Sunday, 13 August 2017

IEX fee regression

Public exchanges are meant to promote efficient price discovery and risk management. IEX thwarts such efficiencies.

IEX's new fee scheme further damages both price discovery and risk management. Let's meander through this.

The Fall of Icarus, 17th century, Musée Antoine Vivenel
Here is the filing IEX lodged for the fee change:  SR-IEX-2017-27,
"a proposed rule change to increase the fees assessed under specified circumstances for execution of orders that take liquidity during periods when the IEX System has determined that a “crumbling quote” exists" [p3]
That is, IEX is hiking the fees for taking prices, erroneously called taking liquidity, to the maximum fee allowed by the SEC, $0.0030 per share, when their crumbling quote indicator (CQI) goes off 350 microseconds into the future for a period of 2.35 milliseconds into the future, from your external point of view.

Previously IEX used rebates, a subsidised price of zero in this case, for displayed price taking orders that complied with particular volume constraints. Well kind of, if you hit a displayed price, yes free, but maybe for maybe not if hitting non-displayed prices.  Specifically, taking non-displayed prices costs $0.0009 unless,
"Taking Non-Displayed Liquidity with a Displayable Order and at least 90% of TMVD was identified by IEX as Providing Displayed Liquidity (i.e., the Member’s execution reports reflect that the sum of executions with Fee Code L and a Last Liquidity Indicator (FIX tag 851) of '1' (Added Liquidity), divided by the sum of executions with Fee Code L, is at least 90% for the calendar month​)"  [IEX web]
At least that is the old text. IEX has also filed a rule change for this to be specific to a particular MPID: SR-IEX-2017-25,
"Taking Non-Displayed Liquidity with a Displayable Order and at least 90% of TMVD, on a per MPID basis, was identified by IEX as Providing Displayed Liquidity (i.e., the Member’s execution reports reflect that the sum of executions with Fee Code L and a Last Liquidity Indicator (FIX tag 851) of '1' (Added Liquidity), divided by the sum of executions with Fee Code L, is at least 90% for the calendar month)" [p20]
The definition of "TMVD" was also changed to include an MPID reference,
""TMVD" means total monthly volume displayable calculated as the sum of executions from each of the Member's MPID’s (on a per MPID basis) displayable orders during the calendar month." [p19]
The MPID change is to be effective from September 1st, 2017.

Interestingly in this SR-IEX-2017-25, IEX admits it has been charging members incorrectly as it had been using an MPID based formula all along instead of the published and approved member method. Did IEX report the billing violation to the SEC as a separate event? Should the SEC step in and fine IEX for incorrect billing?
"IEX reviewed Member invoices since its launch as an exchange in August 2016 through June 30, 2017 to assess whether any Members were charged fees that differed from those described in the Fee Schedule. In other words, IEX recalculated the Non-Displayed Match Fee and the 90% threshold exception on a “per Member” basis (which is how the Fee Schedule currently reads) instead of on a “per MPID” basis (which is how IEX in practice had been calculating that fee). This assessment identified that nine Members were charged such differential fees in particular months, in some cases more than the fees described in the Fee Schedule and in some cases less than the fees described in the Fee Schedule. In total, seven Members were charged and paid $18,948.54 in excess fees and eight Members were not charged $44,175.28 in fees that should have been charged. Five Members were overcharged and undercharged in different months." [p14]
To add insult to injury, IEX is going after those people it has been incorrectly undercharging for the last twelve months. Bumper bills in September,
"IEX will charge..each impacted member for the net amount..underpaid and will be included in the August 2017 monthly invoices to be sent in September 2017" [p14]
I'm not sure how I'd define great customer service, but this would not be it.

