While Reg NMS is not fully rolled out (the broker routing requirements are due to go live in early July), the two major take-aways from the early exchange Reg NMS experience tell us to pay attention to 1) differences between Reg NMS-compliant routing and best execution and 2) the industry’s data infrastructure.

Larry Tabb Founder & CEO TABB Group

First, exchange-driven, Reg NMS-compliant routing and best execution routing are not the same. Exchange compliance only requires exchanges either to route orders to another market when a better displayed quote is available or match the better quote. Routing is also only required against the top of book (the best displayed price) and not for the full depth of book.

Under Reg NMS, an exchange could route orders to exchanges for the top of book and ignore any depth of book liquidity while proceeding to sweep their own exchange, providing the client with a worse execution than if the order were split and routed across exchanges in price priority order, starting with hidden liquidity and then moving price point by price point across exchange to a clearing price.

The take-away here is to measure and ensure your router routes in your best interest, not theirs. Take as much responsibility for order-routing as you can because, while brokers have a best execution requirement, exchanges do not, and best execution trumps Reg NMS.

Second, our market data infrastructure is fragile. Since Reg NMS was implemented, exchanges are routing more order flow between themselves and broker smart-order routers are connecting to more venues. We are consequently seeing exchanges and infrastructure providers struggling to manage the massive amounts of market data being generated.

This data wall will only increase once brokers’ Reg NMS requirements are implemented in July. Brokers, exchanges, utilities, market data, and infrastructure providers need to rethink their high-speed market data and execution strategies and technologies because market-data volumes may not just double this year—they could go up three to four times as new algorithmic strategies and venues increase message traffic geometrically, not linearly. This is an issue few organizations will be able to absorb with their existing technology.

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Filed under: Issue 2 - Summer 07