NASDAQ’s New Retail Order Process – and Backwash



Who wants to drink milk from this carton after Will Ferrell is done with his swig? Come on, raise your hands! Nobody?  Why not? Let me guess; you think it’s Backwash.


We often make the point to our regulators that one of the most serious and damaging outcomes of the evolution of our modern markets is counterparty (customer) segmentation, and the lack of diversity on public markets. Recently we even penned a letter to the SEC, and the Market Structure Advisory Committee, asking them to do everything in their power to bring back diversity on public markets… and fairly incentivize public bids and offers.


We noticed that in the past, limit order books consisted of many types of investors/traders – retail, institutional, day-trader, and HFT. Those limit order books were dramatically less prone to mini-flash-crashes and liquidity shocks – and more likely to reflect accurate price discovery. Today’s limit order books experience mini-flash-crashes, and today’s limit order books are overwhelmingly comprised of high-speed professional traders.


Of course this change did not happen overnight – it really kicked into high gear after the SEC put forth its 2009 Proposal to Regulate Non-public Trading Interest (its Dark Pool Proposal), and then shelved it. Market Professionals then got the all-clear signal – that anything was fair game in the dark. Professional traders set about to mechanize ways to be counterparty to order flow they wanted to, and run-ahead of order flow they didn’t (They want to be counterparty to uninformed retail, and small predictable VWAP algo orders; they don’t want to be counterparty to your buy order ripping through the NBBO a level or two).


The stock exchanges recognized that the ultrafast traders that they were so good at courting and catering to in 2009-2011 were increasingly making high speed markets off the exchanges; the exchanges were losing market share big time – market share they have been desperately trying to lure back.


NYSE, NASDAQ, and BATS each currently have some type of retail order identification mechanisms. On their direct expensive feeds (not the SIP), they let purchasers know which orders are retail, so that high speed market makers can compete to  ahem… price-improve them.


And NASDAQ is upping its game. This brings us to today’s discussion…


NASDAQ is introducing (starting August 2015) a New Patent Pending Retail Order Process.


We suppose it’s called a Retail Order Process because lately the SEC doesn’t like new the words Order Types, and besides – a new Order Process sounds less harmful than new Order Types. Queue the George Carlin “Euphemism” comedy routine here.


Here is how NASDAQ’s Retail Order Process will work:


  • NASDAQ intends to enter all retail non-marketable limit orders into the new Retail Order Process for evaluation.
  • This Process will take some small amount of time, in which NASDAQ will determine that the non-marketable limit order may in fact be marketable!
  • This Process will then take these retail limit orders that were non-marketable and meant to be limit orders on the NASDAQ book, and send them to high speed market makers directly… or “to certain exchanges.”
  • If the high speed market makers still do not want to be counterparty to the retail order, then it will finally make its way back to the NASDAQ limit order book.


NASDAQ says they are doing this because they “want to improve market quality for Retail Investor Orders.” NASDAQ is really doing it because they want more volume, and they want to make their data feeds more valuable, with more information for their high speed clientele.


The worst part is that as it is, the limit order book is dominated by high speed market makers. As it is, you all try to avoid these limit order books because of toxicity. NASDAQ is proposing to make the order book even less diverse and even more toxic. They will take the little retail that they do receive, and sell access to it to high speed market makers, so that they can cherry pick the non-toxic order flow. If you think that it’s currently hard to interact with natural counterparties, just wait…. It’s about to get worse.


NASDAQ wants to make sure that you never have any chance of interacting with a non-intermediary – retail or institutional.


NASDAQ wants to do everything in their power to make sure you – the investor – drinks Backwash.