Let's meander back to the main issue of charging the maximum fee possible for CQI conditions. It is not quite as simple as just charging the maximum fee under those conditions. IEX applies some threshold relief. The wording is a little poorly written for a formal document, but the idea is that the big fee applies if you do at least one million shares a month then it applies to the number of taken prices above more the number represented by 5% of the total executions, on an MPID basis.
"At the end of each calendar month, executions with Fee Code Q that exceed the CQRF Threshold are subject to the Crumbling Quote Remove Fee. Otherwise, to the extent a Member receives multiple Fee Codes on an execution, the lower fee shall apply."
" “CQRF Threshold” means the Crumbling Quote Remove Fee Threshold. The threshold is equal to 5% of the sum of a Member’s total monthly executions on IEX if at least 1,000,000 shares during the calendar month, measured on an MPID basis."
"Executions with Fee Code Q that exceed the CQRF Threshold are subject to the Crumbling Quote Remove Fee."
Apart from trying to make NYSE American's task harder, IEX's goal is to prevent adverse selection against price providers.

IEX reports,
"Across all approximately 8,000 symbols available for trading on IEX, the CQI is on only 1.24 seconds per symbol per day on average (0.005% of the time during regular market hours), but 30.4% of marketable orders are received during those time periods, which indicates that certain types of trading strategies are seeking to aggressively target liquidity providers during periods of quote instability. " [p26]
That is, IEX is looking to dramatically increase fees on 30.4% of marketable orders. If you read the bold statement in bold above you might find yourself nodding. IEX overstates this. Remember the CQI applies for 2,000,000 nanoseconds after it is triggered. When the CQI is a true positive, this means that if you want to trade on IEX when the price changes, then you pay a premium.

That is, IEX applies the highest price it legally can to discourage trading around the time the price changes. That is a harsh penalty that impacts the efficiency of both price discovery and risk management. I guess it is just the important times; those times prices change. Why would a trader want to trade at important times? Such an attitude goes against the explicit goals the SEC has memorialized many times with regard to the purpose of the National Market System. Then again, if you're a Franken-pool that prefers dark trading, why not permeate further your destructive to public market interest microstructure.

Another important feature of such a beast is that you can't always really decide in advance if your order will be subject to the CQI as IEX has the benefit of last-look, or looking into the future, within the exchange. You may only know after the event that a CQI applies, but not as you place the trade. Trading with an unknown fee may be less than optimal for some institutions. Best execution obligations are certainly harder. Perhaps it is best not to trade at IEX if you may be inadvertently violating best-ex.

Another amusing aside to the silliness of it all comes from the poor implementation of the CQI. When IEX changed to their new IEX Signal implementation of the CQI, they reported,
"On our example day of December 15, 2016, ... This new candidate formula would have produced about 2 million true positives and 2.1 million false positives." [The Evolution of the Crumbling Quote Signal, Allison Bishop, p28]
IEX has a pretty dumb one-size-fits-all CQI implementation that has more false positives than true positives - according to IEX. False positive domination means the CQI is normally fake news. That is, the majority of the time IEX charges you the SEC's legally maximum possible fee, their invalid rationale is invalid. You couldn't make this up if it wasn't true.

There are also two humorous outcomes relating to IEX's routing implementation. IEX's routed orders may be subject to an excessive CQI fee for a marketable order, particularly large institutional orders. Even funnier, it may perhaps be a best execution requirement that if there are shares available for an order elsewhere, the IEX router should not route to IEX as this will save clients' money due to avoiding the high IEX price taking fees. If IEX does not comply, then you'd hope the SEC will take action against IEX's violation of best-ex obligations. It would be funny to see IEX fined for routing orders to itself. That'd definitely be worth a chuckle.

IEX leaks information by design. It is more subject to latency arbitrage due to its SIP leakage and lack of fair co-lo. It not only prevents trading at price change time with its dark fading orders but now wants to discourage price discovery and risk management with high fees for when trading is needed most - at times of change. What happened to simple and few order types with simple and transparent pricing?

The IEX cult is becoming a lot more like the Flat Earth Society. I wonder if the mainstream media will ever call out IEX's misleading hypocrisy for the hubristic bullshit it truly is?

Happy trading,



PS: IEX, instead of being greedy by taking the fee for yourself, you could generously provide some of it to the price provider. Would that be a compensatory rebate or a kickback?


