Will ICE Freeze The Rebate Model?


We don’t know about you, but we’re excited about the ICE takeover of NYSE and can’t wait for it to be finalized.  We’re excited because of the comments coming from Jeff Sprecher, the ICE CEO.  This past weekend he was quoted again with some comments that must have had some eyes rolling in the executive suites at the major exchanges.  Sprecher made his comments  about the payment for order flow that currently exists at the NYSE and other market centers:

I don’t think we should pay for order flow,” he said. “People talk about innovation and all they are really talking about is price cutting or front-running.

Sprecher admitted that if NYSE did not compete for stock orders through rebates – which at some exchanges surpass the fees charged for trading – it would likely lose “a lot of market share” but that the Big Board should take a leadership position on improving market structure.

He said it could also ultimately lead to a higher value per share for NYSE, as the exchange would be focusing on only trades that make money.

“I want to give the market share where we are losing money back to the competitors. I will welcome them to take money-losing business off of our books,” he said.

While Jeff Sprecher wants to try a different approach, the current NYSE and their NYSE Arca affiliate are inventing new ways to infiltrate the market with more payment for order flow schemes.  On June 6th, the SEC approved NYSE Arca’s request for a new “Incentive Program” for exchange traded products (ETP’s).  According to the SEC filing, the new program “is designed to enhance the market quality for ETPs by incentivizing Market Makers to take Lead Market Maker (“LMM”) assignments in certain lower volume ETPs by offering an alternative fee structure for such LMMs that would be funded from the Exchange’s general revenues.”  Click here  for NYSE’s press release on the incentive program.

Basically, the new program allows ETP issuers to pay market makers to take a lead market maker role in their ETP.  Since the issuers can’t pay the market makers directly (issuers of exchange-traded funds registered under the 1940 Act are prohibited from paying directly or indirectly for distribution of their shares), they will instead pay NYSE Arca between $10,000 and $40,000 per year, who will then pass along these payments to the lead market maker (those exchange guys are pretty slick with their “innovations”).   Lead market makers will be obligated to quote with a certain depth and within a certain range of the NBBO.  But as with most market maker requirements, these are not exactly stringent, capital providing requirements (see page 8 of the filing for the obligation matrix) and appear to be easily skirted around.

One other note: this new Incentive Program is a pilot program for one year.  To judge its effectiveness, NYSE Arca said:

“During the Incentive Program, the Exchange will provide the Commission with certain market quality reports each month.”

We would like to suggest that the SEC runs their own analysis and not rely on NYSE Arca’s market quality reports.  But that’s just us being cynical.