Backing Away

The term backing away refers to the failure by a market maker in a security to honor the quoted bid and ask prices for a minimum quantity. Backing away constitutes a serious violation of industry regulations. NASD Regulation Inc. uses an automated market surveillance system to enable the resolution of backing-away complaints in real time. Backing away is usually frowned upon, and can lead to disciplinary action against the market maker who has backed away.

Let’s say that an investor wants to buy 1,500 shares of Company X. Bank Y is the market maker for this stock, and advertises at 9:00 a.m. on Tuesday that the bid for Company X’s stock is $35.67, and its asking price is $36. The investor places an order to buy 1,500 shares at $36, but Bank X suddenly backs away from the price, claiming that the bid is now $35.97 and the ask is now $36.50. This is in violation of the firm-quote rules established by the SEC, FINRA and other regulatory bodies that require market makers to execute orders at their displayed quotation, and could result in disciplinary action.

However, there are some circumstances under which a market maker does not have to abide by these firm-quote rules. One such circumstance might be if the market maker sends a quote change to the exchange before an investor presents an order. Another might be if the market maker is in the process of filling an order and changes the stock price before it is, or should reasonably be, aware that another order has been placed; it does not have to fill the new order at the old price.

Backing away constitutes a breach of SEC Rule 11Ac1-1 or the firm quote rule, which requires a market maker to execute an order presented to it at a price at least as favorable as its published quotation, up to its published quotation size. A potential backing-away complaint has to be brought to the attention of the Market Regulation Department within five minutes of the alleged offense. Otherwise, it may be difficult for department staff to obtain a contemporaneous trade execution from the market maker.

NASD Regulation does not pursue immediate disciplinary action for an individual backing-away complaint where a contemporaneous trade execution from the market maker is obtained or offered. However, department staff keep a record of such transgressions, and repeated non-compliance with the firm quote rule could result in disciplinary action.