Rule 575, Disruptive Practices Prohibited, prohibits the entering of an order or causing the entry of an order with the intent to cancel the order before execution or to modify the order to avoid execution. This practice is commonly known as spoofing.
An example of prohibited spoofing would be when a market participant enters one or more orders to generate selling or buying interest in a specific contract. By entering the orders, often in substantial size relative to the overall pending order volume, the market participant creates a misleading and artificial appearance of buy- or sell-side pressure.
The market participant places these large orders at, or near, the best bid and offer prevailing in the market at the time. They benefit from the market’s reaction by either receiving an execution on an already resting order on the opposite side of the book from the larger order(s) or by obtaining an execution by entering an opposing side order subsequent to the market’s reaction.
Once the smaller orders are filled, the market participant cancels the large orders that had been designed to create the false appearance of market activity. Placing a bona fide order on one side of the market while entering order(s) on the other side of the market without intention to trade those orders violates Rule 575.
Does this rule prohibit me from making a two-sided market with unequal quantities?
No. Market participants are not precluded from making unequal markets as long as the orders are entered for the purpose of executing bona fide transactions. If either (or both) order(s) are entered with prohibited intent, including recklessness, such activity will constitute a violation of Rule 575.
Are stop orders entered for purposes of protecting a position prohibited by Rule 575?
Market participants may enter stop orders as a means of minimizing potential losses with the hope that the order will not be triggered. However, it must be the intent of the market participant that the order will be executed if the specified condition is met. Such an order entry is not prohibited by this rule.
Are iceberg orders considered spoofing?
No. The use of iceberg orders is not considered a violation of Rule 575. However, a violation may exist if an iceberg order is used as part of a scheme to mislead other participants.
For example, if a market participant pre-positions an iceberg on the bid and then layers larger quantities on the offer to create artificial downward pressure that results in the iceberg being filled.
This is part of a course on Disruptive Practices Prohibited. For official regulatory guidance on Rule 575, reference the applicable Market Regulation Advisory Notice.