  1. Interesting post. Its hard to imagine how traders would avoid this fee as they would need to see into the future. Although I guess they could have models that can take the risk of such a fee into account, or perhaps if they are not trading for themselves they could simply pass the additional fee on to their customers.

    One thing you may perhaps have wrong. I don't think IEX has any obligation to provide best-ex routing. As far as I know they route as a routing broker, not as a customer broker. Member brokers using their routing system would retain the best ex obligation. IEX would not have this obligation. If *I'm* wrong, please let me know.

    1. It's an interesting question on where best-ex obligations begin and end. I don't think the SEC really draws a distinction between a routing broker/dealer and a regular broker/dealer who may also route. The requirements around that are not clear to me because as a prop trader my contracts have always been such that I take responsibility for my own decisions.

      Perhaps the question may be dependent on the set-up or contract. If you ask your broker for a specific algorithm, be it a routing oriented one or not, the responsibility to counsel you on using something better may or may not be required or appreciated. I'd think the treatment of the obligation may be similar to the 15c3-5 obligation in transitivity and hierarchy. There is an interesting juxtaposition in that you may allow someone to do something stupid if explicitly asked but are expected to provide best-ex within the context of the instruction. Someone more knowledgeable about best-ex than I will have to fill in this gap.

  2. I don't think a routing broker of an exchange is subject to best ex - only order protection - so they need to route to the exchange showing the best quote (or match). The question would be - how many micros is the CQI? And can a broker order router make a decision in that length of time. So for example - given IEX is in Secaucus and the the longest comms time between Secaucus and other markets is Mahwah, which takes approx 170micros by fiber. Then it becomes difficult for a broker router to react within say 170 micros - so if the CQI is less than say 100 micros, then it becomes very hard for a broker order router (besides IEX) to act in enough time to trigger the 30mil fee.

    So long story short - given the physics of broker algo order routing - it becomes hard for client orders (generated through an algo) to trigger the CQI fee if that CQI time frame is less than 100 micros or even 200.

    Now if the CQI is over a few hundred micros, this issue may be important for all investors using IEX.

    Now Matt - the thoughts about the IEX routers are really interesting - basically you are saying that the clients that may be most disadvantaged by the fee may actually be investors using the IEX router given the IEX router has RT info on all other markets and is closer to the IEX engine. That would certainly be ironic.

    Larry Tabb

    1. Thanks for the comment on best-ex routing. The CQI lasts for two milliseconds after initial triggering in the IEX spec, so it would seem the fee would also apply if crossing the spread a whole millisecond after the market has already moved and not subject to crumbling further. It seems a twisty passage.

    2. > so they need to route to the exchange showing the best quote
      I don't think that they even need to do that. Each venue has NMS obligations. A routing broker would be free to route to any destination knowing those orders should not trade through NBBO. If they do cross NBBO its the away venue's problem.

      This distinction is important because even if IEX has the best displayed quote most other venues will be able to beat that price much of the time with hidden liquidity. All venues need to protect IEX's protected quotes, but no routing broker *needs* to route to IEX. Routing exchanges offer a variety of routing strategies where many of those strategies ignore NMS quotes. IEX for example offer a routing strategy (called "Route") that will always route the entire order as to their own book first, then sweep the street. Sweeping the street does not need to mean routing to displayed NMS quotes. Routing brokers may even route to dark pools.

  3. Several comments:

    1) IEX claims that 30% of marketable orders are received during the 0.005% of the day that CQI is on, however, they have not disclosed what % of those orders are IOCs. If I see the market changing, and I want to bid at the old offer, you can be assured that I absolutely will be sending what they view as a marketable order. We already know that they manage data feeds poorly, which is why they have the speed bump in the first place. So even though I may be trying to rest a visible (or even hidden) order at the new price point, they still may view my order as marketable.

