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Decimals May Cause Nasdaq Capacity Problems
By Jeremy Pelofsky   Reuters
WASHINGTON — The Nasdaq stock market may have serious problems handling the enormous increase in quote traffic when the switch to decimals from fractions is made later this year, the General Accounting Office warned Wednesday.

A study, conducted by a private consulting firm and cited in a GAO review presented to a Congressional panel, projected that message traffic for stock and options quotes would likely rise dramatically when decimal trading begins.

"They're having trouble processing their current demands without decimal trading so there are things Nasdaq is going to have to do to ready itself for decimals," Davi D'Agostino, acting associate director for financial institutions and market issues at the GAO, told the panel.

Nasdaq will not be able to participate in two industry-wide decimal trading processing tests which are slated for April and May, and a third test had to be scheduled for June to accommodate the market, according to the GAO review presented to the House Commerce Subcommittee on Finance.

Plus, at present there are no industry-wide tests scheduled to evaluate capacity limits, D'Agostino said.

A Nasdaq spokesman said the market was in the process of testing its solutions to convert to decimals in July, and was preparing for trading volumes to hit peaks of almost 3 billion shares.

"Conversion to decimalization is just going to add to this exponential increase in message traffic," said Scott Peterson, the Nasdaq spokesman. "We're in a marathon race to stay ahead of this tidal wave of share orders and so far we've managed to stay ahead of the curve."

Asked whether Nasdaq would be ready for the conversion to decimals in July and August, Peterson said: "We're in the process of testing" and declined to elaborate.

On Wednesday, the technology stock-laden Nasdaq broke another record for trading volume with more than 2.2 billion shares changing hands. The year-to-date average daily share volume is about 1.72 billion shares.

By comparison, the New York Stock Exchange has had an average of roughly one billion shares traded daily and the GAO said the biggest U.S. market appears to be less of a risk for successfully handling decimal trading by 2001.

On Nasdaq, with decimal trading of stocks for a penny, message traffic could rise as much as 700 percent by December 2001, according to the study conducted by SRI Consulting and commissioned by the securities industry trade group.

The study also noted that even without decimals, the peak message traffic for Nasdaq stocks could be 174 percent higher.

Nasdaq's Peterson said that message traffic at the market had increased four-fold the last two years and in the last nine months had risen two-and-a-half-fold.

In January, the Securities and Exchange Commission ordered U.S. securities markets to begin quoting stock and option prices in nickels beginning July 3 in a move to boost competition and give investors the best possible price.

After a month, all stocks would be quoted in nickels and a pilot project would be conducted in which a few stocks would be quoted in pennies to assess the impact.

Nasdaq is not alone in having systems capacity problems, according to the GAO. The Options Price Reporting Authority, which administers the systems used to disseminate trade and price quotation messages for the markets, will also face a tough challenge dealing with the rise in message traffic.

The SRI Consulting study projected that options trading in decimals could lead to a 3,000 percent increase in peak message traffic by December 2001 and even if decimals were not introduced, message traffic would rise 779 percent.

While the progression from fractions to decimals will be staggered, many members of Congress on the panel expressed concern the process was moving too quickly for the industry.

"Due to increased quote traffic that is bound to occur with decimalization, I am concerned about whether or not there is enough capacity in our trading system to handle the new flow of information," said Rep. Edolphus Towns, a New York Democrat and ranking member on the panel.

The switch to trading in pennies and nickels will likely create a one-time cost to the industry of about $907 million and save investors anywhere from $300 million to almost $2 billion annually, GAO's D'Agostino said.

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