By John McCrank
(Reuters) - Nasdaq OMX Group Inc said it will offer $40 million in cash and rebates to clients harmed by its mishandling of Facebook Inc's market debut.
But the proposed compensation, subject to approval by regulators, drew sharp criticism from rival exchanges for its use of rebates and from clients claiming losses far in excess of what Nasdaq is offering.
Nasdaq said on Wednesday $13.7 million would be paid to its affected member firms and the balance would be credited to members to reduce trading costs, with all benefits expected to be awarded within six months.
"We have been embarrassed and certainly we apologized to the industry, but the important thing we have to do is focus on the future," Nasdaq Chief Executive Robert Greifeld said in an interview on CNBC on Wednesday.
The idea of rebates drew the ire of other exchanges, which said it would essentially allow Nasdaq to undercut them on prices. Sources at Nasdaq rivals said that such a plan would force brokers to trade at Nasdaq, taking market share from competing exchanges.
"This is tantamount to forcing the industry to subsidize Nasdaq's missteps and would establish a harmful precedent that could have far reaching implications for the markets, investors and the public interest," NYSE Euronext, Nasdaq's main competitor, said in a statement Wednesday afternoon.
"We intend to strongly press our views that Nasdaq's proposal cannot be allowed to permit an unjust and anti-competitive situation."
Direct Edge, the No. 4 U.S. cash equities exchange by volume, said it has "several significant concerns with the Nasdaq remedy and plan(s) to aggressively voice them throughout the process."
The top four market makers in the $16 billion Facebook IPO - UBS, Citigroup, Knight Capital, and Citadel Securities - together lost upward of $115 million due to technical problems that prevented them from knowing for about two hours if their orders had gone through after Facebook began trading.
One of those firms, Knight Capital, said in a statement that it was "disappointed that Nasdaq's compensation fund does not come close to covering reported losses from broker-dealers. Their proposed solution to this problem is simply unacceptable." The statement also said that Knight is "evaluating all remedies available under law."
Smaller market makers that might have suffered losses would also receive a part of the $40 million Nasdaq proposes. Two senior executives in the financial industry have said they expect Nasdaq member claims to total $150 million to $200 million.
"Our expectation is that every firm will receive some measure of cash and that every firm will receive their full accommodation by year end if current trading patterns persist," Eric Noll, executive vice president for transaction services at Nasdaq OMX, said in a webcast to member firms.
Under the plan, investors who attempted to buy the company's shares at $42 or less, but whose orders were not executed, would be eligible for compensation. In addition, trades that were executed at an inferior price would also be eligible, as well as trades that did go through successfully but were not confirmed because of Nasdaq's technical problems.
A filing with the U.S. Securities and Exchange Commission is expected soon, and an executive from a rival exchange declined to comment until its publication.
FORMER SEC CHIEFS SPEAK OUT
"They clearly screwed up. They clearly owe their customers money," said former SEC Chairman Arthur Levitt. He declined to comment on whether the situation warranted an SEC investigation or fine.
Another former SEC chairman, Harvey Pitt, said the exchange deserved some praise for offering compensation but called $40 million too limited and Nasdaq's failures to live up to its self-regulatory responsibilities "a blunder of major proportions."
"The exchange's performance will likely be the subject of sharp criticism from the SEC," and "will hurt Nasdaq in its effort to corral additional listings and garner more U.S. IPOs," he said.
Nasdaq's Noll said the exchange is still engaged in a review process with the SEC. It is unclear how long that process will take or how long the SEC will take to decide if Nasdaq's proposal for compensation is adequate.
If the SEC finds any securities law violations, Nasdaq could be subject to fines, but any such outcome is likely a long way off, according to a person familiar with the SEC's operations.
Noll said that the factors that went into determining the $40 million figure included the exchange's liability cap of $3 million a month, Nasdaq's proceeds of $10.7 million from the Facebook IPO, and an estimated $7 million in revenue forecast over the next five years from Facebook trading and listing fees.
During the first day of Facebook trading, technical glitches left the market makers - who facilitate trades for brokers and are crucial to the smooth operation of stock trading - in the dark for hours as to which trades had gone through.
Nasdaq's immediate response amounted to a members-only call with one of its executive vice presidents and a statement that the exchange would set aside a pool of $13.7 million to accommodate losses.
The exchange has asked FINRA, which was responsible for analyzing what went wrong during the "flash crash" in 2010, to review client transaction and claims.
"They can go back and reconstruct every trade, every bid and ask movement to see where all the volume was," said Evan Rosser, former director of strategic programs for the enforcement department at FINRA, an independent regulator of U.S. securities firms.
(Reporting By John McCrank; Additional reporting by David Gaffen, Suzanne Barlyn, and Herbert Lash; Editing by Gerald E. McCormick and Steve Orlofsky)