Citadel Attacks IEX’s ‘Flash Boys’ Exchange Plans

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PCitadel Comments To SEC – RE: IEX Proposal

Brent J. Fields
U.S. Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549-0609

Re: Release No. 34-75925; File No. 10-222; Investors’ Exchange, LLC; Notice of Filing of Application, as Amended, for Registration as a National Securities Exchange under Section 6 of the Securities Exchange Act of 1934

Dear Mr. Fields:

Citadel LLC (“Citadel”) appreciates the opportunity to comment on the Investors’ Exchange, LLC (“IEX” or the “Exchange”) application for registration as a National Securities Exchange (the “Application”). This letter focuses on certain unique proposed features of IEX. First, IEX proposes to give protected status to IEX quotations despite IEX use of an intentional device that imposes a one-way 350 microsecond and round-trip 700 microsecond delay on accessing IEX quotations (the “IEX Access Delay”). Second, IEX wants to allow certain order types and IEX’s affiliated broker-dealer to circumvent the IEX Access Delay.

The proposed IEX Access Delay and IEX protected quotation status would degrade market efficiency and unnecessarily interfere with trading and quoting on other venues. This damage to market quality would be further magnified by the “fast pass” that IEX proposes to give its affiliated routing broker-dealer (the “IEX Router”) and its pegged order types. It is ironic that IEX—a company supposedly founded to protect investors from various types of latency arbitrage—now proposes to offer pegged orders and IEX Router services that can and will be used by sophisticated trading firms to arbitrage the latency that IEX itself would create.

To make matters worse, although IEX markets itself as a bastion of transparency and fairness, IEX has chosen to remain opaque with respect to critical information about how it will operate. The Application does not explicitly and clearly describe either of these important and selective speed advantages, and other important aspects of IEX’s planned operation.

Approval of IEX’s proposed structure would be an important precedent. Approval would start a race to the bottom as other exchanges would have strong incentives to implement these types of unhealthy mechanisms and could do so very quickly. In addition, the potential uses of selectively applied access delays, like those proposed by IEX, are extensive, and Commission approval would make it difficult for the Commission to disapprove the many new exchange mechanisms that exchanges would be sure to propose using IEX as precedent. Commission approval would also bring into question numerous securities market rules that require market participants to take certain actions promptly and without intentional delay.

The Commission should deny the Application in its present form because: (1) IEX quotations do not qualify as Regulation NMS “protected quotations”; (2) overall market quality and efficiency would suffer if the Commission were to deem IEX quotations to be protected; (3) IEX proposes to unfairly allow the IEX Router and certain order types to circumvent the IEX Access Delay; and (4) the Application does not adequately and clearly describe many important aspects of the Exchange’s planned manner of operation.

I. Quotations Subject to the IEX Access Delay Do Not Qualify As Regulation NMS “Protected” Quotations

IEX will require participants to connect to IEX through an IEX “Point of Presence” (“IEX POP”) that would impose a 350 microsecond delay on member communications sent to the IEX trading system. The IEX POP would also impose an additional 350 microsecond delay on communications from the IEX trading system back to members, resulting in a total round trip access delay of 700 microseconds. Indeed, IEX has extensively promoted this functionality and made it the cornerstone of its marketing strategy. Despite the planned intentional use of the IEX Access Delay, proposed IEX rules would deem IEX quotations to be “protected” for purposes of Rules 600, 610, and 611 of Regulation NMS.

Rule 600 of Regulation NMS provides that to be protected, a quotation must be “immediately and automatically” accessible.6 In the adopting release for Regulation NMS, the Commission explained that “[t]he term ‘immediate’ precludes any coding of automated systems or other type of intentional device that would delay the action taken with respect to a quotation.”

The IEX Access Delay is undeniably an “intentional device that would delay the action taken with respect to a quotation.” Therefore, absent an amendment to Regulation NMS, IEX quotations cannot be deemed immediately and automatically accessible as required by the Regulation NMS Rule 600 definition of protected quotations.

IEX will presumably argue that the IEX Access Delay is no different than the latency that already exists on some exchanges with protected quotations. While it is true that any form of communication has some latency, any such inherent latency is not intentionally created for the express purpose of delaying access to quotations and applies equally to all order types and any exchange affiliated routing broker. In contrast, IEX plans to use a device specifically designed to add a deliberate latency of 350 microseconds in addition to any systemic latency that already exists, and to selectively apply that latency. That is precisely what Regulation NMS Rules 600, 610 and 611 prohibit.

Indeed, IEX has heavily marketed the fact that the Exchange created the IEX Access Delay because IEX has made a qualitative judgment about certain types of market participants and IEX expressly intends to hamper those market participants with the IEX Access Delay. For example, the IEX CEO has said that the IEX Access Delay is intended to “referee trade between fast traders and slow traders by slowing down the fastest traders.”

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