FINRA Rule 5240

The 1994-1997 NASDAQ Dealer Coordination Scandal

Understanding FINRA Rule 5240 requires appreciating the market failure that produced it. In 1994, two academic economists — William Christie and Paul Schultz — published research demonstrating that NASDAQ market makers appeared to systematically avoid quoting in odd-eighth fractions, maintaining artificially wide bid-ask spreads. The research triggered investigations by the SEC, the DOJ Antitrust Division, and NASD that ultimately revealed a culture of informal coordination among competing market makers — dealers calling each other to discuss, align, and maintain pricing, with dealers who offered tighter spreads or reduced prices subject to intimidation, harassment, and refusals to trade by their peers.

The enforcement response was sweeping. The DOJ secured consent decrees against more than two dozen broker-dealers, requiring commitments to eliminate coordination and imposing monitoring obligations. The SEC brought settled administrative proceedings. NASD was itself implicated in its surveillance failures and entered into agreements to reform its examination and oversight programs. The academic and regulatory attention to NASDAQ's pricing practices also accelerated the momentum toward decimal pricing, which was eventually mandated industry-wide in 2001. NASD's immediate rule response — IM-2110-5 — codified the prohibition on the specific coordination and intimidation behaviors that the investigations had documented, transforming what had been an informal understanding into a specific, enforceable rule. FINRA Rule 5240 is the direct successor to that rule, carrying forward both its specific prohibition and its seven-element safe harbor.

The Three Prohibitions of FINRA Rule 5240(a)

FINRA Rule 5240(a) establishes three distinct categories of prohibited conduct, each addressing a different dimension of the coordination and intimidation problem.

The first prohibition — coordinating prices, quotations, trades, or trade reports with any other member, associated person, or other person — captures the core antitrust concern. Two competing market makers who agree to maintain minimum spreads, align their bid-ask quotes, or coordinate the prices at which they will transact are engaging in the equivalent of price-fixing in a dealer market. The prohibition extends to trade reports — meaning that dealers who coordinate what they report as transaction prices, rather than reporting actual transaction prices, have violated FINRA Rule 5240 even if their published quotations remain independently set. The breadth of the prohibition — reaching coordination with any other member, any associated person, or any other person — ensures that the rule is not circumvented by routing coordination communications through third parties, consultants, or other intermediaries.

The second prohibition — directing or requesting another member to alter a price or quotation — addresses the specific mechanism by which dealers with market power historically enforced coordination: calling competing dealers and demanding that they raise their bids, lower their offers, or widen their spreads. The rule makes such a call a per se violation regardless of whether the recipient complies with the request. The prohibition covers both explicit directives and requests framed as suggestions or advice, and extends to quotations displayed on any facility operated by FINRA or otherwise — meaning that requests to alter quotations on exchange displays, OTC bulletin board systems, ATS platforms, or any other venue are equally prohibited.

The third prohibition — engaging in any conduct that threatens, harasses, coerces, intimidates, or otherwise attempts improperly to influence another member, associated person, or any other person — provides the broadest and most flexible coverage. The rule text specifically identifies within this prohibition any attempt to influence another member or associated person to adjust or maintain a price or quotation, and any refusal to trade or other conduct that retaliates against or discourages the competitive activities of another market maker or market participant. Refusal to trade as a retaliatory mechanism was one of the documented behaviors from the NASDAQ investigation: dealers who offered competitive prices faced exclusion from reciprocal trading relationships with the dealers whose coordination they had disrupted. FINRA Rule 5240 makes such retaliatory refusals a direct rule violation when they are intended to punish competitive behavior.

The Seven Safe Harbors of FINRA Rule 5240(b)

FINRA Rule 5240(b) is as important to the rule's proper application as its prohibitions. It enumerates seven categories of unilateral commercial activity that the coordination and price-influencing prohibitions do not reach — provided the conduct is otherwise in compliance with all applicable law.

The first safe harbor — setting unilaterally one's own bid or ask, the prices at which one is willing to buy or sell, and the quantity of shares one is willing to trade — confirms that FINRA Rule 5240 is not a market-making obligations rule. A market maker has complete freedom to set its own prices and quantities based on its own market assessment, risk appetite, and commercial judgment. The word unilaterally is the key — the activity is protected only when the decision is truly the member's own, not when it reflects coordination with others.

