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There are "important structural differences exist between the equity markets and options markets," wrote SIFMA Managing Director Thomas F. Price.
30/1,000s of a Second
Flash trading on some exchanges allows some unidentified customers to view incoming orders slightly earlier than general market participants. The flash typically lasts for 30 thousandths of a second, and a fee is charged.
Option marketmakers do not have the ability to quote multiple price levels for the same security, he said, and instead must make quotes in multiple series, for instance, he said.
"These challenges reduce the depth of options markets as compared to equity markets and greatly increase the need for market structures that enhance liquidity,'' Price said. "The fact that options must be quoted in multiple series enhances the need for market structures that foster liquidity,'' such as flash orders.
In its letter, the committee estimated that approximately 90% of the trading volume in the equities markets takes place on exchanges that are based on the “maker-taker model” under which orders taking liquidity are typically charged a fee and resting orders that provide liquidity and establish the national best bid or offer (NBBO) may earn a fee.
"In sharp contrast, approximately 70 percent of the trading volume in the options markets is on exchanges that follow a “traditional model” in which routing fees charged by the destination market are absorbed by the market transmitting the order,'' Price wrote, "and market participants have the capability to “step up” to execute orders at prices equal or superior to the NBBO before orders are routed away."
The remaining 30% of the volume takes place on options markets that charge maker-taker fees. Banning flash orders would move more trading to the maker-taker model in options markets, Price wrote.
The decline of the traditional model would have two detrimental effects on retail customers, SIFMA contends. "The information that markets rely on to attract orders will diminish, and execution costs will increase due to reduced depth and wider quotes,'' Price wrote.
Market makers at traditional exchanges are "subject to rigorous and enforceable obligations to make continuous and competitive twosided markets," the letter said. "The affirmative obligations of marketmakers in those markets greatly enhance the likelihood that there will be liquidity in those markets when market conditions are adverse. The Committee is particularly concerned that an options market structure that becomes too heavily dominated by a makertaker model will increase the vulnerability of markets to another “flash crash” similar to that which occurred in the equity markets on May 6 of this year."
Also, makertaker quotes are generally much smaller than traditional quotes, meaning options markets would become "less liquid" if maker-taker pricing gains ground.
Price and SIFMA cited a previous SEC comment that “…the flash mechanism may attract additional liquidity from market participants who would not be willing to display their trading interest publicly" in support of this opinion.
The full SIFMA letter can be
