NASD Rules 6950-6957 (OATS)
Clarification of application of the OATS rules.
July 30, 1998
Mr. Charles R. Hood
Senior Vice President and General Counsel
875 Third Avenue
New York, NY 10022
Thank you for your letter of May 27, 1998 outlining Instinet's questions and concerns regarding the Order Audit Trail System (OATS). As stated, the questions resulted from review of the NASD Rules 3110 and 6950 through 6957 ("Rules"), the March 6, 1998 OATS Reporting Technical Specifications ("Specifications"), and other OATS-related publications. We are pleased to clarify any outstanding question that may exist regarding OATS reporting. Instinet's original question are in bold, followed by our response. We hope that this may eliminate any issues or ambiguities that Instinet has encountered.
1. Instinet assumes that the OATS requirements apply only to orders captured in its Real-Time Trading Service. The Crossing Network does not appear to be an appropriate candidate for OATS monitoring. The Rules as written, however, do not distinguish between real-time trading systems and one-time, non-price discovery trading mechanisms such as Instinet's Crossing Network.
Orders captured in Instinet's Crossing Network are not subject to OATS reporting.
2. To what extent are cross-border transactions subject to OATS Reporting. For example, if two European clients of our affiliate, Instinet UK Ltd., execute a trade in Microsoft (using Instinet Corporation as the executing broker), what specific OATS events must be reported? How are orders received from affiliates in general to be handled?
Orders received from non-member affiliates are reported in the same manner as any order received from a non-member customer, such as an institution. When such an order is received and executed, a New Order Report and Execution Report would be required. Because the affiliate is a non-member, Instinet would not be required to identify the order routing firm on the New Order Report.
3. How are inter-listed (e.g., Nasdaq and Toronto Stock Exchange) stocks handled in cases where, for example, an order in a Nasdaq issue is routed to a non-Nasdaq exchange? The Specification states that a rule change is expected to cover this case; is the rule change still expected, and if so, when will the language be published?
The proposed rule change was published in the Federal Register: 63 Fed Reg 31820 (June 10, 1998). Proposed new Rule 6954(c)(6) states:
"When a member transmits an order to a non-member, the Reporting Member shall record: (A) the fact that the order was transmitted to a non-member, (B) the order identifier assigned to the order by the Reporting Member, (C) the market participant symbol assigned by the Association to the Reporting Member, (D) the date the order was first originated or received by the Reporting Member, (E) the date and time the order is transmitted, (F) the number of shares to which the transmission applies, and (G) for each manual order to be included in a bunched order, the bunched order route indicator assigned to the bunched order by the Reporting Member."
4. Rule 6951 (j). Instinet assumes that negotiating messages sent anonymously between our customers, if they contain firm price and size, are orders under this definition. Negotiations differ from traditional orders, however, in that multiple such negotiations can exist simultaneously, and the total exposure is equal to that of the largest negotiation (not the sum, as would be the case with orders).
A negotiation is not considered to be reportable until both parties agree to the terms of the order. When a negotiation is accepted, an order and an execution must be reported.
5. Rule 6954(b)(4). This section of the Rules states that the department identification is optional for ECNs; the Specification, however, does not indicate the field is optional for ECNs.
The Specifications, which were revised on June 30, 1998, now clearly indicate that the receiving department identifier is optional for ECNs.
6. Rule 6954(b)(9). The Specification does not indicate that the sell short and sell short exempt codes are optional for ECNs, though the Rules do so state.
The June 30, 1998 Specifications now clearly specify that the ECNs are not required to report sell short and sell short exempt codes.
7. Rule 6954(b)(10). This section of the Rules requires reporting of "the designation of the order as a market order, limit order, ...." No field is specified for this indicator, however.
In consultation with the SIA, we determined that the presence or absence of a limit and/or stop price would be sufficient to determine the order type. Accordingly, a market order report must contain no stop or limit price. A limit order report must contain a limit price, but must contain no stop price. A stop order report must contain a stop price, but must contain no limit price. A stop limit order report must contain both a limit price and a stop price.
8. Rule 6954(b)(17). The Specification does not indicate that the program trade or index arbitrage trade indications are optional for ECNs.
The June 30, 1998 Specifications now clearly indicate that program trade and index arbitrage trade indications are optional for ECNs. Although this information is not currently required, NASDR believes that program or index arbitrage trades should be identified. Should this become a requirement in the future, we will work closely with ECNs to determine the most appropriate way to capture this information.
