makers to adjust their inventory positions as the market demands rather than waiting for an up-bid to make a short sale. Second, as shown in a 1997 study by NASD Economic Research, market makers provide immediate stability by standing ready to buy stock. The proposal overlooks other significant ways that market makers provide liquidity, including by guaranteeing executions at prices prevailing in other dealers' markets, by working block orders, and by offering liquidity on a riskless principal basis beyond the number of shares displayed in their quote or in the held customer order. Market makers may also sell short against a rising bid in order to determine the strength of the buying pressure behind it. Only a small portion of this activity would be permitted by the proposed exception from the Uniform Price Test for executions required in order to comply with the rules of SROs. The Proposing Release cites as an example NASD Rule 2110 and Interpretive Material 2110-2, the "Manning Interpretation." NASDAQ believes that permitting an exception for compliance with Manning obligations is a necessary but not sufficient step. The concept of best execution extends far beyond the obligations imposed by Manning, although the full extent of firms' best execution obligations is not established clearly enough to provide a full understanding of the scope of the proposed exception. In addition, there are instances in which a market maker may not be required to sell short to fill a customer's order, but in which the market maker does so in order to enhance the execution of that order. (B) The Market Maker Exception Does Not Harm Investors The Proposing Release offers no evidence that the Market Maker Exception harms investors in NASDAQ securities. Instead, it simply expresses concern that "the exception may be being used by entities that are not actually engaged in bona-fide market making." Such entities, it is argued, are "relying on the exception to continuously sell short into the bid -- an activity that, as mentioned above, we find inconsistent with bona fide market making." Putting aside the many valid reasons discussed above that market makers sell short at the bid, the analysis is otherwise flawed. The Proposing Release does not assert, much less demonstrate, that many market makers engage in short selling outside the scope of bona fide market making. Even if, as the Proposing Releases assumes, a small number of market makers are abusing the Market Maker Exception, there is no justification for withdrawing it from those that use it properly. The more appropriate response is to identify violators and end the violations, not to punish the whole class. Current NASD Rule 3350 already offers this outcome: if a market maker does not satisfy the requirements for a qualified market maker for a particular transaction, it cannot take advantage of the exception. The Commission can include a Market Maker Exception and still ensure that market makers not avail themselves of that exception for activities outside the scope of their market making activities, such as speculative selling strategies. If the Commission adopts the proposed Market Maker Exception to the uniform locate rule, it will need to establish standards for identifying bona fide market making, and it can apply those same standards to the Market Maker Exception from the Uniform Price Test. In the proposed market maker exception to the proposed "locate" requirement, the Commission recognized the policy goal of facilitating the market-making role: "a narrow exception for market makers and specialists engaged in bona fide market making activities is necessary because they may need to facilitate customer orders in a fast moving market without possible delays associated with complying with the proposed `locate' rule." NASDAQ respectfully submits that before disrupting the status quo in NASDAQ trading, it is incumbent on the Commission to establish clearly that eliminating the Market Maker Exception will improve market quality or benefit investors. From a prudential perspective, there is a significant difference between stating that the status quo does not benefit investors and stating that a proposed change will benefit investors. The Proposing Release states only that Proposed Regulation SHO will not have its full positive effect if the Market Maker Exception continues to exist. NASDAQ questions whether this conclusory statement is sufficient justification to disrupt the status quo as dramatically as the Commission proposes, and we note that the Proposing Release cites no supporting evidence. In the absence of such evidence, NASDAQ suggests the more prudent course is to make incremental changes via Regulation SHO and then analyze whether the rule is having its desired effect. (C) Alternative 1: Primary Market Maker Standards If the Commission determines to disrupt the status quo by eliminating or modifying the Market Maker Exception, NASDAQ suggests that an alternative approach to simply eliminating the Market Maker Exception would be to identify and reward beneficial market making activity. Prior to the issuance of the Proposing Release, NASDAQ had been discussing a means of identifying market makers that engage in beneficial market making and separating them from those that do not. To address that issue, NASDAQ developed a new set of primary market maker ("PMM") standards that would reward market makers that provide significant liquidity or commit significant capital to the market. NASDAQ believes that the PMM standards were far superior to any that were in effect prior to 1997 when the PMM standards were suspended due to the implementation of the SEC Order Handling Rules, and