Transaction Reporting And Quotation Obligations Under The Fixed Income Pricing System (FIPS)

Executive Summary

On April 11, 1994, The Nasdaq Stock Market Inc., began operation of the Fixed Income Pricing System^SM known as FIPS^SM for members trading high-yield bonds. FIPS was created to facilitate the over-the-counter trading of high-yield, corporate debt securities rated BB+ or lower by Standard & Poor's Corporation. The goals in the creation of FIPS were similar to those which led to the creation of The Nasdaq Stock Market^SM—to increase information and transparency in the marketplace, thereby encouraging investment and growth.

Reporting Transactions (Market Place Rule 6240A and 6240B)

FIPS securities may be classified into two categories:

The obligation to report transactions on FIPS securities depends on the role of each party in the trade. In transactions between:

• A FIPS dealer and a FIPS broker's broker—only the broker's broker reports the trade



• Two FIPS dealers—only the sellside dealer reports the trade.



• A FIPS participant and non-participant —only the FIPS participant reports the trade.

Quotation Obligations

(Market Place Rule 6230)

If you are actively trading in one or more FIPS mandatory bonds as a FIPS dealer as described in Market Place Rule 6230, you may be obligated to enter and maintain firm quotations into the FIPS system. The failure to quote in accordance with the FIPS rules may result in disciplinary action.

FIPS participants must continuously display firm bids/offers in the FIPS mandatory bonds in which they are actively trading. Quotations may be one- or two-sided and must be reasonably related to the prevailing market in each bond. Quotes must reflect a minimum size of 100 bonds ($100,000 par value) and be in increments of 1/8 of a point. FIPS dealers may enter firm quotations into FIPS under their own names or through a FIPS broker. Quotes entered under a dealer's own name will be identified as such; all others will bear the name of the broker with the dealer remaining anonymous.

A FIPS broker must transmit all quotes received from FIPS dealers to the FIPS system for dissemination to all FIPS participants and to the public through market data vendors (via the Bond Quotation Dissemination Service (BQDS) data feed).

Please Note: If you are not actively trading in a particular FIPS security and only execute trades to accommodate customer orders, you still have an obligation to report these trades to the National Association of Securities Dealers, Inc. (NASD^®).

Common Questions

The following questions may arise regarding the reporting of FIPS trades:

Question: If I believe that my firm is not a FIPS dealer or broker's broker, do I have to report a trade in a FIPS security to the NASD?

Answer: Yes, all transactions in FIPS securities must be reported, subject to limited exceptions. The reporting guidelines are set forth according to mandatory or nonmandatory bond categories. This would include all firms who trade high-yield bonds for their own (inventory) account and/or who execute trades on behalf of customers. Any trade executed by a firm in a FIPS bond must be reported to the NASD.

Question: What securities are eligible for quoting in FIPS?

Answer: FIPS securities are OTC high-yield, fixed-income corporate debt securities rated BB+ or lower by Standard & Poor's Corporation. It is also possible that a non-rated issue may be a FIPS eligible security.

Question: If I am a broker/dealer who is a correspondent of a clearing firm, will my clearing firm report the trades on my behalf?

Answer: Not necessarily. The obligation to report falls on the shoulders of the firm that executes the trade, whether it be for inventory or to accommodate a customer order. Most clearing firms will not assume the responsibility to report trades they did not execute on behalf of their correspondents. It should not be assumed that the clearing firm is reporting your trades in FIPS securities.

Question: As a compliance officer, do I have a certain responsibility for all FIPS trades to be reported?

Answer: Yes, all compliance officers should be certain that every part of their firm is reporting FIPS trades. Many traders assume that, in a normal course of business, the high-yield trading desk is reporting all of the firm's FIPS transactions and the firm's obligations to the rules are being fulfilled. This may not be completely accurate. For example, there are high grade desks that trade crossover bonds and utility desks that trade bonds that are rated BB+ or lower. These desks may be located in different areas and/or different floors in a particular firm. The firm is obligated to report all of its FIPS transactions, regardless of the desk that trades the bonds.

It is important that all Compliance Officers and Head Traders are aware of this situation. We have found firms of all sizes who have made this error.

If you have any questions or concerns regarding FIPS, please contact:

Nasdaq

General Questions
Justin Tubiolo
(212) 858-4419

Technology Questions
Jim Schroder
(212) 858-4321

FIPS Service Desk
Cheryl Glowacki
(203) 385-6373

FIPS Subscriber Services
Stacey Galullo
(800) 777-5606

FIPS Literature
Joanie Rizzo
(212) 858-3975

MarketWatch
TradeWatch
(800) 211-4953
Additional Number, (301) 590-6890

NASD Regulation, Inc.

Regulatory Questions
Stephen Simmes
(301) 590-6451

For your convenience, enclosed is a portion of the bonds that may be crossover bonds. Also, please find a list of utility bonds that are rated BB+ or lower by S&P; they must be reported to the NASD.

Please note that these are partial listings. In order to ensure that you are in compliance with the reporting of all FIPS bonds, you must review the entire list. The entire list can be obtained by calling Joanie Rizzo at 212-858-3975. Many of these bonds may be traded by other trading desks.

In February 1998, this list can be obtained through our FIPS Web Site located at www.nasdaqfips.com. If a daily e-mail subscription containing the complete list of FIPS mandatory and non-mandatory issues would be of interest to your firm, please send us an e-mail at [email protected].