What Was the Nine-Bond Rule?
The nine-bond rule, also known as Rule 396, was a requirement by the New York Stock Exchange (NYSE) that all orders for nine bonds or less be sent to the trading floor for at least one hour. At that time, it was expected that a market for such securities can be found. However, if the order was not filled within the hour, the customer could ask the broker to try to fill the order away from the exchange or over-the-counter (OTC).
The NYSE proposed eliminating the nine-bond rule in February 2005, and on August 1, 2005, the Securities and Exchange Commission (SEC) approved the elimination of the rule. The purpose of eliminating the nine-bond rule was to facilitate the efficient execution of bond transactions on the NYSE without compromising smaller customer orders.
- The nine-bond rule, also known as Rule 396, was a New York Stock Exchange (NYSE) requirement that orders for nine or fewer bonds be sent to the trading floor for at least one hour so that the individual investor can garner the best possible price.
- The NYSE proposed eliminating the nine-bond rule in June 2005, and on August 1, 2005, the Securities and Exchange Commission (SEC) approved the elimination of the rule.
Understanding the Nine-Bond Rule
Bonds tend to trade more frequently on the over-the-counter (OTC) market. The nine-bond rule did not apply to orders directed to the OTC market. Because of the relative inactivity of bond trading on the NYSE, the nine-bond rule, which enables an order to stay on the floor for one full hour, was put in place to garner the best possible price for the individual investor.
The trading of bonds has never been as seamless and transparent as that of stocks, even though the U.S. fixed income market is substantially larger than the U.S. equity market. Many reasons exist for this discrepancy. Chief among them is liquidity. There is not enough daily trading activity in most bonds to facilitate such transactions through online brokerage accounts or in odd lots. The closest equivalent to discount stock trading is the TreasuryDirect.gov website, which enables individual investors to purchase Treasury securities directly from the issuing U.S. government.
The Evolution of Bond Trading and the Nine-Bond Rule
For decades, dozens of brokerage firms and investment banks (known as primary dealers) maintained large inventories of bonds on their balance sheets to facilitate efficient trading. But the role of primary dealers has declined since the implementation of the Volcker Rule in 2015, which prohibited federally-funded banks from trading for their own profit.
Physical exchanges, like the NYSE, have also lost a share of fixed income trading as most of the market has moved to electronic networks to buy and sell bonds. Many of these networks are utilized by agency-only brokers, who are assuming the share of fixed income trading that primary dealers were forced to give up.
The nine-bond rule was deemed necessary due to the large size of most fixed income transactions.