Nasdaq’s Extended Life “Bait and Switch” Order
Nasdaq has formally proposed their new Extended Life Priority Order Attribute . Before we explain why we think this is just another Nasdaq order type that will leak information about retail and institutional investors, it is important to note that this is NOT a universal speed bump that all orders must pass through. This new Nasdaq order type is an optional order that only some customers will be able to use.
The Nasdaq proposal essentially will reward queue position to certain orders that will not cancel or revise for at least one second. If an extended life order remains untouched for at least 1 second, then that order will have queue priority over non-ELO orders. Here is how Nasdaq describes the Extended Life Priority Order Attribute (ELO):
“Nasdaq is proposing to offer a new Order Attribute that will allow certain Displayed Orders to have priority ahead of other resting Displayed Orders on the Nasdaq Book at the same price. To receive this priority, an Order must be designated with the Order Attribute “Extended Life Priority” (“ELO”) to indicate that the Order will not be altered or canceled by the member before the minimum resting time has elapsed.”
We highlighted one line because it is the key to understanding why Nasdaq’s proposal is flawed and why it will actually hurt the investors that Nasdaq claims would benefit from the proposal.
Only displayed “Designated Retail Orders” will be allowed to use the ELO attribute (although Nasdaq does state in the filing state that they are planning to extend the attribute to institutional investors at a future time). Nasdaq thinks that investors who have a longer investment horizon and do not care about “monitoring minute changes in the best bid and offer over short time periods” are best suited for the new ELO attribute.
Sounds good, right? Retail and institutional customers will finally have a way to beat those dastardly HFT’s at the speed game and they won’t have to spend a dime on colocation services either. But of course, there is a catch that you won’t read about in the press.
As is often the case, the key to reading an exchange proposal is to look for the details about what goes into the data feed. We doubt that many folks got all the way to page 12 of the 50 page Nasdaq proposal but if they had then they would have seen this:
“To implement the retail phase of the Extended Life Priority Attribute, Nasdaq is developing a unique identifier that will be appended to each Order entered by the member. Orders with the Extended Life Priority Attribute may be individually designated with the new identifier or entered through an Order port that has been set to designate, by default, all Orders with the new identifier. Orders marked with the new identifier — whether on an order-by-order basis or via a designated port — will be disseminated via Nasdaq’s TotalView ITCH data feed. Thus, market participants will be able to identify Designated Retail Orders that have the Extended Life Priority Attribute.”
There it is in black and white. In return for giving retail and institutional orders queue position, Nasdaq will require that these orders be marked as extended life orders. This identifier will be disseminated to anyone who purchases a proprietary data feed from Nasdaq. In other words, ELO orders will easily identified by high frequency traders since they are the ones who most commonly purchase the exchange proprietary data feeds. Why does this matter? Because HFT’s like to know as much as possible about queue position. Knowing which orders in the queue can’t be cancelled or revised for at least one second and knowing that these are retail orders are extremely valuable pieces of information for a high frequency trader. This is the type of information that makes an exchange proprietary data feed extremely valuable.
Nasdaq claims it is “improving the quality of the market by rewarding participants for longer life order flow”. But they have really just created another way to leak information about the identity of their clients.
Nasdaq claims that “Nasdaq has been an innovator and change agent in the financial markets” and that “innovation is in Nasdaq’s DNA”. But their innovations seem to always be for the benefit of their high speed and highest revenue clients. Do you think that Nasdaq would really offer an order type which gives queue priority to non-HFT’s without giving HFT’s something in return?
If Nasdaq really cared about the quality of the market then they would eliminate the unique identifier attached to these orders and not require anything in return for the enhanced queue position. But since the sale of proprietary data feeds is a very lucrative business, we doubt that Nasdaq will abandon the identifier. Since almost all latency has been squeezed out of the equity market, Nasdaq and the other exchanges must offer more than just speed to their HFT clients – they must offer more unique content to keep these clients. And leaking information about retail and institutional order flow is very valuable content.