Registration as an ADF Market Maker or ADF ECN

Registering to quote on the Alternative Display Facility (ADF) is unusual among FINRA registrations: the member puts up real money that it earns back from the market data revenue FINRA attributes to its own trading activity on the facility. The escrow mechanics are as testable as the application itself.

What Must an ADF Market Participant Application Contain?

The rule runs to a member seeking registration as an ADF Market Participant, and that term covers both routes onto the facility: a Registered Reporting ADF Market Maker, and a Registered Reporting ADF ECN, which is a FINRA member that is an electronic communications network (ECN) and elects to display orders there.

That second term also covers a member that is an alternative trading system (ATS) displaying orders in the facility.

A member seeking registration as an ADF Market Participant files an application with FINRA in which the member does eight things:

• Specifies the security types sought: whether the member seeks registration in Nasdaq securities, consolidated quotation system (CQS) securities, or both.
• Certifies its good standing with FINRA.
• Demonstrates compliance with the net capital and other financial responsibility provisions of the Securities Exchange Act.
• Agrees on the two-year term: that failing to submit quotes and report trades in national market system stocks to the ADF during the two-year term will forfeit some or all of the ADF Deposit Amount under the ADF Deposit Terms.
• Agrees on the volume share: that failing to submit 75% of its quoting and trading volume to the ADF will forfeit some or all of the deposit under those same terms.
• Provides FINRA with reasonable monthly projections of the volume of data the member anticipates submitting to the ADF.
• Agrees to fund the escrow: to submit the ADF Deposit Amount in five equal installments into an escrow account at a bank mutually acceptable to the member and FINRA, on a timetable as agreed by the member and FINRA.
• Agrees to the ADF Deposit Terms.

A CQS security is one eligible for inclusion in the Consolidated Quotation Plan and reported to the Consolidated Tape under the Consolidated Tape Association Plan.

The definition then says what those securities include: all common stocks, preferred stocks, long-term warrants, and rights entitling the holder to acquire an eligible security, listed or admitted to unlisted trading privileges on one of the four exchanges the rule names. It also reaches securities listed on a regional stock exchange that the exchange has designated as eligible for reporting to the Consolidated Tape.

Two further steps sit outside the application. The member must execute the Certification Record, the document an ADF Trading Center must execute and continue to comply with in order to display its quotations through the ADF.

The member must also execute a Participant Agreement with FINRA at least six months before quoting or reporting trades on the ADF, or such other shorter time period as FINRA may designate.

Exam Tip: Gotchas

• The six-month lead time has a built-in escape. The agreement goes in at least six months before quoting or reporting, or such other shorter time period as FINRA may designate, so a flat six-month answer is incomplete.
• Two of the eight items are forfeiture promises, not performance duties. The applicant agrees that a failure over the two-year term, and a failure to route 75% of its quoting and trading volume, will cost it some or all of the deposit.
• The escrow bank is chosen jointly. The account must be at a bank mutually acceptable to the member and FINRA, funded in five equal installments on a timetable the two agree.

When Does the Registration Become Effective?

Registration does not become effective until all three of the following have happened:

• The member has received a notice of approval from FINRA in the designated security types its application specified.
• The member has executed the Certification Record.
• FINRA and the member have executed both the application and the Participant Agreement.

Exam Tip: Gotchas

• Approval is scoped to the security types applied for. A notice of approval in Nasdaq securities does not carry consolidated quotation system securities the application never requested.
• Both documents need both signatures. Effectiveness requires FINRA and the member to have executed the application and the Participant Agreement, so a member-only signature leaves the registration ineffective.

How Large Is the ADF Deposit, and When Does It Double?

The ADF Deposit Amount is $250,000. There is a proviso: it is $500,000 if the member does either of two things.

• The member requests that FINRA accelerate the ADF migration onto FINRA's Multi Product Platform.
• The member begins quoting on or reporting trades to the ADF within 90 calendar days after an ADF Market Participant that requested acceleration begins quoting on or reporting trades to the ADF.

The ADF Deposit Terms themselves are subject to any de minimis additions or qualifications to which FINRA and the member agree.