9. Rule 6954(c)(1). This section of the Rules uses the term "trading department," but it is not defined. Does it have any meaning in the context of an ECN? For example, is Instinet's trading system effectively our "trading department"?
The term "trading department" is intended to refer to the function within the firm that is responsible for executing orders in Nasdaq equity securities. For an ECN, this may be interpreted as either the trading system (where orders are executed automatically, without trader intervention) or the trading department (where orders are executed with the assistance of traders).
10. Rule 6954(c)(4), (5). The Rules differentiate between orders that are "electronically transmitted" and those which are "manually transmitted" to ECNs and to non-ECN member firms.... On the Real-Time Trading System, Instinet does not differentiate between these two methods; however, there is an OATS requirement to record how the order was received. Can the NASDR please clarify the definition of a "manually transmitted order" for an ECN.
It is important to distinguish between the order routing method and the order receipt method. An order is considered to be "manually routed" if an individual, such as a trader, manually types the order information into an Instinet terminal. An order is considered to be "electronically routed" if an order is transmitted via an automated interface from a firm's own internal applications. However, in both cases, the order is "electronically received" by Instinet. Therefore, an ECN is required to determine only its receipt method, regardless of the client's routing method. (See question 11 for further discussion.)
11. Rule 6954(c)(5)(B)(i). This section of the Rules requires that an ECN report the fact that an order was received manually, but the "Received Method Code" field in the Specification does not have a value for this option.
Because the reporting requirements for ECNs are the same regardless of whether an order was received electronically or manually, we have elected not to differentiate between the two methods. Therefore, the value for Received Method Code will always be 'C' for ECNs.
12. Rule 6954(d)(1). Instinet allows its customers to enter orders whose effective price is "pegged" to some external market data (such as the middle of the NBBO). We assume that effective price changes to these orders (which we refer to as "pegged price moves") would not constitute a modification to the terms of the order as used in this section of the Rules. Hence, we assume that we do not need to report all price changes as cancel/replace events.
Your assumption is correct. When the original order is received, it should be marked with a special handling code of 'PEG'. Thereafter, changes resulting from pegged price moves are not reportable.
13. Rule 6954(d)(2). Instinet allows its customers to place their orders in a "suspended" state; such orders are maintained in Instinet's systems, but are not executable. The customer can release the order later in the day, at which point it becomes executable again; it will normally have lost price/time priority by this action. We believe that it is most appropriate to treat such a suspension as a cancellation of the order; if the order is released, we will report it as a new order entry.
Your determination is correct. Suspended orders should be handled as cancellations, and release from suspension should be handled as a new order entry.
14. Rule 6954(d)(3)(H). On trades reported with an "as-of" date to ACT, what are the appropriate values to put in the date and time of execution fields for OATS execution reports?
We define "as-of" trades executed between 5:15 pm and midnight, which are reported to ACT between 8:00 am and 1:30 pm the next day. The execution date and time for the OATS Execution Report should always be the date and time the trade actually occurred, rather than the date and time the trade was reported to ACT. The execution time for the OATS Execution Report should be exactly the same as the execution time reported to ACT.
15. Rule 6955(b)(2). If an order event occurs after 5:15 pm, must a firm wait until 4:00 am the next day to report it? This would be considered part of the next OATS reporting day, but it may be more convenient for a member to report it without this delay.
A firm may report an event sooner than the deadline for reporting, regardless of the OATS reporting day. In this example, the firm does not need to wait until 4:00 am the next day, but could report the event without delay.
16. Rule 6955(c)(1). Can a reporting member enter into an agreement with a reporting agent to report OATS events for only some subset of the member's order events (assuming other arrangements are in place to report all of the order events)?
A firm may enter into an agreement with a reporting agent to report only a subset of the member's order events. It would be incumbent upon the firm to ensure that arrangements are in place to report all order events. This could entail agreements with multiple reporting agents.
We appreciate Instinet's ongoing participation in working with the NASDR to identify and address issues relating to the OATS implementation. Please do not hesitate to contact me if you have further questions or need additional information.
James M. Carigiano
Robert Colby, SEC, Division of Market Regulation
Deborah Flynn, SEC, Division of Market Regulation
Richard Strasser, SEC, Division of Market Regulation