NYSE Pushing for "Nickelization"

February 15, 2001 (PLANSPONSOR.com) - The New York Stock Exchange (NYSE) is planning to ask the Securities Exchange Commission (SEC) to trade in 5-cent price increments rather than in pennies after suffering some strong complaints from buy side traders, PLANSPONSOR.com has learned.

The SEC is reportedly receptive to the change, according to sources. 

The move is being planned after some large mutual funds complained they are not finding enough liquidity at any one cent price level to execute their large orders in a moving market.

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Sources said there are two main reasons for this:

  • Under the fraction system, there were 16 price levels in a one-dollar move to accommodate large traders, but under decimalization there are 100 such point options. As a result, large orders are being broken down into smaller orders which increase the paperwork burden and also aggravate the search for liquidity.
  • The NYSE’s auto-quote system automatically matches orders, but does not display them on customer’s screens. As a result, large traders are unable to see the depth of the market at any one price.

The situation has gotten so bad in terms of fragmented liquidity that NYSE volume is down 4% which is causing consternation at the exchange.  More volume is being routed to Electronic Communications Networks and alternative crossing systems, such as POSIT and Instinet, sources said.

What’s Best for Investors?

The  move to change minimum price increments also points out the regulatory dilemma of trying to institute a structural trading change which is good for individual investors, but is bad for large traders, such as mutual funds.

As the SEC intended, some professional traders admit most individuals benefit from penny price differentials.  For instance , an individual who buys 1000 shares can often get two tranches done at a one-cent increment which may save them $10 to $20 due to the penny price separation.

But the vast majority of trading by individual investors is done through mutual funds and brokerage house which have to break up large orders and suffer the price and paperwork  consequences, according to according to Jim Kelly, who provides direct NYSE floor access to side traders for Henderson Brothers. As a result, Kelly said the move to a nickel price increment would be “a good thing” since it  could facilitate large trades and enhance liquidity.

While earlier new accounts also noted that floor specialists were “pennying” large customers by moving as price in one cent increments ahead of large limit orders, another floor source said that the real culprits were hedge funds which had no constraints on their trading activities. Specialists, the source said, are under closer scrutiny to make orderly markets and “pennying” would have raised a red flag, she said.