Merrill Lynch Branch Manager Arrested in 'Squawk' Case

Prosecutors contend O'Connell and "certain stock brokers" in Merrill's Garden City branch office provided the daytrading firms with access to Merrill's squawk box communications from January 2002 through October 2003.

The identities of the daytrading firms O'Connell allegedly had deals with were not disclosed by prosecutors. But one of the daytrading firms believed to have had an arrangement with O'Connell is AB Watley(ABWG.OB).

Sources familiar with Watley say the brokerage offered elite daytraders access to squawk box communications from Merrill, Lehman Brothers (LEH) and Citigroup's (C) Smith Barney brokerage group. Former Watley CEO John Amore, indicted last summer by federal prosecutors on an unrelated securities offense, is believed to be cooperating with the investigation.

Earlier Monday, TheStreet.com reported that a person familiar with Watley's operation says the firm worked with at least two Smith Barney brokers to gain access to the big brokerage's squawk box system. The source did not know the names of the brokers. A Smith Barney spokeswoman declined to comment, but noted the firm's policy is to cooperate with all investigations.

Block trades, or single trades of 10,000 or more shares, usually cause price fluctuations in the underlying stock. Advance knowledge of such a trade would be a major advantage to a market participant who was willing to buy or sell shares beforehand.

Meanwhile, a person familiar with the investigation says at least one former Lehman broker is drawing scrutiny from investigators over similar allegations. A Lehman spokeswoman declined to comment.

There are indications that the squawk box scandal may extend beyond Watley and the other unnamed daytrading shop.

A former Lehman broker says that when he worked at the Wall Street firm, he knew of several brokers who permitted traders to listen to the firm's squawk box communications. The broker declined to identify his former colleagues. A Lehman spokeswoman declined to comment.

The Securities and Exchange Commission and the U.S. Postal Inspection Service is also involved in the investigation.

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