ModernNetworks’ Quast: Reg NMS Needs Reform Now


Regulation National Market Structure needs reform – and right now. But fixing it could take an act of the Almighty.

That’s the bottom line for the governing piece of regulation that underpins U.S. equity market structure, according to ModernNetworks IR president and founder Tim Quast. In an interview with Markets Media on the heels of the August Equity Markets Structure Advisory Committee meeting, Quast said that Reg NMS was a “lousy idea” in that making all public marketplaces (ie exchanges) be forced to offer a security at the same price was simply silly. In no other market does this unique Reg NMS-feature exist.

“That it was a lousy idea from the very start to create a marketplace which everybody is required to offer the same price. That’s not true in any other market,” Quast began. “If you go to the grocery store and they don’t have the item you want at the best price, they don’t route you out to another grocery store because that one has a better price.”

Ouch. A very true statement that holds true – especially in the current Reg NMS and NBBO world.

Quast said that while Reg NMS sought to make a fair and equal marketplace for all investors to trade in and get the absolute best execution in has done the exact opposite. It has fostered a regime of anti-competitiveness and similarity despite having so-called “lit” and “dark” marketplaces.

“Regulation NMS effectively requires everybody to do exactly the same thing – therefore there is no real distinction among the marketplaces,” he said. “It is not a competitive marketplace at all. It is merely a market place with 13 different nodes of 1 kind and 40 different nodes of another kind in which everybody’s has to behave the same way and trade at the same price. That’s a horrible idea.”


As Quast sees it, by being forced to trade at the same price this places the focus of trading on price. And the focus on price doesn’t lead to the true nature and principle goal of the capital markets – capital formation – but instead promotes arbitrage. This focus on arbitrage is what has, in his mind, given birth to a multitude of problems such as high frequency trading, spoofing, front running, etc.

“Our current market structure says you can trade something that is very liquid one way, and something that is illiquid a different way separate from each other – that’s arbitrage,” he said. “ You can race around to get ahead of people – that’s arbitrage. Then you have incentive to trade where you can capture rebates at one exchange versus another – again, arbitrage. This makes Reg NMS truly a horrible thing.”

And Quast said he wasn’t alone in thinking Reg NMS was such an epic fail. He shared with Markets Media an anecdotal account of his conversation with a top executive at one of the major stock exchanges who acknowledged the shortcoming of the regulation. “yeah, its horrible,” the executive said, “but there’s too much pride of ownership among the regulators.” And given that pride and the amount of time spent on crafting NMS, they are loathe to fix it, he added.

“As far as I’m concerned, fixing Reg NMS will not happen in my lifetime or yours,” Quast said.

But that didn’t mean that Quast didn’t offer suggestions or a plan to modify the legislation to make a better market structure. But in order for the law to be fixed, some sort of large scale market meltdown or catastrophe would have to occur first. Human nature, he said, doesn’t normally change until some failure of established behavior and the same holds true for Reg NMS, it will take some disastrous failure to prod regulators into fixing the national system.

There were two steps to fix Reg NMS if the regulators dare, Quast said.

“First, disconnect all the markets and stop requiring everyone to trade at the best bid or offer,” he said. “The arbitrage goes away and the marketplaces can then compete on merit – traders can trade wherever they want and at whatever exchange they want.”

But he saw this as far-fetched because the regulators would be forced to cede control back to the venue operators and that was just not an option in today’s highly regulated marketplace.

“They’re just not going to do that. Rather I think you’ll get a more piecemeal approach – such as doing away with Rule 611 – the Order Protection Rule,” Quast said. “But in the end, Reg NMS will be with us as long as I’m alive and my grandchildren are as well. If it ain’t completely broke then the regulators won’t fix it.”

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