Exam Tip: Gotchas

• The higher deposit can attach to a member that never asked for anything. Beginning to quote or report within 90 calendar days after an accelerating participant does so is enough on its own.
• The terms are not fully fixed. They are subject to any de minimis additions or qualifications FINRA and the member agree, so the four printed terms are the baseline rather than the whole contract.

Which Deposit Terms Move Money to FINRA?

Two of the four terms release escrow money to FINRA.

The volume test. One-fifth of the ADF Deposit Amount is released to FINRA if, in any calendar month beginning with the fourth calendar month following certification of the participant to quote on or report trades to the ADF, the participant fails to submit 75% of the member's quoting and trading activity to the ADF as agreed.

Forfeiture. A member that is sold, goes out of business, otherwise does not meet its obligations, or fails to complete the process for becoming an ADF Market Participant forfeits the ADF Deposit Amount, or any lesser amount remaining in escrow, and all funds are released to FINRA.

That forfeiture carries a proviso. The member does not forfeit if it is sold to an entity that would meet the qualifications as an ADF Market Participant and agrees to be bound by the ADF Deposit Terms.

There is also a shortfall clause. If an amount less than the ADF Deposit Amount was placed into the escrow account, the member pays FINRA any difference between that amount and the deposit amount, if necessary.

Exam Tip: Gotchas

• The monthly 75% test does not start immediately. It begins with the fourth calendar month following certification, so the first three months after certification cannot trigger a release.
• The same 75% figure does two different jobs. In the application it is a promise the member makes; in the deposit terms it is a monthly test that costs one-fifth of the deposit each time it is missed.
• A sale is not automatically a forfeiture. Selling to an entity that would qualify as an ADF Market Participant and agrees to be bound by the deposit terms preserves the escrow.
• A partly funded escrow leaves a debt. Where less than the full deposit reached escrow, the member pays FINRA the difference, if necessary.

Which Deposit Terms Move Money Back to the Member?

The other two terms run the other way.

Earn-back on data revenue. For every $1.00 FINRA receives from the national market system securities information processor (SIP) data plans associated with ADF trade report activity that is attributable, in FINRA's sole discretion, to the member's trading activity on the ADF, the member receives $0.50 out of the escrow account.

Any amount due is paid quarterly, after FINRA has received its own quarterly disbursement from the data plans.

A ceiling applies while the term runs. The member may receive up to four-fifths of the ADF Deposit Amount this way until the end of the two-year term. At the end of that term, the member becomes entitled to that portion of the remaining one-fifth on the same basis as the original four-fifths.

FINRA's own deadline. If FINRA fails to make the ADF available for a member within nine months of the date of the member's first deposit into escrow, one-fifth of the deposit is released to the member.

An additional one-fifth, or any lesser amount remaining in escrow, is released to the member every month thereafter while FINRA still fails to make the ADF available, until all funds have been released.

Exam Tip: Gotchas

• The earn-back is a half share, and FINRA judges attribution. For every $1.00 FINRA receives from the SIP data plans for ADF trade report activity attributable to the member's trading on the ADF, the member receives $0.50 out of the escrow account, and that attribution sits in FINRA's sole discretion.
• The four-fifths ceiling is temporary, not permanent. It caps the earn-back until the end of the two-year term, after which the remaining fifth becomes available on the same basis.
• Both directions use one-fifth increments. A missed monthly volume test sends one-fifth to FINRA, and a nine-month availability failure sends one-fifth back to the member each month.

What Should You Check on Exam Day?

• Count the application items. The application itself carries eight, and executing the Certification Record and the Participant Agreement are separate steps.
• Confirm all three effectiveness conditions, including that approval covers the security types the application specified.
• Test the deposit at $250,000 unless acceleration is requested, or the member starts within 90 calendar days after an accelerating participant starts.
• For the monthly volume test, check the clock starts with the fourth calendar month following certification and costs one-fifth each time.
• Track direction: missed volume and forfeiture send escrow to FINRA; data-plan revenue and a nine-month availability failure send it to the member.