Death Blow to DayTraders

I was trying to figure out why the NASD would propose such a rule. It seems to me that by limiting the number of would-be traders and investors, it would reduce the amount of commisions and 12b-1 revenues for their members. Seems counter-intuitive.

Then it kinda occured to me. Here's my best assumptions:
1----
Most online brokerage firms that charge a low commision, usually charge a commision that just covers the ticket clearing charge. If memory serves me, ticket charges from clearing firms were about $7 to $20 depending on volume. (One brokerage I worked at, was charge $16 per ticket)
2----
Because commissions barely cover the cost of the account, other revenue streams are used. The three most common are (a)selling the flow (b)12b1 fees from the money market accounts. (c) margin interest fees

If I remember correctly, margin interest is normally calculated on a daily basis. If the margin position is not held overnight, then there is no margin interest. (I believe this is true but perhaps someone else can check)

As some of you may know, selling order flow is not very profitable these days. And brokers that do it are often frown upon.

12b1 revenue for the broker are generated for the cash that's swept into the money market nightly.

So it makes sense that the new rule calls for holding positions overnight. That way brokers can charge the interest.

As for the $25,000 minimum. If I remember correctly, the break-even on accounts (as least for the last brokerage I worked at) where the 12b1 fees would cover the clearing firm's monthly charge (clearing firms charge the introducing broker a monthly charge per account) was about $12-16K.

I've worked for a few brokerages but never a discount brokerage so this is my best guess.

I really have doubts that the NASD was looking out for the best interest of investors with these new rules. I suspect that it's to increase the profit potential of their members.
 
zboy thanks for the reply i am a newbie,well at least i dont
lost the margin account i will use cash only then, i better dont touch the margin buying power.
 
Hello Traders,

thanks for this informative thread about this scary topic.

But now I have some questions:

1. greydeath101, you told us, that this rule will become reality in 6 months, not earlier. Are you sure? Where did you got this information?

2. If a trader has less than 25000$ and does less then 4 daytrades in a 5-day period, so he is not marked as a daytrader, so he could then use margin and is able to short stocks, right? But how much could he borrow then? Could he borrow then the 4 times of his amount? If he has only 500$, he could then short for 2000$ ??? :) It would be really crazy.

3. Why you all say, that a trader could do 3 trades in 4 days before he is marked as a daytrader?

The rule say: "The rule defines a day trader as someone who buys and then sells stock in one day, known as ``round trips,'' four times over a five-day period"

So if a trader does 3 daytrades in 4 days, and on the fith day he does a daytrade too, then he is marked as a daytrader, isn't he? So a trader could make 3 daytrades in 5 days, not 3 daytrades in 4 days. Or am I wrong?

Many thanks for your answers and excuse my "german" english ;)

Greeting from Germany

Merkur


 
The actual proposed rule is here for anyone that hasn't read it yet.

http://www.sec.gov/rules/sro/nd0003n.htm

The rule coincides with a study that the SEC conducted on daytrading in Feb of last year. It was interesting to me that the study noted that:

<i>"The SEC has received relatively few complaints from the public concerning day trading. In calendar year 1998, the SEC's Office of Investor Education and Assistance ("OIEA") received a total of 10,326 complaints, of which only 37 (or 0.36%) involved day-trading broker-dealers. For calendar year 1999, OIEA received 73 complaints related to day-trading firms (0.56% of total complaints received)"</i>

The study can be found here:
http://www.sec.gov/news/studies/daytrading.htm

BTW - I'm not able to find any other confirmation about the article on CNET that greydeath posted. The SEC site does not list the rule as final.

Bloomberg was the only wire service that had the news. I couldn't find it on AP or any of the DowJones wire services.

I'm hoping that maybe it's a misprint. :)
 
I haven't tracked down a final version of the new margin rules, but if it contains the same definition of a "pattern day trader" as in the proposed version, then the new rule's reach may not be avoidable by limiting the number of day trades within a given period, as suggested on this board.

Under the proposed version, a "pattern day trader" includes a person whose broker "knows or has a reasonable basis to believe that [he or she] will engage in pattern day trading." NASD's explanation of this definition sheds light on its purpose: "A firm would have a reasonable basis for believing that a customer is a pattern day trader if, for example, the firm provided training to the customer on day trading in anticipation of the customer opening an account." I assume this would include a situation in which a firm suggests a training course (e.g., direct-access training) regardless of whether the firm itself provides it or not. It would not be going too far out on a limb to say that every direct-access firm requires or at least strongly recommends order-routing and Level II training. Thus, it would seem that by merely opening an account with a direct-access brokerage a person would be regarded, prima facie, as a pattern day trader without having to make a single day trade. Of course, as the NASD explains, a pattern day trader will no longer be considered as such if he or she does not day trade for a 90-day period. Let it not be said that the NASD is unreasonable.

