Application of Rule 2320(g) and Rule 3110(b) to quotations displayed in the Electronic Quotation Service (prior to the adoption of proposed Rule 6630).
September 5, 2001
Mr. Donald H. Meiers
Holland & Knight, LLP
2099 Pennsylvania Ave. NW
Washington, DC 20006
Application of NASD Rule 2320(g) and Rule 3110(b)
Dear Mr. Meiers:
I am writing in response to your letter dated March 2, 2001, in which you requested interpretive guidance concerning the application of NASD Rule 2320(g) and Rule 3110(b) to quotations displayed in the Electronic Quotation Service operated by Pink Sheets LLC (“EPS”). In addition, if necessary, you request exemptive relief from Rules 2320(g) and 3110(b) under the facts described herein.
In your letter you stated that you represent International Assets Advisory Corporation (“IAAC”), a registered broker/dealer and member of the NASD. IAAC is a market maker in non-Nasdaq securities and provides firm quotations in these securities to broker/dealer wholesale clients, institutional customers and retail clients. You stated that IAAC often uses the EPS to obtain current market quotations. According to your letter, IAAC is developing a programming language that will enable it to record and maintain all information pertaining to the displayed quotations directly from EPS. You state that this would allow IAAC to record and maintain the information as required under Proposed Rule 6630.1
In your letter you request interpretive guidance relating to three issues. First, you request guidance on compliance with NASD Rule 2320(g) (the “Three Quote Rule”) in the event that there are fewer than two priced quotations for non-Nasdaq securities displayed in an inter-dealer quotation system that permits quotation updates on a real-time basis. As the rule states on its face, if there are fewer than two priced quotations for non-Nasdaq securities displayed in an inter-dealer quotation system that permits quotation updates on a real-time basis, members executing a customer order are required to obtain quotations from three dealers (or all dealers if three or fewer) to determine the best inter-dealer market for the security. Moreover, under these circumstances, Rule 3110(b) requires that members indicate on the order ticket the name of each broker/dealer contacted and the quotations received to determine the best inter-dealer market.
Second, you inquire whether Rule 3110(b) requires IAAC to contact dealers and record the quotations received if there are two or more quotations displayed in the EPS. NASD Regulation currently does not have access to historical data for quotations displayed in the EPS.2 Accordingly, where two or more priced quotations are displayed in an inter-dealer quotation system for which NASD does not have access to historical quotation information, although the member is not required under Rule 2320(g) to call the market makers to verify the firm quotation that is displayed, the member is required to note on the order ticket the identity of the broker/dealers, the firm priced quotations displayed, and the inter-dealer quotation system in which the quotations were displayed. As a result, if two or more priced quotations are displayed on the EPS, IAAC would not be required to contact the dealers, but currently must comply with the recording requirements of Rule 3110(b)(2) with respect to those priced quotations displayed on the EPS.
Third, IAAC has indicated that it would like to be able to satisfy the historical data/recordkeeping requirements of NASD Rule 3110(b) by recording and maintaining all information pertaining to the displayed quotations at the time of execution of the transaction itself, in lieu of indicating on an order ticket for such security the name of the dealers contacted and the quotations received. As described in your letter, IAAC’s system of recording and maintaining information directly from the EPS would satisfy Rule 3110(b) if the system maintains, on a historical basis, all information required by Rule 3110(b). IAAC, however, would be required to provide NASD Regulation staff with full access to its records and be able to demonstrate compliance with the recordkeeping requirements under Rule 3110(b) upon request. We believe, that, under these circumstances an exemption is not necessary.3
It is important to note that compliance with the Three Quote Rule, in and of itself, does not mean the member has met its best execution obligations under NASD Rule 2320. Best execution requires each member to use reasonable diligence to ascertain the best inter-dealer market for a security, and to buy or sell in that market so that the resultant price to the customer is as favorable as possible under prevailing market conditions.
I hope this letter is responsive to your inquiry. Please note that the opinions expressed in this letter are staff opinions only and have not been reviewed or endorsed by the Board of Directors of NASD Regulation. This letter responds only to the issues you have raised based on the facts as you have described them in your letter, and does not necessarily address any other rule or interpretation of the NASD or all the possible regulatory and legal issues involved.
Kathleen A. O’Mara
Assistant General Counsel
NASD Regulation, Inc.
cc: John P. Nocella, Senior Vice President and District Director, NASD Regulation, Inc., District No. 9
1 Proposed Rule 6630 requires members to record and maintain, among other things, their quotations and unpriced indications of interest displayed in certain automated, inter-dealer quotation systems, such as the EPS, and to report such data to NASD Regulation upon request. See Securities Exchange Act Release No. 43367 (September 27, 2000), 65 Fed. Reg. 59482 (October 5, 2000).
2 As noted earlier, NASD Regulation has filed a proposed rule change with the SEC to adopt a new Rule 6630 that generally would require members to record their quotation data in the electronic pink sheets, or similar quotation systems, and report such data to NASD Regulation. See supra note 1.
3 The staff has exemptive authority with respect to Rule 2320(g) to exempt any transaction or classes of transactions for good cause shown if such exemption is consistent with the purpose of the Rule, the protection of investors, and the public interest. The staff does not have exemptive authority under Rule 3110(b).