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'Flash crash' panel mulls big changes to U.S. market

Experts trying to figure out how to avoid another "flash crash" are thinking of making big changes to the U.S. stock marketplace, with one member of a panel recommending fees during times of stress and a crackdown on off-exchange trading.

Robert Engle, a Nobel Prize-winning finance professor at New York University, said in an interview that the panel has not decided on what suggestions it will make to regulators, though he expects them to be set by a Feb. 18 meeting.

The focus, he said, should be that buyers all but vanished during the May 6 market plunge, abandoning investors when liquidity was most needed.

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"Liquidity is the key issue we should be talking about and that the recommendations need to deal with," Mr. Engle, one of eight members of an advisory committee formed by the U.S. Securities and Exchange Commission and the Commodity Futures Trading Commission, said.

During the unprecedented flash crash, the Dow Jones industrial average plunged nearly 700 points before rebounding, briefly wiping out some $1-trillion in paper capital and exposing deep flaws in the high-speed electronic market.

Engle's comments - including concerns over insufficient communication among panel members in the last few months - offer the first clear insight into what the high-profile committee could recommend.

Engle said he has pushed for rules that would come into effect when markets are under duress and in need of more liquidity, allowing exchanges to boost both the rebates they pay for orders as well as the fees they charge traders.

"You would have a peak-load pricing model, much like the way you use peak-load prices to adjust traffic across a bridge or freeway," Mr. Engle said in a telephone interview from NYU's Stern School of Business.

In discussions with a four-member subcommittee, the professor has also recommended a move seen for years by many in the industry as far more radical: a "trade-at" rule.

Such a rule would prohibit any of the dozens of U.S. venues from executing an incoming order unless it was already publicly displaying the best bid or offer in that particular stock, or unless it improved the price by a set amount.

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Trade-at would hit the business of "dark pools," where larger blocks of stock are traded anonymously so investors can hide their intentions from the wider marketplace. Most of the pools are run by banks such as Goldman Sachs Group Inc. and Morgan Stanley.

"The big banks that are internalizing their trades obviously would hate it," Mr. Engle said.

"But basically they already had this captive audience of relatively high quality trades that, it seems to me, ought to be part of the price discovery process," which primarily takes place on the public exchanges like the Nasdaq Stock Market.

While "Sunshine" laws have prevented the committee from regularly meeting, Engle said the subcommittee has discussed sometimes esoteric market structure issues: They include excessive quote traffic, trading curbs known as limit up / limit down, a record of all trading known as a consolidated audit trail, restrictions around unfettered "naked" access to markets, and co-locating computers next to exchanges. They also include high-frequency algorithmic trading, he said.

Still, there has been "very little" communication among the full, eight-member committee in the last few months, Engle added. "We haven't had as much communication as would be desirable."

Regulators, under pressure to calm investors' anxiety after the crash, formed the committee five days later, on May 11. The Feb. 18 meeting will be its fifth.

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Several other committee members declined to comment.

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