Year-End Thoughts From the Wise Men of Options

This year will end with about 860 million total options contracts traded; this will be a new record, eclipsing 2001's banner year by about 80 million contracts. But all is not joy in Optionsville.

For all those whose lives are touched by options, from retail investors to professional traders and market makers to the exchanges themselves, 2003 has been full of challenges, changes and transitions.

Just as the silver cloud of the surging stock market is ringed by the black lining of scandal and malfeasance -- is that term so 2002 yet? -- the options industry is also facing upheaval and scrutiny about how its business is conducted, as questions about the integrity of marketplace persist.

"The U.S. options markets are in urgent need of reform, even more so than the NYSE or other equity exchanges," said Sam Lek, a former director at Bear Stearns and current CEO of Lek Securities, a New York-based brokerage and clearing firm. Lek believes "the U.S. needs stricter regulation to level the playing field for all investors." Ironically, he thinks one of the biggest abuses has been allowing exchanges to distinguish between retail orders, and market maker or broker/dealer orders, thereby giving priority to retail orders if price was equal.

However, Lek believes that by making marginal price improvements, specialists can still technically adhere to the letter of the law by filling orders at the national best bid or offer, but can step in front of customer orders and take advantage of the fact that most retail traders cannot respond quickly enough to fractional changes in price. This leaves their standing limit orders ripe for plucking when the market moves. "The theory behind the rule was well-intended, but now it is being totally abused. I'm not against specialists, but there is no reason for anyone to know the origination of any order," Lek said, believing that the resulting discrimination works against the public. He thinks the policy "should be abolished."