NASD Rules 6950-6957 (OATS)

Application of the OATS Rules to directed orders for certain foreign equity securities.



December 19, 2007

 

Mr. Julian Rainero
Bracewell & Giuliani LLP
1177 Avenue of the Americas
New York, NY 10036-2714

Re: NASD Rule 6952 – Order Audit Trail System (“OATS”) Rules

Dear Mr. Rainero:

This is in response to your letter dated October 22, 2007, in which you request interpretive guidance on behalf of G-Trade Services LLC (“G-Trade”), a FINRA member, regarding the firm’s recording and reporting obligations under the OATS Rules, as recently amended, with respect to directed orders for certain foreign equity securities.1

Background

Based upon your letter, we understand the facts to be as follows. G-Trade receives directed orders in foreign equity securities from its institutional clients.2  These directed orders instruct G-Trade to route the orders to a foreign market for execution. The directed orders frequently involve foreign equity securities that may also be traded over the counter in the U.S. Because of the time zone differences between markets, you state that directed orders received by G-Trade during U.S. market hours and routed by G-Trade to a foreign market will frequently not be fully executed before the deadline for submission of order information to OATS. You state that, because the terms of the order direct G-Trade to route the order to a foreign market for execution, the order cannot be executed in whole or in part in the U.S. You have asked whether G-Trade will be required to report receipt of an order directed by the customer to a foreign market if the order is not fully executed by the time G-Trade’s OATS information must be reported to FINRA.

Discussion

On October 10, 2006, the Securities and Exchange Commission (“SEC”) approved SR-NASD-2005-101, which extended the OATS recording and reporting requirements to include orders for “OTC equity securities.”3  As amended by SR-NASD-2005-101, NASD Rule 6951 defines an “OTC equity security” as “any equity security that: (1) is not listed on a national securities exchange; or (2) is listed on one or more regional stock exchanges and does not qualify for dissemination of transaction reports via the facilities of the Consolidated Tape.” This definition encompasses essentially all foreign equity securities that are not listed on a U.S. national securities exchange. Following discussions with member firms and reconsidering the application of OATS recording and reporting requirements to foreign equity securities, FINRA filed a proposed rule change with the SEC to limit the application of OATS obligations to orders for foreign equity securities. On September 28, 2007, the SEC approved SR-FINRA-2007-001, which amended NASD Rule 6952 of the OATS Rules such that orders for foreign equity securities that are OTC equity securities need only be recorded and reported to OATS if the resulting execution is subject to the FINRA trade reporting requirements in NASD Rule 6620.4  The amendments to the OATS Rules made by SR-NASD-2005-101 and SR-FINRA-2007-001 will become effective on February 4, 2008, the same day that the amendments extending OATS obligations to OTC equity securities become effective.5

In SR-FINRA-2007-001, FINRA offered two examples to illustrate how the amendment to NASD Rule 6952 would be interpreted. In the first example, FINRA stated that if a member firm receives an order for a foreign equity security that is an OTC equity security and executes a portion of the order in the U.S. and a portion in a foreign market, the member would be required to file with OATS a New Order Report for the entire order, an Execution Report for that portion of the order that was executed in the U.S. (and would thus be subject to FINRA’s trade reporting requirements under NASD Rule 6620), and a Route Report for that portion of the order that was executed and reported in a foreign market.

In the second example, FINRA stated that if a member firm receives an order in the U.S. symbol for a foreign equity security that trades in the U.S. and abroad and is uncertain whether the order will be executed in the U.S. or in the foreign market, the member should report receipt of the order to OATS if the order is not executed before the time that OATS data is due on the date the order is received. After the order is executed, the firm would then report to OATS either an execution (if the order was executed and trade reported in the U.S.) or a route (if the order was executed and trade reported abroad), as applicable. This example was intended to address those situations where member firms are unsure whether the execution of an order will give rise to a trade reporting obligation under NASD Rule 6620. Because of time differences between markets and other variables, members may face a situation where the OATS reporting deadline is reached before the member executes a trade and knows whether the trade is subject to the reporting requirements in NASD Rule 6620. Because the OATS reporting obligation depends upon the trade reporting obligation, the firm may not know whether it has an OATS reporting obligation before the order is executed.6  FINRA stated that, when faced with that uncertainty, members should report receipt of the order as though the order would be executed in whole or in part in the U.S.

