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Incentivizing a Better Market

Traders Magazine Online News, January 5, 2018

Eric Stockland

The goal of IEX has always been to help natural investors better compete by weakening the speed-based edge that the fastest traders have over investors and their agents. Trading is?—?rightfully?—?competitive, but when certain intermediaries can gain an edge based on raw speed rather than real alpha, the quality of the market can be undermined.

This speed-based edge is purchased from exchanges, who have evolved their business models over the past decade from generating trading commission revenue into operating massive data and colocation businesses. Most exchanges’ revenue depends on monetizing speed and complexity, while at IEX, we’ve spent our time and energy trying to blunt those same forces.

To date, many of our innovations in this area have made IEX a destination for high-quality non-displayed trading. This week, we’re launching our latest innovation: a first-of-its-kind fee that is designed to improve all trading, including the experience of displayed orders, on IEX.

First, A Look Back…

Building on IEX’s much-chronicled speed bump innovation, in 2014 we introduced the IEX Signal, also known as the Crumbling Quote Indicator (CQI). We developed this model when we noticed predictive strategies picking off slower investors while prices were in the process of changing; the Signal is a counter-solution that brings those predictive capabilities to investors trading on IEX, helping insulate them from near-instant buyer’s and seller’s remorse. The Signal is now deployed in two of IEX’s order types: the patent-pending Discretionary Peg™ (D-Peg®) and Primary Peg, both of which behave more conservatively when the price is in the process of changing in their favor.

Even though the Signal is only in effect for tiny windows of time?—?about five seconds per symbol per day on a volume-weighted basis?—?over 30% of all marketable orders[1] arrive at IEX during these five seconds. Think about that again: five out of 23,400 seconds in the trading day is 0.02%, yet over 30% of all the marketable orders IEX receives in the course of an entire trading day arrive in that sliver of time. Hardly a coincidence?—?these orders flood IEX and other exchanges in these specific moments of time looking to trade at prices that will likely be stale almost immediately.

This imbalance shows the prevalence of specific strategies that target these periods of time, at the expense of investors. One way to improve the performance of investors, algorithms, and market makers on IEX, then, is to weed out some of the poor trades caused by these opportunistic, predatory orders. If there are fewer bad trades on our books, we believe that IEX’s performance as a venue will improve and rational actors will allocate more of their trading to the venue that is providing better trading outcomes.

The Signal Fee

That is why on January 2, 2018, IEX implemented the Signal Fee.[2]

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