Article of the day: Nasdaq approves a $40 million plan to cover Facebook losses. Link: But why?

So the exchange has earmarked $40 million for the settlement with investors. And by that, what they mean is the original $13.7 million in cash, with the rest being settled through reduced trading costs.

To summarise what went wrong in that 30 minute window when Facebook shares were meant to be being sold but weren’t (according to the payment program that Nasdaq announced):

  1. The initial cross-trade* went wrong (30 million shares didn’t participate/weren’t taken into account);
  2. Some sales were executed at an “inferior” price**; and
  3. Purchases priced at $42 that were completed without confirmations being immediately sent to investors***.

The interesting part of this story: the plan is pending approval from the SEC.

But, um, why?

Answer: it’s sort of illegal.



In terms of current US regulation governing the exchanges and Nasdaq’s contracts with clients, the total liability of the exchange is limited to $3 million in any one month. So Nasdaq has applied to the SEC to increase the limit. And by breaking that limit, the other exchanges out there like the NYSE are getting a little annoyed with words like “precendent”.

But more to the point, if that is the case, why then is Nasdaq trying to pay more than its regulated liability?

Possible answers:

  1. It’s a giant PR exercise to make investors feel better; or
  2. They feel bad; or
  3. They want to avoid being sued; or
  4. There’s something else at play.

In regard to point 1, you can’t really buy your reputation back – and I think that the folk at Nasdaq know that. If anything, “improved image” is more likely to be a hoped-for by-product than a primary objective.

Point 2 is laughable.

Point 3 is pointless – because the suing will probably happen anyway – and if it did, it would be limited to said limit of $3 million.

Which leaves us with Point 4. Which leads me to the Matt Levine article. Which is awesome.

But the rough summary:

  1. The $13.7 million cash includes a $10.7 million gain that Nasdaq made on the “phantom shares” that it ended up holding in the IPO;
  2. “Phantom shares”?
  3. Sounds a lot like short-selling;
  4. Because there were more buyers than sellers at the time of the initial trade;
  5. So Nasdaq made up the difference by inventing shares;
  6. And then realised that it had, like, invented shares;
  7. So it bought shares after the price had dropped to deliver as settlement for the sale of the imaginary shares;
  8. And therefore made a profit;
  9. Which isn’t very nice if you’re the Exchange and know all the buy and sell orders;
  10. But whatevs – technical glitch – they had to step in and pick up the slack.
  11. But can you imagine how much more awkward it would have been if the price had gone up?
  12. So luckily, Facebook traded like crap;
  13. But now it looks a bit bad that we profited off it;
  14. COCKED IT;
  15. Here’s $3 million plus that profit plus we’ll let you all trade for less;
  16. See? We’re mates.


*The Cross-Trade is the initial price-setting mechanism of an IPO offering. All the buy and sell orders are summarized and offset against each other to come up with an initial listing price.

**Is this a catch-all phrase for “anything else that went wrong that we don’t yet know about?”

***This is bad because, if you don’t receive a confirmation, you could assume that the trade was unsuccessful and/or your PC glitched when you sent the order through. So you resend it. And suddenly – you’re a key shareholder.