You have asked whether an order that is directed by the customer to a foreign market and, by its terms, cannot be executed in whole or in part in the U.S., would fall within the second example set forth by FINRA in its rule filing. The example was intended to address only those instances where a firm is uncertain whether the trade will be reported in the U.S. FINRA staff has concluded that G-Trade’s receipt of a directed order that will not result in an execution, in whole or in part, in the U.S. and would not be subject to trade reporting under NASD Rule 6620, would not fall within the example.7  Consequently, under those circumstances, G-Trade would not be required to file a New Order Report with OATS to reflect receipt of a directed order that has not been executed before the OATS data is due for that day.

Please note that the opinions expressed herein are staff opinions only and have not been reviewed or endorsed by the FINRA Board of Governors. This letter responds only to the issues you have raised based on the facts as you have described them, and does not address any other rule or interpretation of FINRA, or all the possible regulatory and legal issues involved. In addition, you should be aware that any changes in the facts as you have described them will require further consideration and may cause us to reach a different conclusion.

Sincerely,

Brant K. Brown
Associate General Counsel

cc: Hans L. Reich, Director, FINRA District 10




1 Pursuant to the recent amendments to the OATS Rules, the term “foreign equity security” is defined as “any equity security that is issued by a corporation or other organization incorporated or organized under the laws of any foreign country.” See SR-FINRA-2007-001. As noted below, the amendments to the rules discussed in this letter become effective on February 4, 2008.

2 For purposes of this letter, a “directed order” is “a customer order that the customer specifically instructed the broker or dealer to route to a particular venue for execution.” See SEC Rule 600(b)(19), 17 C.F.R. § 242.600(b)(19).

3 Securities Exchange Act Release No. 54585 (Oct. 10, 2006), 71 Fed. Reg. 61112 (Oct. 17, 2006) (order approving SR-NASD-2005-101).

4 The exception was codified in new NASD Rule 6952(d). See Securities Exchange Act Release No. 56573 (Sept. 28, 2007), 72 Fed. Reg. 56816 (Oct. 4, 2007) (order approving SR-FINRA-2007-001). Under NASD Rule 6620(g), transactions in foreign equity securities need not be reported to the OTC Reporting Facility if (1) the transaction is executed on and reported to a foreign securities exchange or (2) the transaction is executed over the counter in a foreign country and is reported to the regulator of securities markets for that country.

5 See Securities Exchange Act Release No. 56573 (Sept. 28, 2007), 72 Fed. Reg. 56816 (Oct. 4, 2007) (order approving SR-FINRA-2007-001); Securities Exchange Act Release No. 55440 (Mar. 9, 2007), 72 Fed. Reg. 12852 (Mar. 19, 2007) (order approving SR-NASD-2007-019).

6 Unlike trade reporting, which occurs post-execution, information regarding order events that occur during an OATS business day must be reported to OATS by 5:00 a.m. Eastern time the following calendar day. See NASD Rule 6955; OATS Reporting Technical Specifications at 8-1 (Aug. 6, 2007); Second Addendum to OATS Reporting Technical Specifications, August 6, 2007 (Aug. 21, 2007). An OATS business day begins at 16:00:01 Eastern time on one market day and ends at 16:00:00 the next market day. See OATS Reporting Technical Specifications at 8-1 (Aug. 6, 2007).

7 Of course, if the trade is executed in a foreign market but must be reported in the U.S. because the trade is not reported to a foreign exchange or a foreign securities regulator, the firm would be required to comply with the OATS recording and reporting obligations with respect to that order. OATS obligations are triggered by the trade report, not the execution venue.