BizTech Law Blog
Even those who do not closely follow the stock market remember Facebook's IPO. The stock was priced at $38 per share the night before and was trading as high as $42.05 before the price started to drop quickly. One of the causes of the drop was the failure of NASDAQ's system of matching buyers with sellers. The system was tested for 40,000 orders, which did not adequately model the nearly 500,000 orders received when trading started.
A system that would usually match a buyer and seller within a millisecond was taking 20 milliseconds, and cancelled orders were being piled onto new orders, bogging down the system. Each time an order was cancelled, it would be lumped in with the new batch of orders, but a new batch of cancelled orders would force all the orders to be reevaluated. This "loop" resulted in a 19 minute delay leaving over 10,000 orders unexecuted. NASDAQ then short sold the orders to catch up, causing the price to drop.
NASDAQ's handling of these problems was in violation of a number of SEC regulations. For example, Rule 611 of Regulation NMS requires that trading centers have policies to prevent the purchase or sale of stocks at prices inferior to the national best bid or offer. Rule 201 of Regulation SHO also requires trading centers to follow certain policies designed to prevent a short sale of certain securities at less than the national best bid price if the security has decreased by 10% or more from the prior day's closing price. IPO's with the popularity of the Facebook IPO are rare, but it will be interesting to see how NASDAQ adapts and changes its system to better accommodate popular IPO's that bring a large number of orders—especially in light of the Twitter IPO announcement.
