Direct Market Access (DMA)

Background:

Direct Market Access (DMA) tools permit buy-side traders to access liquidity pools and multiple execution venues directly, without intervention from the sales side and/or Broker’s Desks.  DMA has existed in different forms for many years, but has not been formally or specifically regulated by the SEC and other governing bodies.  The DMA industry has morphed into what is most commonly referred to as High Frequency Trading.  Platforms now possess the ability to initiate and send between hundreds and thousands of orders per second.  This ability, also allows the buy-side to trade at a lower commission rate than traditional Program Trading which allows for block trading.

Basic Evolution of DMA:

As DMA has evolved over the last decade, there are two distinct, foundation classifications:

  • “Traditional Model”:  requires the customer to transmit their order first to a clearing firm’s centralized Order Rousting System which then delivers it to the designated exchange.  This was the first step where phone calls to the broker were eliminated.
  • “Pure Model”: Today, the DMA model often referred to as the Pure Model..
  • This has led to the birth of an entire New industry called High Frequency Trading.   In this model, the order bypasses the intermediary’s infrastructure completely and goes directly to the exchange’s platform, thus reducing the amount of stops and overall latency.
  • This has led to the expanding concerns and attention of many regulatory bodies, most recently being the SEC.

DMA Nicknames:

  • Broker Sponsored Access;
  • Naked Access;
  • High Frequency Trading;
  • Pure Trading;
  • “Black Box” trading strategies; and,
  • Unfiltered Access.

Governance and Regulatory Changes:

  • The impact is global in nature.
  • On October 27, 2009, SEC Chairman Mary Schapiro announced that she has initiated a program to create and implement “Sponsored Access” specific rules.
  • The SEC Chairman also announced that the SEC has been working with NASDAQ to devise a broader rule concerning DMA for over one year.  Any rule adopted by NASDAQ would be implemented by other exchanges and their associated markets to prevent varying treatment of DMA arrangements.
  • On October 19, 2009 NASDAQ submitted a 54 page amendment to it’s rule proposal.
  • NYSE Euronext has long held the position that their exchanges operate on an uneven playing field as compared to ECN’s which don’t have to go through the same extensive filing process that is required.

High Priority Risks:

  • This has existed for over seven years, but DMA is now officially under a microscope.
  • New regulatory rules and controls are in the process of being developed and will soon become requirements that must be met.
  • Huge reputational risk exists with non compliance, which then could cause a negative fiduciary impact.
  • Just as the industry learned with Sarbanes Oxley, being proactive, creating and implementing a compliance pro-gram, identifying your specific risk exposure, and implementing necessary mitigating controls is imperative.