Another Market Operator Is Charged With Providing An Information Edge

Market integrity and the fairness of the markets is a much discussed topic. The Commission began the week with a day long round table discussion of computerized trading and its impact on the markets. Last month the agency filed a settled administrative proceeding which named the New York Stock Exchange as a Respondent. The proceeding centered on a charge that the exchange provided its proprietary customers and informational edge by giving them access to its market data before making it available to the public. Now the SEC has filed another settled administrative proceeding which centers on a charge that again a market operator gave an unfair informational edge to another. In the Matter of eBX, LLC, Admin. Proc. File No. 3-15058 (Oct. 3, 2012).

eBX is a registered broker dealer. It operates LeveL ATS, an alternative trading system. LeveL is marketed as a dark pool trading system. Subscribers are told that the system maximizes liquidity and provides best execution, all while minimizing information leakage and market impact. Its subscribers are all broker dealers.

LeveL outsourced its operation to a third party technology company identified in the Order only as Service Provider. That firm executed an agreement with LeveL for the services. The Service Provider also had a separate order routing business unit through which it sold order routing services to its own customers. It is identified only as Order Routing Business.

Beginning in 2008, and continuing through early 2011, Order Routing Business was permitted to remember LeveL information in its router regarding the unexecuted orders of LeveL subscribers. That information was then used to make routing decisions for its benefit. This permitted the firm to route an order in a manner which significantly increased its change of obtaining an execution. Because of this informational advantage the Order Routing Business was able to obtain a much higher fill rate for its orders than any other LeveL subscriber and avoid situations where a fill was less likely. This informational advantage was touted in marketing materials, which stated that the firm “provided a private market data source, which was known only to the Router . . .”

The percentage of fills obtained by the Order Routing Business significantly eclipsed that of other LeveL customers. From May 2008 through June 2009, according to the Order, the Order Routing Business’ LeveL IOC orders had fill rates ranging from about 30% to 70%. Other LeveL subscribers had fill orders of about 1 – 2% for their IOC orders. According to the Order, during this period “the Order Routing Business accounted for approximately 1 to 2% of all IOC shares directed to LeveL, while its executed IOC shares were between 16 and 39% of all IOC shares executed at LeveL, which accounted for between 4 and 11% of all shares executed in LeveL.”

Regulation ATS or Alternative Trading System was violated by permitting the Order Routing Business to remember the confidential information from LeveL, according to the Order. Rule 301(b)(10) of Regulation ATS requires an alternative trading system to establish adequate safeguards and procedures to protect subscribers’ confidential trading information. The Rule also requires that there be adequate procedures and safeguards to ensure the procedures are followed. Here LeveL failed to comply with this Rule. Despite outsourcing its operation, LeveL remained responsible for compliance. The firm also failed to inform or notify its subscribers regarding the use of their information. In addition, LeveL failed to amend its Form ATS to disclose its information sharing arrangement until 2011 and to correct other inaccuracies.

To resolve the proceeding eBX consented to the entry of a cease and desist order based on Rule 301(b)(2) and 301(b)(10) of Regulation ATS and to a censure. The firm also agreed to pay a penalty in the amount of $800,000.

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