Whatever the NASD's stated purpose for proposing the new margin rule, the effect will be to raise the ante required to sit at the daytrading table. One need not be a cynic to believe that the rule, being proposed by the NASD, is meant to benefit NASD members. But what of the SEC approval? Evidently, the letters of traders who claimed that they would be put out of business by this change were ineffective. The farmer, it seems, is controlled by the foxes.

Many will be hurt when the new rule goes into effect. They include not only current traders whose accounts won't measure up to the new arbitrary standard, but also potential traders who may be unable to get into daytrading when it becomes unequivocally accepted by the hoi polloi as a viable profession. But I also believe that even traders whose accounts measure up have reason for concern. The 4:1 daytrading buying power is being welcomed by some, but I believe it came at a cost.

In the proposed form, the NASD introduces a new method for calculating daytrading. Daytrading margin may be computed as 25% of either (i) the COST OF ALL DAY TRADES made during the day or (ii) the highest (dollar amount) open position during the day. Method (ii) is the current basis for determining buying power and is what allows the churning of capital that makes daytrading viable; that is, the repeated buying and selling of stock with limited capital. Method (i), if it were the only method available, would put out of business all but the highest capitalized daytraders, as it would limit the the number of times an account could be churned. With 4:1 margin, Method (i) would allow a daytrader to churn his or her entire account a maximum of four times per day without triggering a daytrading margin call.

No doubt that the new rule would have been difficult to push through without allowing the current basis for computing daytrading margin as an alternative. But why has it now become the "alternative" rule when it was previously the only rule?

In exchange for allowing 4:1 margin, the market makers have succeeded in barring a small trader from their game. Whether this trade ultimately favors them remains to be seen. But what I wonder is this: Could they be setting us up for an even grander trade?






 
Merkur,

You are correct. I for one mistyped the ratio of trades to days. The corrected comment should be as you stated, namely that you could do 3 daytrades in 5 days and avoid the daytrader distinction.

Regarding the suggestion that one could be slapped with the "daytrader" status by virtue of a brokerage reasonably assuming that a client intends to daytrade, it's possible, and I suppose that it depends upon the brokerage you use. For instance, brokerages that offer direct access such as Datek or Interactive Brokers, but are not hardcore EDAT firms per se, have both traders and investors as clients, so it would be more difficult for such brokerages to make those assumptions without reviewing each client's trading records. There are still so many gray areas with this rule that can be circumvented in various ways (i.e. 3 daytrades in 5 days, what brokerage you use, etc.).
 
As I understand it, I think that as long as you obtain your Series 7 license, you are able to get 10 to 1 margin. Isn't this the case?
 
nytrader,

that's true, but that's a totally different subject matter. In that case you are not in the role of a customer of a retail brokerage at which this new regulation is aimed. Instead you are a firm employee and you're trading firm capital.
 
icarus618, I found your observations very astute. And yes, only time will tell how this new rule will effect the market.

nytrader, as dlincke indicated having a series 7 means that you are an employee of a brokerage and that you are trading the customer's or the firms capital.

I believe that the 10-1 margin you are referring to is not really margin. Regulation-T is quite specific about margin requirements. There are a thread a few months about the topic and you can find it here.

http://www.elitetrader.com/vb/showthread.php?threadid=819

Essentially, these brokerages are have joint back office (JBO) agreements with their clearing firms. The clearing firms "effect and finance transactions" for their jbo participants. Because the jbo participant is considered self-clearing, under reg T, their proprietary securities transactions are exempt from margin rules. It's an interesting legal manuever around reg T. The brokerages are setup typically as LLCs and I believe that each day-trader is a limited partner using their own capital and trading their own proprietary transactions.

There was a series of SEC rules about a year and a half ago that basically said that each day trader in these firms had to pass the series 7. I believe that at the time only reps in sell-side firms had to take the series7, (ie. brokers and ops people that handled customers money)

 
to: greydeath101 or anyone else who knows for sure! you say that you just found out that this new margin ruling will not be ineffect for 6 months....where can i find that information?........i want to know the exact day of the begining of this new rule...for me(and im sure there are others in the same boat) I need to know, so as to use the remaining time to make sure that i can meet the requirments..thanks, John
 
You must log in or register to reply here.
Back
Top