Chapter 13 - Trading Desk Supervision (v1.2)

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Questions and Answers

What is the purpose of the Order Protection Rule (OPR)?

To promote fairness in the market and maintain investor confidence. (correct)

To eliminate the need for market participants to have policies.

To ensure transparency in trade executions.

To allow inferior-priced limit orders to be executed first.

What responsibility do marketplace participants have regarding directed-action orders (DAOs)?

They are exempt from trade-through obligations altogether.

They must ensure all orders are executed at any available price.

They need to implement policies to prevent trade-throughs. (correct)

They should not enter DAOs that limit market access.

What do Smart Order Routers (SORs) do?

They automatically analyze and distribute orders for the best execution. (correct)

They restrict order execution to one specific marketplace.

They prioritize the execution of inferior-priced orders.

They are designed to reduce execution costs for the participant.

Under best execution requirements, what must participants strive for?

To diligently pursue orders at the most advantageous terms reasonably available. Signup and view all the answers

What does UMIR Rule 2.1 state about market participants' conduct?

It considers intentional organization to avoid rules as improper conduct. Signup and view all the answers

What scenario would be considered contrary to just and equitable principles of trade?

Avoiding an obligation to enter an order by having another person trade off-market. Signup and view all the answers

What could be a reason for engaging in manipulative or deceptive trading practices?

To create an illusion of activity in a security Signup and view all the answers

Who bears the burden of establishing policies to prevent trade-throughs under OPR?

The marketplaces themselves. Signup and view all the answers

What does the term 'best execution' imply for a participant?

Diligently seeking the best available execution terms for client orders. Signup and view all the answers

What constitutes a fictitious trade?

Activity among a limited number of accounts at a common price Signup and view all the answers

Which of the following best describes wash trading?

Creating trades without any change in ownership Signup and view all the answers

What is a primary goal of implementing the OPR?

To elevate investor confidence through fair execution practices. Signup and view all the answers

Which activity could complicate the detection of manipulative trading practices?

Unintentional wash trading between unrelated business units Signup and view all the answers

What is matched trading characterized by?

A purchase order aligning with a separate opposite order in size and timing Signup and view all the answers

What should compliance officers focus on when evaluating potential manipulative trading?

Patterns of transactions suggesting non-bona fide orders Signup and view all the answers

What might result from deceptive trading practices in the stock market?

An artificial increase in stock or portfolio valuation Signup and view all the answers

How do regulators typically respond to unintentional wash trading?

They often tolerate such activities in certain cases Signup and view all the answers

Under UMIR Rule 2.2, what implies manipulative or deceptive market activity?

Market activity not resulting from bona fide orders Signup and view all the answers

Which of the following practices is least likely to be considered manipulative or deceptive trading?

Trading shares within ordinary market conditions Signup and view all the answers

What action must a broker-dealer take after failing for 13 consecutive settlement days in a threshold security close-out?

Deliver the position by buying the securities in the market. Signup and view all the answers

What is the consequence for a broker-dealer who fails to buy in the required securities?

They are prohibited from accepting additional short sale orders until the fail is resolved. Signup and view all the answers

Which of the following is considered front-running?

Trading ahead of a client order that is expected to affect market price. Signup and view all the answers

For front-running to occur, what must a participant possess?

Specific knowledge of a client order and expectation of its market impact. Signup and view all the answers

What is a requirement for a dealer member acting as principal in a client trade involving standard trading units?

The dealer must offer a better price than what could be obtained on any marketplace in Canada. Signup and view all the answers

Which of the following actions is prohibited during front-running situations?

Entering a principal order for the security or related security. Signup and view all the answers

How do front-running rules extend beyond direct trading?

They include trading of related securities and derivatives like options and futures. Signup and view all the answers

What condition must be fulfilled before a firm can act as principal on a listed equity?

The client must gain at least the same financial benefit as through an agency trade. Signup and view all the answers

What must chief compliance officers be aware of regarding principal trades?

The legal and regulatory implications of acting as principal. Signup and view all the answers

Which scenario would not be classified as front-running?

A firm acts on general client preferences without specific details. Signup and view all the answers

How should clients be informed about the potential for principal transaction engagements?

They typically receive a notice when they open an account. Signup and view all the answers

What best describes the primary objective of rules against front-running?

To prevent market manipulation based on confidential client information. Signup and view all the answers

What must a Participant do if trading intentionally crosses as principal?

They must give the client a better price than what is available on any marketplace in Canada. Signup and view all the answers

What is required before a broker-dealer can accept additional short sale orders after a fail?

