Nasdaq Reforms Will Improve Trades Matchmakers, Who Profit From Spreads, Will No Longer Be Cornerstone Of Trading On Over-The-Counter System

Reforms proposed Monday by the National Association of Securities Dealers should help small investors buy and sell stocks at better prices than they often get under current trading rules.

A new system, called Aqcess, “will enable public investors - particularly small investors - to reduce their transaction costs through vastly improved price protection and greater priceimprovement opportunities,” said Joseph Hardiman, president and chief executive of NASD.

Essentially, the new system would allow investors to buy and sell stocks at more favorable prices than those that may be available from the “marketmakers,” who form the cornerstone of the NASD electronic system, or Nasdaq.

Under current trading rules, small investors must trade their shares at only prices offered by these marketmakers - representatives of securities firms who make markets in particular stocks, according to a Nasdaq spokesman.

Securities firms and institutional traders are often able to buy and sell Nasdaq stocks at prices that beat the prices quoted by marketmakers.

The system, slated to be in place by December, “has nothing to do with” a Justice Department investigation of possible price-fixing among Nasdaq securities dealers, Hardiman said. Nor does it arise from similar price-fixing allegations outlined in a class-action lawsuit against firms that make markets in Nasdaq securities, he said.

The proposed reforms, which require approval of the Securities and Exchange Commission, grew out of plans that began a year ago to improve Nasdaq’s trading system for small investors, he said.

“It’s certainly a step in the right direction,” said Ronald Schy, a lawyer who represents a group of Chicago Board Options Exchange traders included in the class-action suit against the securities firms.

In Nasdaq trading, competing marketmakers set prices at which stocks in a company are bought and sold. The “bid” price is the price at which the marketmaker is willing to buy a share; the higher “offer” price is that at which he or she will sell shares. The “spread” is the amount between the bid and ask price, and represents the marketmakers’ profit margin.

The civil suit alleges that marketmakers keep these spreads artificially wide.

Under the Nasdaq proposal, on transactions of up to 3,000 shares, investors would have the opportunity to execute trades within these spreads, Nasdaq officials said, offering a better deal for all investors.

Nasdaq proposes instituting a system of publicly notifying all commercial vendors of investors’ “limit orders,” which are orders to buy or sell a particular stock at a particular price.

Whenever possible, “limit orders” from public investors will be matched automatically against each other.

Thus if investor A wants to sell 1,000 shares of Company XYZ at $20.25 a share, and investor B wants to buy 1,000 shares of the company at that price, the new system will “match” these orders.

Currently, investor A would have to accept the best bid offered by a marketmaker - say $20.12 a share, and the buyer accept the best “offer” price of, say, $20.37 a share.

The Nasdaq plan would also match competitive limit orders of investors with other investors’ requests to buy or sell shares at the best current price of a stock, or a request called a “market order,” Nasdaq officials said. This would apply only to market orders of 1,000 shares or less.

Thus if investor A wants to sell 1,000 shares of Company XYZ at $20.25 a share, and that price beats the best bid offered by a marketmaker, investor A’s order would be matched with investor B’s “market order” to buy shares of Company XYZ at the best current price.

In another important change, a Nasdaq broker/dealer would have to execute outside investors’ limit orders before executing any of its own orders at a better price for a particular stock.