A comparative analysis of the US and EU retail banking markets - Wsbi
A comparative analysis of the US and EU retail banking markets - Wsbi
A comparative analysis of the US and EU retail banking markets - Wsbi
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■ The Quote Rule<br />
The objective behind <strong>the</strong> quote rule was to ensure<br />
that no significant pools <strong>of</strong> liquidity are hidden from<br />
<strong>the</strong> market. The Quote Rule requires market makers<br />
to make <strong>the</strong>ir prices public, which would ultimately<br />
enable wide dissemination <strong>of</strong> information in <strong>the</strong> form<br />
<strong>of</strong> a consolidated quote. By including all <strong>the</strong> quotes<br />
for securities into <strong>the</strong> consolidated quotation system,<br />
market transparency increased <strong>and</strong> investors became<br />
able to make a better informed investment decision.<br />
The rule was introduced in 1996 following severe<br />
deficiencies discovered on <strong>the</strong> NASDAQ market.<br />
The SEC accused NASDAQ <strong>of</strong> inadequate reporting<br />
<strong>of</strong> trading intentions which occurred due to <strong>the</strong> fact<br />
that under <strong>the</strong> NASDAQ rules <strong>the</strong> market makers<br />
were not obliged to incorporate limit orders into<br />
<strong>the</strong>ir quotations even if <strong>the</strong>se were better than <strong>the</strong><br />
best available price 212 . This was deemed as a serious<br />
lack <strong>of</strong> representative information, having in mind<br />
that <strong>the</strong> limit orders constitute two-thirds <strong>of</strong> all<br />
orders on NASDAQ 213 .<br />
The Quote Rule was introduced in 1975 <strong>and</strong><br />
complemented with two amendments in 1996.<br />
The first one broadened <strong>the</strong> scope <strong>of</strong> <strong>the</strong> rule by<br />
modifying <strong>the</strong> definition <strong>of</strong> OTC market maker, which<br />
came to include investment firms which act on<br />
<strong>the</strong>ir own accounts <strong>and</strong> which internalise orders 209 .<br />
This applies to all bids <strong>and</strong> <strong>of</strong>fers which <strong>the</strong>y ga<strong>the</strong>r<br />
from <strong>the</strong> market for any listed security when a<br />
quotation represents more than 1% <strong>of</strong> <strong>the</strong><br />
aggregate trading volume for that security. The o<strong>the</strong>r<br />
amendment allowed market makers to trade at<br />
better prices in certain private trading systems, called<br />
electronic communication networks (ECNs), without<br />
publishing an improved quote (provided that <strong>the</strong><br />
ECN itself publishes <strong>the</strong> improved prices).<br />
■<br />
The Order Display Rule<br />
The Order Display Rule requires <strong>the</strong> investment firms<br />
covered by <strong>the</strong> rule 210 to publicly display those limit<br />
orders received from clients which have better prices<br />
than <strong>the</strong>ir own prices 211 . Market makers have three<br />
options on how to comply with <strong>the</strong> rule: <strong>the</strong>y can<br />
display in <strong>the</strong>ir quotes <strong>the</strong>se customer limit orders<br />
that improve <strong>the</strong> price or add to <strong>the</strong> size <strong>of</strong> <strong>the</strong>ir<br />
quotes, <strong>the</strong>y can execute <strong>the</strong> limit order <strong>the</strong>mselves<br />
or <strong>the</strong>y can transfer <strong>the</strong> order to ano<strong>the</strong>r authorised<br />
market maker.<br />
According to a SEC study published some years after<br />
<strong>the</strong> implementation <strong>of</strong> <strong>the</strong> rule, it is estimated that<br />
<strong>the</strong> spreads in NASDAQ stocks had narrowed by<br />
30 percent after implementing <strong>the</strong> Order H<strong>and</strong>ling<br />
Rules <strong>and</strong> that more than half <strong>of</strong> <strong>the</strong> decrease in<br />
spreads was due to <strong>the</strong> Order Display Rule 214 .<br />
4.3.2.2.3 Market interconnection<br />
Numerous IT systems have been put in place over<br />
time to ensure that a customer is aware <strong>of</strong> <strong>the</strong> best<br />
available prices, although <strong>the</strong> existence <strong>of</strong> different<br />
types <strong>of</strong> trading venues hindered <strong>the</strong> creation <strong>of</strong> a<br />
single network. As securities were traded on separate<br />
<strong>markets</strong> <strong>and</strong> under separate rules for a long time,<br />
<strong>the</strong> need to link <strong>the</strong> <strong>markets</strong> did not exist 215 . Due to<br />
technological developments, by 1975 it became<br />
feasible to link nine <strong>markets</strong> by ITS computers, enabling<br />
traders to seek <strong>the</strong> best available price on all <strong>the</strong><br />
connected <strong>markets</strong>, however leaving all <strong>the</strong> unlisted<br />
stocks (including those traded on NASDAQ) out <strong>of</strong><br />
<strong>the</strong> NMS scope 216 . The practical implication <strong>of</strong> such<br />
segregation was that investors still faced certain risks<br />
as <strong>the</strong>y could not compare prices on all <strong>markets</strong>.<br />
209 Over The Counter (OTC) market makers trade securities over <strong>the</strong> phone, facsimile or electronic network instead <strong>of</strong> a physical trading floor.<br />
210 Specialists <strong>and</strong> OTC market makers.<br />
211 Limit order is an order to buy or sell a predetermined amount <strong>of</strong> shares at a specified price or better price.<br />
212 <strong>US</strong> SEC, «Report pursuant to Section 21(a)<strong>of</strong> <strong>the</strong> Securities Exchange Act <strong>of</strong> 1934 Regarding <strong>the</strong> NASD <strong>and</strong> <strong>the</strong> NASDAQ Market», August 1996.<br />
213 <strong>US</strong> SEC, «SEC Study Reveals Problems In Display Of Limit Orders», 4 May 2000.<br />
214 <strong>US</strong> SEC, «SEC Study Reveals Problems In Display Of Limit Orders», 4 May 2000.<br />
215 A clear distinction was traditionally made between <strong>the</strong> listed securities which are <strong>the</strong> ones that are traded on a recognised <strong>and</strong> regulated exchange, <strong>and</strong><br />
unlisted securities which are not traded on a regulated exchange (but for example those traded in <strong>the</strong> OTC market).<br />
216 The linked <strong>markets</strong> were American, Boston, Cincinnati, Chicago, New York, Pacific, <strong>and</strong> Philadelphia <strong>and</strong> NASD over-<strong>the</strong>-counter market. In turn, NASDAQ<br />
quotes are operated through ano<strong>the</strong>r type <strong>of</strong> specialised systems.<br />
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