Five Minutes with Chris Nagy

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Five Minutes with Chris Nagy, managing director of order strategy at TD Ameritrade

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Chris Nagy is managing director, order routing sales and strategy for TD Ameritrade, focused on options. He will be one of the speakers on a panel on “Market Structure” at the 2010 Equity Options Conference in New York on October 5. He spoke with MarketsWiki's Sarah Rudolph about his thoughts on proposed regulations, the importance of exchange fees, the “flash crash”, and what inspired him in choosing his career path.

Q: The panel you are speaking on at the Equity Options Conference will focus on some regulatory issues facing the industry – including rules on flash orders, circuit breakers, sponsored access, short sale rules, and access fee caps, to name a few topics. As managing director of order strategy for Ameritrade, what regulatory issues are of greatest concern to you?

A: The overriding issue in the options market right now is fee structure. With the eight options exchanges duking it out – nine when CBOE launches their C2 options exchange – you can almost tie every issue back to fee structure: maker-taker vs. pro rata, flash orders. Every one of those issues goes back to overall fees. Flash orders are there to reduce the access cost. Rule 610, which the SEC is proposing, is designed to help limit the cost of access fees, to bring down those costs from where they are today. If you look at the various exchanges – ISE going after BOX, each trying different market models -- it’s all about access fees and how the exchanges are allocating fees among their customers.

Being a retail provider, we want to offer best in class to our clients, offer market depth at very low cost. This issue is important to us because we don’t want to see costs get out of control. We want to continue to offer retail clients low commissions for trading options.

If you look back 10 years ago in the options market, right before multiple listing came into the markets, when certain options were only traded at certain exchanges, the cost for us to send an options order was north of a dollar a contract. So our commissions were much higher than today. We offered little technology and education. And today we’re an industry leader in education. The competition has driven costs lower. Now, we’re faced with the question of which model [maker-taker vs. pro-rata] will win, or how can both models coexist.

Currently, even with eight or even nine options exchanges out there, that competition is not driving prices as low as might be. SEC Rule 610 is looking to intervene.

Q: What do you think about the proposed circuit breaker rules?

A: I spoke about the circuit breakers recently at the CFTC advisory hearing on August 11. The main issue, which we addressed in our comment letter, is the way circuit breakers are structured today. They don’t operate in a consistent fashion. Circuit breakers are not a bad idea, but they are not the optimal solution. If you look at the futures, options, and equity markets, all those products are on a convergent path. They are becoming very accessible for individual investors. We just launched futures on Forex, for example. Circuit breakers operate very differently from the way limit up and limit down operate in the futures world. Our thought is, they put limit up and limit down in the futures market after the crash of 1987, and that seems to be working pretty well. So it would behoove us to take a lesson from the futures side and to install a limit up and limit down instead of circuit breakers. We hope the advisory committee considers that. It’s a better solution than just a trading halt.

Part of the reason for that is that with a halt in the equity market you have to reopen the stock, and in the markets today, the opening process is one of the most dysfunctional pieces of market structure out there. All eight options markets have different opening mechanisms. The retail consumer tends to be 10 percent of our market opening. Ten percent of our daily trades happen right at the market open, because retail traders tend to work at another job all day, and they don’t have time to sit at their computer trading for hours. We’ve seen a lot of dysfunction associated with having another opening process stemming from the way the trades are halted and then reopened. With limit up and limit down you are incentivizing markets not to stop trading but to better the market. Clearly it has worked very well in the futures world.

Q: You have already addressed this somewhat, but what positive results do you see stemming from the examination of market structure in wake of the “flash crash”?

A: I’ll elaborate a bit more. I think the May 6 event, as the SEC refers to it, was really a blessing in disguise. We’ve been arguing for some time about detriments to our current structure stemming from high frequency trading and dark pools etc. May 6 brought everything to a peak so that effectively it got the attention that was warranted. There had been talk about those issues in industry circles but there was no broad consensus saying, “Let’s take a look at this market.” May 6 set the wheels in motion for what will probably be more rule making and regulatory changes in our market than we have seen since the crash of 1929. The SEC has considered issues in the Frank-Dodd bill that include 84 sets of rule making they are supposed to get out in 100 days. I’m told that in late September the joint CFTC-SEC advisory committee will release their final report on the May 6 event, and that will contain the final recommendations for the CFTC and SEC to move forward – and possibly turn the concept release on market structure into more formal rulemaking.

Q: SIFMA is opposing regulations that require equal fiduciary standards for brokers. As a former chairman of the SIFMA options committee, do you have an opinion on that issue?

A: That goes back to the Frank-Dodd legislation. That is the piece of the legislation we are probably more concerned with than any other in the bill. It all hinges on the SEC, because Congress and the Senate effectively transferred that duty to the SEC, basically telling them, “Do a complete and exhaustive study in 180 days and tell us exactly what we should do in rulemaking.” We are concerned that the SEC might go as far as to say that if we have a retail client that wants to buy an option, we have to qualify each order before we do it. In that case, we would have to understand exactly what the client’s intentions are behind every order. Can you imagine how profound a change that would be to the industry?

We fully support SIFMA’s viewpoint and even think it may not go far enough.

Q: What first got you interested in the securities industry?

A: It dates back to my early days around 1987, when I was working for Shearson Lehman Brothers. I was a sales assistant at the time and I remember a defining moment. I was sitting at my terminal – I did a variety of back office functions – and it struck me that when the market crashed in 1987, I saw how fear really drove the market down. Back then, there was no Internet, and the only places you could get quotes were CNBC (where they were delayed 15 minutes), or you could call up your broker. I had a Bunker Ramo, a little green screen terminal; I was pulling up a stock quotation and thinking to myself, the average Joe has no chance in this market, no clue what’s really going on. I knew the quotes were about four hours delayed. And I really began to see at that point that the retail investor, the average Joe, didn’t have a lot of transparency or fairness.

There was no concept of price information back then…it was really reserved for the exclusive few who had access. Today I’m very pleased to see that consumers can get real time pricing and instant execution. The playing field is still not level, but we’re getting there.