SEC and NASDAQ settle on Facebook penalty

By Quantum Capital Fund

A settlement in what has become the largest ever penalty imposed against a stock exchange, was reached on May 29, when the Securities Exchange Commission accepted a $10-million settlement figure from NASDAQ in settlement for its botched Facebook IPO, which occurred in May 2012.

The fine was imposed on NASDAQ because of a failed algorithm, which caused a millisecond delay in the shares trading. This was due to the exchange being flooded with orders for the stock and as a result causing a delay. Although it was a short delay, in a modern investment world which is stringently defined by time, such delays have significant effects.

Technology website arstechnica.com gives a more detailed explanation by the SEC regarding the delay: Because the share and volume calculations and validation checks occur in a matter of milliseconds it was usually possible for the system to incorporate multiple cancellations (and intervening orders) and produce a calculation that satisfies the validation check after a few cycles of calculation and validation. However, the design of the system created the risk that if orders continued to be cancelled during each re-calculation, a repeated cycle of validation checks and re-calculations—known as a “loop”—would occur, preventing NASDAQ’s system from: (i) completing the cross; (ii) reporting the price and volume of the executions in the cross (a report known as the “bulk print”); and (iii) commencing normal secondary market trading. This risk was greatest during crosses in which a large volume of orders and cancellations were submitted in rapid succession during the brief period of the cross calculation process.

This should be a wakeup call for the NASDAQ as it is one of the biggest alternative indexes in the world, which carries significant appeal. Should other technology companies want to trade on NASDAQ, the index needs to upgrade its systems in order to cater for the associated demand. There are a number of companies who are lining themselves up for a NASDAQ launch, the biggest of which is Twitter, which some industry analysts believe will prove to be bigger than Facebook’s IPO.