superior to any that the Commission staff and NASDAQ have attempted to develop since that time. The PMM standards would measure liquidity provision and capital commitment in three ways, and a market maker would receive the PMM designation in a stock by meeting any of the three standards. The first standard measured whether a market maker provides liquidity via its quotation in the consolidated quote stream as evidenced by executions through an SRO execution facility. The second standard measured whether a market maker commits capital to the market by interacting with customer order flow, measured by analyzing trades between the market maker trades and customers over non-SRO systems, such as electronic communications networks. The third standard combined the first two to create a ratio of liquidity provision and interaction described in the first two alternative standards, as a percent of the market maker's total volume in that stock. A ratio closer to 1 indicates a heightened level of bona fide market making activity: providing liquidity or capital, maintaining accessible quotes, and facilitating customer orders. These standards had several virtues that previous PMM proposals lacked. First, they were simple and clear. Second, they encourage the provision of liquidity, which is particularly important in today's market. In a decimal trading environment, liquidity at the inside market has substantially thinned. The proposed PMM standards incent providing liquidity at the inside market. Third, the proposal would not reward firms that register as market makers simply to exploit the market maker exemption. This is one of many alternatives that the Commission can consider to distinguish between market makers that engage in beneficial market making and those that do not. NASDAQ would welcome the opportunity to resume working with the Commission and other SROs to analyze those alternatives. (D) Alternative 2: Defining Bona Fide Market Making NASDAQ also supports the recommendation of Knight Trading Group, LLC, that the Commission permit market makers to engage in short selling, but to limit that relief to transactions that constitute bona fide market maker trading activity. Knight proposed that the Commission define the terms "market maker" and "bona fide market making activity" to identify trading activity that would be eligible for the market maker exemption from several provisions of Regulation SHO. Specifically, Knight proposed the following definitions: · Market Maker. Would include any dealer that (i) is registered as a market maker in good standing under the rules of an SRO, (ii) holds itself out as willing to buy and sell the securities in which it is registered for its own account on a regular or continuous basis, and (iii) publishes competitive, continuous two-sided quotations in its registered stocks in accordance with applicable SRO rules. · Bona Fide Market Making Activity. Would include transactions by a market maker as part of a course of dealing consistent with its obligations under the market maker definition, including activity to position the market maker's inventory for anticipated order flow. The definition could identify transactions relating to speculative selling strategies or investment decisions or that are disproportionate to the needs of the market that do not constitute bona fide market making activity. NASDAQ agrees with Knight that these definitions would protect against short selling abuses about which the Commission is actually concerned without preventing beneficial market making unnecessarily. (E) The Absence Of A Specialist Exemption Is Irrelevant As discussed above, where market structure differences exist, consistency demands a tailored solution. Market makers may be treated differently than exchange specialists because of the inherent differences between a competitive dealer market and the auction markets. Dealers in NASDAQ securities do not have a monopoly-like position in the securities they trade. They have no informational advantage over any other dealer except to the extent that their own research activities, retail sales networks, or limit order files afford them one. Additionally, they have no ability to close their market because of sudden volatility or an order imbalance. Given these differences, treating market makers and exchange specialists differently is justifiable.9 The Commission has long recognized that, under Section 11A of the Exchange Act10, its mandate in shaping the National Market System is not to impose a single, overarching model of trading, but rather to foster competition among and between different markets of varying structures. Adopting a short sale rule that is based upon the specialist model or that disproportionately impacts competing dealers violates that important principle. 5. Exchange Traded Funds Should Be Exempt From Regulation SHO NASDAQ supports the request of the American Stock Exchange ("Amex") that the Commission provide relief from proposed Rule 201 of Regulation SHO for transactions in ETFs. In a letter dated August 17, 2001, the Commission granted an exemption from Rule 10a-1 for transactions in ETFs because the derivative nature of ETFs insulated them from the practices that SEC Rule 10a-1 is designed to prevent.11 NASDAQ is aware of evidence that the exemption has caused problems that would justify its non-continuation. Likewise, NASDAQ believes there should be an exception to the locate and delivery requirements of Regulation SHO for ETFs. Because ETF shares can be continuously created and redeemed in-kind, open clearing positions can be closed-out through the creation of ETFs and the delivery of securities to the clearing corporation. 