    2) Even if they disclosed what % of those marketable orders are IOCs, it would still be meaningless because of their delayed market data. If I want to enter an ISO bid at an away market because I see the offer has lifted, then I will need to send them a marketable order to remove their stale quote, even though I know that in all likelihood, it will be gone by the time my IOC arrives at their matching engine due to their speed bump. The fact that they have delayed market data necessarily means that they will be getting more of these 'predatory' orders because people need to fulfill their trade-through obligations.

    3) I wonder what % of this order flow (and the resulting executions) are from Exchange routers. The cynic in me believes that this is just another way to try to get customers to route to IEX first, and then let IEX handle all the outbound routing. If you don't route to IEX first, you lose out on potential price & size improvement of trading with their dark orders, and now you will also lose out on the cost of your execution against their lit orders.

    4) Yeah, they can't pass along the extra fee to the liquidity provider who got picked off because they are religiously against rebates. So instead they just keep it for themselves. That's nice.

    5) Dave Weisberger is going to be pissed about this (rightfully so).

    1. Thanks for the comment. I think the mainly false positive aspect is especially interesting in this regard. The intersection of false positives and actual trades may not fall to such a false majority but it would still be troubling to know that you've been charged an excessive fee for no reason.

      It will be tricky to work out apriori if your marketable order may be subject to the fee adding to the risk of sending a marketable order there. Also, as the CQI lasts for two milliseconds by definition, you may pay the fee for sending a marketable order after the market has moved too, charging you an excessive fee just because you need to manage your risk at the time of a price change even though it is a fresh price you may be interacting with and not a stale price. IEX has also made changes to the CQI that have been immediately applicable making the job of juggling sensible decision making and routing harder.

      The poor quality of the CQI across many different types of stocks makes it all a bit silly to me. It feels like a strange mix of voodoo and pseudo science.

    2. According to page 17 of the linked paper, a majority of trades happen during true positives, and even trades during false positives are negatively skewed for the passive side after 1 second:

      "The 21% of trading volume in our data set that occurred in periods where the signal was on breaks down into 14% while the signal was on and correct (true positives) and 7% while the signal was on and incorrect (false positives). For trades that occurred during true positive
      signals, 12% were favorable (by volume) while 88% were unfavorable. During false positive signals, 47% were favorable while 53% were unfavorable."

      Seems they want to incentivize market makers by reducing their exposure to prop electronic eye takeouts. As long as it's within the rules, I don't see how tweaking the take fee for certain activity is any better or worse than other methods of incentivizing liquidity: rebates in general, tiered rebates for passive/active volume, DMM priority, bulk quoting interfaces, market maker exemptions on naked short selling.

      Firms running takeout trades aren't pernicious--they do provide liquidity to natural resting orders that want a fill and keep prices efficient, but market makers, broadly speaking, don't want these fills. The CQI is so crude that even the dumbest market maker is trying to reprice. Why on earth would you provide on IEX for no rebate as Nasdaq and BATS are wiped out? They get picked off because one taker out of many is a few hundred nanoseconds faster reaching a matching engine with non-deterministic gateway jitter. In response, market makers start quoting wide, cutting size, or simply shutting down. Ideally, an exchange would provide tight nanosecond level priority for order processing, but some are unable to achieve this level of precision.

      However, unless IEX passive liquidity is mostly provided by professional market makers, this could end up hurting market share. Natural orders don't live and die by spread capture. Fill rates matter and they sometimes like being picked off.

  4. "In response, market makers start quoting wide, cutting size, or simply shutting down. Ideally, an exchange would provide tight nanosecond level priority for order processing, but some are unable to achieve this level of precision."
    I don't think there is any trading venue that has the technology to preserve order entry priority at the nanosecond level. Sub microsecond seems more plausible, but I haven't heard of anyone doing it.

    1. CME has a few nanoseconds of jitter in their FPGA based gateway products. They timestamp at the entry point to determine priority which is a good way of simplifying and applying fairness to the priority process.

      FWIW CERN's White Rabbit, which is open source in part, allows sub-nanosecond timing over Ethernet for around 1000 nodes on cabling that is up to 10km in length. It's about a decade old now with the thought process behind it starting in 2006.