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How Quote and Limit Order Display Rules Support Market Transparency

Article Quant Q&A · Author: Sinbad The Sailor
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Summary

The document asks how the U.S. Quote Rule and Limit Order Display Rule apply to broker-dealers that serve both as agents for clients and as dealers. The underlying concern is a potential conflict: a firm might favor its own trading interest over a customer’s limit order. The question specifically asks whether a customer order at a better price must be displayed and whether the displayed quote applies only to the customer’s requested size.

The response says the rules aim to make more trading interest publicly visible and emphasizes that market makers must honor their quotes, while other participants must honor their open limit orders. It connects the display rule to the Manning Rule through an anecdote in which a broker traded at prices that bypassed a customer’s limit order, filling it only after the market moved through the customer’s price. The answer does not resolve the size question or give a complete legal interpretation, so the account is useful background rather than definitive compliance guidance.

Key ideas

  • The Quote Rule and Limit Order Display Rule are described as ways to increase publicly available market information.
  • Market makers are expected to honor their displayed quotes, and participants must honor their open limit orders.
  • The Manning Rule is presented as background for protecting customer limit orders from being bypassed by a broker.
  • The response does not specify how displayed size relates to the customer’s order size.

Tags

Market microstructureExecutionUS markets
Full text
# Clarification on the Quote Rule and the Limit Order Display Rule


# Clarification on the Quote Rule and the Limit Order Display Rule












I am currently reading Market Liquidity by Foucault, Pagano and Röell. In chapter one they describe the limit order book markets and dealer markets.

I am confused about two rules that so called "broker-dealers" have to follow. These are the Quote Rule and the Limit Order Display Rule.

Reading the SEC on the rules: https://www.sec.gov/fast-answers/answerstrdexbd I cannot fully make sense of the rules.

Here is my attempt: Since broker-dealers act as both brokers for their clients and dealers on the market (on Nasdaq or as specialists on NYSE) they may have a perverse incentive to sell their clients securities at a high price directly form their dealership. However, as a broker they should try to find the best price for their clients.



- The limit order display rule: The market maker must publish their clients limit orders if they are better than their dealer quotes. Again, I just need clarification. Is this simply, that the market maker must post quotes on e.g. the Nasdaq, which are in line with what their clients (broker side) is posting? However, if the market maker has to post new bid/ask prices that are in line with their clients, is this only for the volume that the client wants? If a client posts a better bid than the MM, but for one share, does the market maker have to trade more than this one share at said bid price?

## Answer by krkeane (score 1)

https://quant.stackexchange.com/a/73993

From your linked article at the SEC,

> the "Quote Rule" and the "Limit Order Display Rule," aim to increase the information that is publicly available

The market makers must honor their quotes (and other participants must honor their open limit orders). The failure to do so in the crash of 1987 brought about the "small order execution system", which brought about "SOES bandits" (derogatory term coined by NASD members for market participants that forced brokers to honor their quotes), and eventually ECNs and ATSs.

The limit order display rule has origins in (among perhaps other places) the Manning Rule. Manning was a customer of Shearson, and Manning's broker bought below Manning's price all day long, and never filled Manning unless the market traded through Manning (at which time, his limit order was above the market), and filled him. Down? Sold to Manning (at above market price). Flat to up? "Nothing done".

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.