6. The Proposed Uniform Price Test Should Only Apply During Normal Market Hours The Commission should limit short sale price regulation to the regular trading hours of the principal United States equity markets, currently 9:30 a.m. to 4:00 p.m. The Proposing Release cites no evidence that manipulation after hours is a problem or that price regulation of short sales in those markets is needed to prevent such manipulation. It is unlikely that a short seller would or could successfully drive down the price of a stock after hours since investors recognize the lack of information available during after-hours trading. If an attempt was made to artificially drive down prices, the Commission and the SROs already have tools to address such manipulation, although NASDAQ notes the dearth of after-hours manipulation cases. In addition, the locate requirement and other short sale provisions would apply to after-hours short sales even if no pricing restriction existed. Although NASDAQ first proposed its Short Sale Rule in 1994, it has purposefully limited the application of that rule to normal market hours because the conditions for after-hours trading do not support short sale pricing restrictions. Trading after 4:00 p.m. is limited and is often unrelated to existing quotes. In NASDAQ, market makers' obligation to post continuous two-sided quotes ends at 4:00 p.m. and there is limited liquidity in all stocks. Many after hours trades reflect a previously negotiated agreement to execute at a benchmark price, and are not indicative of the market price of the security at that moment in time. Extension of short sale price restrictions to after-hours trading could frustrate customers' choices and prevent them from obtaining executions based on regular trading hours prices. Thus, extending short sale price regulation to after hours trading offers only speculative benefits but imposes real costs on investors engaged in legitimate trading strategies, typically sophisticated investors. 7. Locate and Delivery Requirements NASDAQ again commends the Commission's effort to adopt uniform locate and delivery requirements for short sales. NASDAQ believes that the locate and delivery requirements proposed in Regulation SHO would largely address naked short selling and extended fails to deliver about which many investors have complained. To maintain that uniformity, NASDAQ urges the Commission to consider whether Regulation SHO would pre-empt SRO locate and delivery requirements and apply to all equity securities regardless of the market where they are traded. We believe uniform rules improve market efficiency, simplify regulatory compliance, eliminates regulatory arbitrage, and reduce overall costs imposed on market participants. We support the proposed exception from the locate requirement for market makers in connection with bona fide market making activities. As the Commission notes, this exception is necessary because market makers often "facilitate customer orders in a fast moving market without possible delays associated with complying with the proposed Locate Rule. We urge the Commission to reconsider whether short sales effected by market makers in stocks in connection with bona fide market making activities should be exempted from the proposed additional delivery requirements for short sales, which are targeted at securities in which there are significant failures to deliver. Without that exception, thinly traded stocks will become less liquid and more vulnerable to disorderly markets and short squeezes. If the Commission determines not to exempt market makers from the additional delivery requirements of Regulation SHO, we suggest that the Commission consider amending the proposal to increase the level of fails at the clearing agency (10,000 shares or more and at least one-half of one percent of the issue's total shares outstanding) that is applicable to them so that the delivery requirements would be triggered only where absolutely needed. This would limit the number of stocks whose liquidity would be impacted by market makers' market activity in inactive securities. 8. Implementation Should Be Gradual There are significant systems changes that would need to be made to implement the changes proposed by the Commission. NASDAQ and other market participants will need substantial time to implement these changes, as well as time to implement supervisory systems and procedures regarding the new regulatory framework. To the extent that it does determine to adopt any of the regulatory changes outlined in the Proposing Release, the Commission should provide a delayed effective date of at least six months so that market participants can prepare their computer systems and compliance frameworks to ensure compliance with what likely are to be significant changes. Conclusion We urge the Commission to reconsider its proposal to apply the Uniform Price Test to advancing markets, an approach that is contrary to long-standing guidance that short sales should be relatively unrestricted at such times. We also urge the Commission to act cautiously and preserve the Market Maker Exception contained in current NASD Rule 3350 for all competing dealer markets until it is clear that eliminating the exception will benefit investors. Finally, NASDAQ believes that the Proposing Release does not adequately address the problems of flickering bids and locked and crossed markets. NASDAQ is hopeful that, by taking a measured approach in light of the changing competitive landscape, the Commission and industry participants can craft a uniform and effective regulatory framework. Sincerely, Christopher R. Concannon
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