When help for the little guy means gravy to the big boys


March 10, 1997|By Susan Antilla | Susan Antilla,BLOOMBERG NEWS

THERE'S MUCH ado (again) about an automated stock-trading system that goes by the acronym SOES.

SOES (rhymes with woes) stands for the Small Order Execution System. It's a computerized trading system that automatically executes small trades at the best price posted among over-the-counter market-makers.

It never was a vehicle for Aunt Matilda's trades, as hyped by the National Association of Securities Dealers after the 1987 stock market crash. Instead, it has become the riding horse of professional traders, much-maligned as "SOES bandits."

These traders make a quick profit on the stray market-maker who has posted a price that's inadvertently out of line with the competition.

Complaints about these traders have increased to the point where the traders have formed a group headed by a big-gun former commissioner of the Securities and Exchange Commission to lobby on their behalf.

Richard Roberts, now with the Washington law firm Reid & Priest, prefers to call his new clients "electronic traders." He reports that a byproduct of the recent sweeping new order-handling rules by the Nasdaq stock market has been to reduce unfairly the size of trades they can execute on SOES.

Unfair if you're a day trader like those that belong to Roberts' new Electronic Traders Association, anyway.

Until recently, the SOES system obligated market-makers in the largest National Market System stocks to buy or sell at least 1,000 shares of the stocks they displayed on the SOES trading screen. In a three-month trial that ends April 20, those minimums have been reduced to 100 shares on the biggest stocks.

Roberts hopes to persuade his former colleagues by that date that 100 shares isn't enough; market-makers who prefer root canals to life with SOES "bandits" will speak with an equally loud voice that they shouldn't be prey to these antics at all.

Market-makers complain that SOES traders are hit men who take advantage of the automated aspect of the system. They say they can't leave their screens long enough to powder their noses without having some bandit come along and zap them for 1,000 shares at too good a price. Bandits -- who profit by buying automatically from a market-maker who hasn't updated his or her low price in a rising market, for example -- are engaged in $H out-and-out theft, in the view of detractors.

But, Roberts says, "they're not stealing anything -- they're using publicly displayed market-makers' quotes and trading on the basis of what the market-makers put out there."

SOES was plugged in in 1984. In the first few years, it attracted fewer than half the market-makers who bought and sold stocks traded on the National Market System. Why be obligated to make an automatic trade electronically when there's a stock-dealing system that lets you pick and choose when to play? "The NASD sold this thing as an answer to public investors, but it was never true," concedes Richard Ketchum, executive vice president of that regulatory group.

Happily, part of the reason is that the market hasn't since endured a 1987-style wipeout. It's also true in part because there are, barring crashes, big reasons for brokers not to use the automated system for Aunt Matilda's orders.

Big, household-name brokers "prefer to sell from their own inventories" because it's more profitable, says John Coffee, a professor at Columbia University School of Law. And discount brokers who deal with the public wouldn't route trades to SOES, he adds. "They get much of their profits from payment-for-order flow," Coffee says, referring to the frequently criticized practice of selling your customers' buy and sell orders to someone else.

Use of SOES was declared mandatory by securities regulators in June 1988, eight months after the Oct. 19, 1987, stock market crash. The idea: to protect small investors from falling victim to future epidemics of deafness among market-makers.

In something of a medical mystery, market-makers en masse lost their ability to hear telephones ringing on that critical day in 1987. A mandatory, automated system would force them to make markets, in part by imposing a 20-day trading ban on anyone who declined to post prices that could be acted on by buyers or sellers.

While SOES traders do push the regulatory envelope, it's tough to shed tears for a group of traders accused by the Justice Department of price collusion [the market-makers] on the basis that they're too frail to survive the worst tricks of the SOES gang.

SOES traders are no angels, says Michael Barclay, who was an expert witness in antitrust litigation against the NASD. "But it's like giants being surrounded by gnats," he says of the attack on market-makers.

Negligible economic damage is done by SOES traders, he says, "though it could put you in a bad mood" to lose at their hands.

Roberts says it isn't all about the self-interest of his clients. It's about (what else?) the integrity of the markets.

"The market-maker is supposed to make a market," he says, "And 100 shares isn't much of a market."

At the NASD, officials so far are not making much of the bandits' newly organized efforts. When asked about the Electronic Traders Association, an NASD spokesman replied, "I've never heard of it."

Pub Date: 3/10/97

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