Nasdaq to pay $10 million to settle SEC charges from Facebook snafu

WASHINGTON Wed May 29, 2013 5:55pm EDT

The Nasdaq logo is seen on the exterior of the Nasdaq MarketSite as a headline about a penalty paid over the Facebook stock scrolls on the Times Square Newsticker, in New York, May 29, 2013. REUTERS/Brendan McDermid

The Nasdaq logo is seen on the exterior of the Nasdaq MarketSite as a headline about a penalty paid over the Facebook stock scrolls on the Times Square Newsticker, in New York, May 29, 2013.

Credit: Reuters/Brendan McDermid

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WASHINGTON (Reuters) - Nasdaq OMX on Wednesday agreed to pay $10 million, the largest penalty ever levied against a stock exchange, to settle civil charges stemming from mistakes made during Facebook's initial public offering last year, U.S. securities regulators said on Wednesday.

In its administrative proceeding against the stock exchange operator, the U.S. Securities and Exchange Commission said Nasdaq's "ill-fated decisions" on the day of the IPO led to a series of regulatory violations.

The SEC said Nasdaq's senior executives were aware of technical problems but decided to open up Facebook stock for secondary trading without first getting to the root cause of the troubles.

After trading had opened to the wider marketplace, the problems persisted. The exchange's chief economist spotted discrepancies in trading volume, and complaints from market makers started to mount. Still, exchange management decided not to halt trading, the SEC said.

As a result of those poor decisions, more than 30,000 Facebook orders remained stuck in Nasdaq's system for more than two hours when they should have been either executed or canceled. Investors were left in the lurch and market makers lost an estimated $500 million.

"This action against Nasdaq tells the tale of how poorly designed systems and hasty decision-making not only disrupted one of the largest IPOs in history, but produced serious and pervasive violations of fundamental rules governing our markets," said George Canellos, co-director of the SEC's enforcement division.

The exchange operator agreed to settle the charges without admitting or denying the allegations.

Separately, the exchange has agreed to pay as much as $62 million to compensate market makers for losses, an agreement approved by the SEC earlier this year.

Wednesday's settlement marks a major step for Nasdaq as it seeks to put the fallout from the Facebook debacle behind it. The exchange is still facing lingering battles with market markers who lost money in the May 18, 2012, IPO.

UBS, which lost $300 million - by far the most of any market player - is in arbitration with Nasdaq in an effort to recoup more money. A representative of UBS declined to comment on the status of the arbitration.

The SEC's case is the latest in a continuing crackdown on stock exchanges. Regulators are using enforcement as a tool to get exchanges to beef up their compliance with regulations and make sure they are properly self-policing.

Last year, the New York Stock Exchange became the first exchange in SEC history to face a financial penalty after it was accused of giving certain customers an "improper head start" on trading information.

In 2011 the SEC sanctioned Direct Edge for weak controls, and earlier this month the Chicago Board Options Exchange said it expects to be fined as much as $10 million to resolve an SEC probe into its duties as a self-policing organization.

In an open letter issued on Wednesday, Nasdaq CEO Robert Greifeld said the challenges that the exchange faced when the Facebook stock debuted were unprecedented.

"In the last year, we have carefully reviewed these events," Greifeld wrote. "As market leaders, we view our experiences as opportunities to learn and improve."

Facebook's IPO, the largest ever in terms of volume, was a much anticipated event. But the hype soon turned into panic after a software error at Nasdaq led to a 30-minute delay in the IPO.

The SEC said Nasdaq's senior management thought they had fixed the systems problem after removing a few lines of computer code and decided not to delay the start of secondary market trading.

But the technical problems persisted, with many brokers waiting for more than two hours to hear about the status of their orders.

In addition to charges stemming from poor decision-making, the SEC also said it was charging Nasdaq with a series of technical rule violations.

Nasdaq assumed a short position of more than 3 million shares of Facebook in an unauthorized account and covered that short position for a $10.8 million profit, two violations of exchange rules, the SEC said.

The agency also said it had found other problems unrelated to Facebook involving additional technology glitches. In those cases, in October 2011 and August 2012, the glitches led the exchange to violate rules that require investors to get the best bids and prices, the SEC said.

The settlement requires the exchange to make certain technical fixes related to its matching system for buy and sell orders for IPOs.

It also must expand the scope of its regulatory group's coverage of the rules governing its trading platforms and get the group more involved in decisions about software changes.

In his open letter, Greifeld said Nasdaq has already put new safeguards in place.

He said many of the SEC's demands have already been met, but he expects all of the requirements to be completed by the end of the year.

(Reporting by Sarah N. Lynch; Additional reporting by John McCrank in New York; Editing by Kenneth Barry and John Wallace)

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