They must resolve the fail by borrowing or contracting to borrow the security. Signup and view all the answers

What should the person accepting a trade order do if it is expected to result in a principal transaction?

Ask for the client's consent to act as principal. Signup and view all the answers

What is the primary focus of the minimum trade desk compliance procedures under UMIR Rule 7.1?

Periodic review of proprietary and employee trades Signup and view all the answers

Which of the following best defines 'best execution' as stated in the ATS Rules?

The most advantageous execution terms available under the circumstances Signup and view all the answers

What is a key factor that must be considered when assessing whether a trade could affect the market?

The liquidity of the security being traded Signup and view all the answers

What obligation do dealers and advisers have under the ATS Rules regarding best execution?

To make reasonable efforts to achieve best execution Signup and view all the answers

What does the client priority rule address when considering PRO trades?

The timing of trades in relation to client orders Signup and view all the answers

Which aspect of trading does best execution NOT typically include?

Execution speed of the order Signup and view all the answers

What might warrant closer scrutiny of a PRO trader's actions regarding thinly traded securities?

The timing of trades in comparison to client orders Signup and view all the answers

What is a common misconception about best execution?

It solely focuses on achieving the lowest price for a client Signup and view all the answers

Which of the following is NOT a factor in assessing best execution?

The size of the market capitalization of the security Signup and view all the answers

What does front-running address in the context of trade review procedures?

Trading based on non-public information for personal gain Signup and view all the answers

Study Notes

Order Protection Rule (OPR)

The Order Protection Rule (OPR) was implemented in 2011 and mandates that all immediately accessible, visible, better-priced limit orders are executed before inferior-priced limit orders.
This rule aims to maintain market fairness and investor confidence by rewarding investors who contribute to price discovery.
Marketplaces are responsible for implementing policies and procedures to prevent trade-throughs.
However, directed-action orders (DAOs) are exempt from these trade-through prevention obligations.
Participants entering DAOs are responsible for implementing their own policies to prevent trade-throughs.

Best Execution

The "best execution" principle requires participants to diligently seek the most advantageous execution terms for client orders, considering all relevant circumstances.
Smart Order Routers (SORs) are now standard for dealers, automatically assessing multiple marketplaces (exchanges and ATSs) to find the best execution.

Just and Equitable Principles of Trade

Business must be conducted openly, fairly, and according to just and equitable principles of trade.
These principles act as a general anti-avoidance provision, preventing participants from intentionally circumventing rules through business arrangements.
An example of violating these principles is avoiding order entry obligations by using another person to trade off-market without a valid exemption.

Manipulative and Deceptive Trading

Manipulative or deceptive trading violates UMIR Rule 2.2 and CIRO rules.
It involves activities that create an illusion of market activity, generate interest, or attract order flow.
It also includes activities that manipulate prices for valuations or deceive other participants.

Examples of Manipulative and Deceptive Trading

Fictitious trades involve excessive activity among a limited number of accounts, especially at a common price.
Wash trading involves creating trades with no actual change in ownership, particularly between inventory accounts.
Matched trading is a variation of wash trading where two individuals place offsetting orders with the same size, price, and time.

Front-Running

Front-running is a prohibited activity where a participant uses knowledge of a client order that could affect the market price to benefit themselves or a third party before executing the client order.
It involves trading ahead of a client or benefiting from confidential information about client orders.

Types of Activities Prohibited during Front-Running

Entering principal or non-client orders for the security or related securities
Soliciting trades in the security or related securities
Informing others (except in the necessary course of business) about the client’s order.

Client Priority Rule

The client priority rule addresses potential conflicts when a proprietary trader (PRO) enters an order around the same time as a client.
The PRO must make appropriate trade declarations and ensure their order doesn't adversely impact the market, especially in thinly traded situations.

Principal Trading

Dealer members can act as principal in order execution with specific conditions.
Clients must be informed about the principal basis of the trade on the confirmation.
The client must be provided with a price as good as, or better than, an agency trade for listed equities.
UMIR Rule 8.1 governs client-principal trades on public equity marketplaces.
For trades of 50 standard trading units or less, the participant must offer a better price than any Canadian marketplace for trades that are intentional crosses.
Client consent is generally required for agent-to-principal trades.

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Description

This quiz covers the Order Protection Rule (OPR) and the best execution principle in financial markets. Learn about the mandates and implications of OPR, as well as the importance of Smart Order Routers in achieving the best execution for client orders. Test your understanding of these critical market concepts.