Compliance

01:46 PM
Connect Directly
Facebook
Google+
Twitter
RSS
E-Mail
50%
50%

Facebook IPO Leads SEC to Scrutinize Nasdaq's Systems

The watchdog is investigating Nasdaq's computer systems and processes related to the flawed Facebook IPO on May 18. Will the regulator demand system upgrades?

As part of an ongoing probe into the technical glitches that marred the handling of Facebook’s IPO by the Nasdaq Stock Market, the Securities and Exchange Commission is scrutinizing the electronic stock exchange’s computer systems and processes.

According to unnamed sources in today’s Wall Street Journal, regulators are considering demanding that Nasdaq agree to revamp its processes for developing, changing, testing and implementing the computer code used in initial public offerings and other exchange functions. Described as a “deepening inquiry,” the article, “SEC Could Seek Nasdaq Upgrading" suggests that regulators at the SEC could require Nasdaq to upgrade its computer systems and overhaul its operations and technology processes, which would increase the exchange’s costs.

Any regulatory mandate criticizing Nasdaq’s computer systems is a stinging reprimand given that Nasdaq has touted its image as the inventor of the electronic stock exchange, which began in 1971 and as having the fastest matching engine for executing buy and sell orders based on the INET electronic trading platform, which it acquired from Instinet in 2005. As the article notes, with its emphasis on technology, Nasdaq has been able to attract listings from some the most innovative companies in Silicon Valley including Microsoft, Apple, Cisco, Google and most recently Facebook, the high profile social network.

The news of the SEC review also turns up the heat on Nasdaq’s CEO Bob Greifeld who was trapped in a plane traveling from Facebook’s headquarters in California back to Newark, New Jersey, for five hours and was unable to communicate with his technology team while the technology breakdowns continued that day, including a two-hour delay in printing trade confirmations.

However, in a widely covered speech last weekend, Greifeld shifted the blame for the Facebook IPO to the exchange’s technology department, noting that staffers “suffered arrogance” and “overconfidence” with respect to the Facebook IPO. Greifeld also admitted, “ We did not have enough business judgment in the process.”

But Nasdaq seems to be a few steps ahead of regulators. Earlier this month, as part of its own internal review of what happened, Nasdaq hired IBM to review its technology systems. The exchange group’s executives are also said to be reviewing their own management structure particularly that of the operations and technology group headed by Ana Ewing, people familiar with the matter told the Wall Street Journal.

Ewing, who is EVP over operations and technology since 2005, and was among the top chief Information officers profiled in Wall Street & Technology’s Gold Book for 2007 —has responsibility for overseeing Nasdaq’s own trading technology as well as products it sells to brokers. Some executives implied that her responsibilities “are too broad for any manager,” according to the Wall Street Journal.

With regulators peering over their shoulders, Nasdaq’s executives could make changes in the structure and personnel of the technology department. Before making any changes in management or personnel, however, Nasdaq officials are expected to discuss their plans with the SEC in the next few weeks, according to today’s article.

While it’s pure speculation to suggest that any management upheaval is imminent, Nasdaq’s handling of the flawed Facebook IPO is under the microscope as it has been blamed for damaging investor confidence in the stock market.

An opinion survey conducted by Tabb Group and released last week, found that the impact of the Facebook IPO on investor confidence is almost as great as the May 6, 2010 Flash Crash. Whereas 39 percent of the Wall Street sources surveyed by Tabb said the Flash Crash had the greatest impact on investor confidence, 37 percent pointed to the Facebook IPO. Forty-four percent said technical errors that led to delays, unfilled orders, cancelled trades and eventually the loss of revenue was the most concerning factor. Exchange operators will now be challenged to prove that their systems and infrastructure are sufficiently robust when bringing IPOs to market, survey respondents told Tabb.

While Nasdaq is not the first exchange to have problems with its systems, it is the second exchange to have an IPO debacle in the past few months. In March of this year, BATS had problems with its own IPO trading on the BATS exchange, making the decision to withdraw it. In October 2011, the SEC sanctioned Direct Edge for violating transaction rules when it fixed erroneous trades stemming from its “untested computer code,” the Wall Street Journal noted.

But as a result of IBM’s review, Nasdaq could face major cost increases if it has to overhaul its computer systems and increase its maintenance expenses, the Wall Street Journal pointed out. IBM’s review could also force Nasdaq to beef up its technology and double its tech spend on upgrades over the next several quarters, suggested Stifel Nicolaus & Co.'s analyst Mathew Heinz in the article, who estimated that Nasdaq spends $10 million a quarter on upkeep.

Raising technology expenditures in the current low-volume trading environment could be painful for CEO Greifeld who is known as a cost cutter. Greifeld is said to be very frugal when it comes to travel budgets and refusing to replace worn office furniture, and reportedly plans to cut an additional $50 million in costs this year.

Since the SEC has power to order licensed exchanges to shore up weaknesses in their systems and internal controls, the CEO may have no choice but to reverse course and go on a technology shopping spree.

Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio

Comment  | 
Print  | 
More Insights
Register for Wall Street & Technology Newsletters
White Papers
Current Issue
Wall Street & Technology - July 2014
In addition to regular audits, the SEC will start to scrutinize the cyber-security preparedness of market participants.
Video
Stressed Out by Compliance, Reputational Damage & Fines?
Stressed Out by Compliance, Reputational Damage & Fines?
Financial services executives are living in a "regulatory pressure cooker." Here's how executives are preparing for the new compliance requirements.