NASD to Discuss Halts on Trading of Volatile Stocks

How far can--and should--regulators go to protect individual stock traders from losing money?

Those questions lie at the heart of two highly controversial proposals that the board of the National Assn. of Securities Dealers will consider at a meeting on Thursday in New York.

The 33-member governing body of NASD, which runs the Nasdaq Stock Market, will debate whether to temporarily halt trading of fast-moving stocks in volatile markets.

The board also will discuss whether professional “day-trading” brokerages should be required to extensively screen new customers to ensure that they’re “appropriate” for that aggressive trading style.

If OKd by the NASD board, the proposals would go to the Securities and Exchange Commission for final approval.

Both ideas come in response to concerns that small investors, who have been major players in soaring Internet-related stocks and other highly volatile issues, are risking extreme losses.

But the proposals also have stirred criticism from those who say the rules may interfere with the market’s freedom.

“It’s kind of like playing Big Brother, and I don’t like that,” said NASD board member M. LaRae Bakerink of SK International Securities in La Jolla, of the day-trading appropriateness proposal. “But if we have to protect [investors] from themselves, that’s what we’re going to do.”

The idea of trading halts has garnered the most attention. Frank Zarb, NASD chairman, has called for a one-year test program in which trading would be stopped briefly in a wildly gyrating Nasdaq stock that threatens the “fairness and orderliness of the market.”

A halt would theoretically give investors time to analyze the news--or rumors--behind a price swing. Many other markets, including the New York Stock Exchange, have trading-halt policies, said Dan Weaver, a finance professor at Baruch College in New York and an expert on trading issues.

“With the speed of computers today, people react before they think,” he said. “With trading halts, people can think before they react.”

Trading halts could help Nasdaq prevent the types of mishaps that have occurred recently as individuals have scrambled to buy Internet stocks, Weaver said.

In a few cases, he noted, investors mistakenly piled into stocks with names or ticker symbols that were similar to the Internet shares they intended to buy. A trading halt in the mistaken shares could have kept the potential buyers sidelined long enough to realize their error.

Nevertheless, two NASD advisory committees recently voted against trading halts. Panel members feared that stoppages might actually inflame volatility and would pose logistical problems in Nasdaq’s “dealer” market, which lacks the centralized control that exchanges have over their stocks.

Others said the idea contravenes longtime NASD policy of not interfering with the market.

“When you’re dealing with something as subtle and dynamic as the market, top-down judgment isn’t effective,” said one board member who opposes trading halts.

The idea of an appropriateness standard for day traders is likely to provoke equally strong debate.

Professional day-trading firms, which operate offices specifically for such traders, fear that an appropriateness rule would be applied only to them and not to rival online brokerages whose customers may day-trade from their home computers.

Day-trading firms, which naturally fear that an appropriateness rule could limit their potential clients and open them to legal liability in disputes with clients, support a companion proposal to adopt a uniform document that would be given to all customers, detailing risks.

Some board members agree.

“We already have a ‘suitability’ standard and to propose a layered regulation that amounts to an appropriateness standard is unreasonable, unfair and selective,” said Alan Davidson, a board member and president of investment firm Zeus Securities Inc. in Jericho, N.Y.

Still, executives of several day-trading firms expect NASD to pass some form of appropriateness rule.

Walter Hamilton can be reached by e-mail at walter.hamilton@latimes.com.