Orders Executed in a Riskless Principal Capacity

October 21, 2002

 

NASD Provides Updated Guidance on OATS Reporting Responsibilities for Orders Executed in a Riskless Principal Capacity by Both Non-market Makers and Market Makers.

Background

 

Pursuant to NASD Marketplace Rules 6954(d) and 6955, all member firms must record and transmit to the Order Audit Trail System (OATS) specified information about, among other things, the execution of customer orders. At the inception of OATS, NASD allowed a limited exception to this rule for non-market makers effecting riskless principal trades. (See original OATS Reporting Technical Specifications, Scenario 4.4.3 which specifies that non-market makers need only submit to OATS a New Order and a Route Report, not an Execution Report, in connection with a riskless principal trade.) Since the inception of OATS, however, there have been a number of changes in both the Automated Confirmation Transaction Service ("ACT") and the OATS system relating to the reporting for riskless principal trades by market makers. To provide for consistency in the OATS reporting of riskless principal trades, and to ensure the creation of a complete audit trail for customer orders, NASD is changing its previous guidance and will require non-market makers to submit Execution Reports to OATS for riskless principal trades.

 

In February 2001, the trade reporting rules were amended to eliminate the need for market makers to report to ACT the execution of the customer leg of a riskless principal trade. See, Notices to Members ("NtM") 99-65 and 00-79. NASD pointed out, however, that market makers should continue to report such executions to OATS. NtM 99-65, Question 10. Currently, market makers have alternative approaches when effecting riskless principal trades. Under the "original approach," described in NtM 99-65, market makers use the "R" capacity code to report to ACT the interdealer leg of a riskless principal trade, and submit to OATS both a New Order Report to reflect the receipt of the customer order and an Execution Report to reflect the execution of the customer order. The OATS Execution Report contains a Reporting Exception Code of "R" to indicate that there is no corresponding trade report in ACT.1

 

Under the later developed "alternative approach," described in NtM 00-79, market makers can make a clearing only or non-tape, non-clearing entry to ACT in instances where the market maker did not report a capacity of "R" to ACT for the initial leg of a riskless principal trade.2 Under this alternative approach, market makers submit to OATS an execution report that matches the ACT entry by including the Branch/Sequence number on the OATS report. See, OATS Frequently Asked Question No. C64.

 

Amended OATS Reporting Requirements For Riskless Principal Transactions

 

To provide for consistency in the OATS reporting of orders executed in a riskless principal capacity by both market makers and non-market makers, and to ensure that a complete audit trail is created from order receipt through execution, NASD is changing its previous guidance regarding the reporting of orders executed in a riskless principal capacity by non-market makers. NASD will now require that riskless principal transactions be reported to OATS in the same manner by both market makers and non-market makers. Specifically, riskless principal transactions must be reported to OATS in the following manner:

 

Members Using the "Original Approach"

 

Members should submit a New Order Report reflecting receipt of the customer order and an Execution Report to reflect the execution of the customer's order. No reports should be submitted to OATS for the principal "street side" of the transaction. This applies to both market makers and non-market makers.

 

For the customer leg of the transaction, if a firm uses the "original approach" for complying with NASD Trade Reporting Rules for riskless principal transactions, as explained in NtM 99-65, then the firm should populate the Reporting Exception Code field of the OATS Execution Report with "R" (Riskless Principal Transaction). This code indicates to the OATS system that there is no corresponding trade report in ACT and it will not attempt to match the Execution Report to a trade report.

 

"Alternative Approach"

 

As with the "original approach", members should submit a New Order Report reflecting receipt of the customer order and an Execution Report to reflect the execution of the customer's order. No reports should be submitted to OATS for the principal "street side" of the transaction. This applies to both market makers and non-market makers.

 

If a firm reports a non-clearing, non-tape or clearing only report to ACT, the "alternative approach" for complying with NASD Trade-Reporting Rules for riskless principal transactions, as explained in NtM 00-79, then the firm must populate the Branch/Sequence Number field on both the OATS Execution Report and the ACT regulatory report in order for the OATS system to match the OATS execution to the related ACT report.

 

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1 At the time NASD published NtM 99-65, market makers used the reporting exception code "M" to report riskless principal trades to OATS. Subsequently, the reporting exception code "R" replaced the "M." See Regulatory & Compliance Alert, vol. 15, No. 16 (Spr. 2001).

 

2 Instances where market makers might opt for this approach are listed in NtM 00-79.

 

Last Updated: 10/21/2002