The second safe harbor — setting unilaterally one's own dealer spread, quote increment, or quotation size — extends the first safe harbor to the specific mechanics of market-making quotations. A market maker that chooses to widen its spread during a period of high volatility, or to reduce its quotation size in a thinly traded security, or to adjust its tick increment, is exercising legitimate commercial judgment that FINRA Rule 5240 does not restrict.

The third safe harbor — communicating one's own bid or ask to any person for the purpose of exploring the possibility of a purchase or sale and negotiating or agreeing to such a transaction — protects ordinary bilateral price negotiation. A dealer calling another dealer to discuss whether it wants to transact, sharing its current price, and negotiating toward an agreement is engaging in legitimate and necessary market activity. The protection extends to agreeing to a purchase or sale at a negotiated price, confirming that bilateral price negotiation does not become prohibited coordination merely because it results in an agreed transaction price.

The fourth safe harbor — communicating one's own bid or ask to any person for the purpose of retaining or seeking to be retained as an agent or subagent — protects the legitimate commercial practice of soliciting agency business by sharing one's pricing capabilities with potential clients. A dealer seeking to be retained as an executing broker for a customer, and sharing its pricing to demonstrate its competitiveness, is acting within this safe harbor.

The fifth safe harbor — engaging in underwriting syndicates to the extent permitted by federal securities law — confirms that FINRA Rule 5240 does not restrict the coordinated pricing activity inherent in underwriting syndicates. Multiple underwriters setting a common offering price in a public distribution is by definition a coordinated pricing arrangement, but it is one that is affirmatively permitted and regulated under the federal securities laws and FINRA Rule 5190. The safe harbor prevents any suggestion that FINRA Rule 5240's coordination prohibition would apply to this legitimate and necessary aspect of capital markets activity.

The sixth safe harbor — taking any unilateral action or making any unilateral decision regarding the market makers with which one will trade and the terms on which one will trade, unless such action is prohibited by FINRA Rule 5240(a) — protects the fundamental commercial freedom to choose one's counterparties. A dealer may decline to do business with a competitor for any legitimate commercial reason — credit concerns, relationship history, operational preferences — without violating FINRA Rule 5240. The safe harbor excludes retaliatory refusals to trade under FINRA Rule 5240(a)(3), preserving the prohibition against refusals that are designed to punish competitive conduct while protecting all other legitimate counterparty selection decisions.

The seventh safe harbor — delivering an order to another member for handling — confirms that routine order routing does not implicate FINRA Rule 5240's coordination prohibition. A broker-dealer routing a customer order to another firm for execution is performing a legitimate intermediary function, not coordinating prices or trades.

Relationship to Antitrust Law and Exchange Act Section 9

FINRA Rule 5240 operates alongside the antitrust laws — principally Sherman Act Section 1, which prohibits contracts, combinations, and conspiracies in restraint of trade — and Exchange Act Section 9(a), which prohibits various forms of securities market manipulation. The price coordination conduct that FINRA Rule 5240 targets would typically also violate Sherman Act Section 1 as a horizontal price-fixing agreement among competitors. The DOJ investigation that prompted the rule's adoption was an antitrust investigation, and the consent decrees it produced ran alongside NASD's rule response.

FINRA Rule 5240 violations involving price coordination and intimidation will typically also implicate FINRA Rule 2010 — Standards of Commercial Honor and Principles of Trade — and FINRA Rule 2020 — Use of Manipulative, Deceptive or Other Fraudulent Devices — given that the conduct involves deliberate distortion of market prices. The 2025 FINRA Annual Regulatory Oversight Report specifically identifies FINRA Rule 5240 as one of the rules in FINRA's manipulative trading framework alongside FINRA Rules 2010, 2020, 5210, 5220, 5230, 5270, 5290, and FINRA Rule 6140.

Regulatory Notice 18-05, published February 2018, requested comment on whether FINRA Rule 5240 should be extended to apply to government securities — U.S. Treasury securities and other government obligations — which are currently not clearly covered by the rule. That rulemaking has not been finalized as of June 2026, meaning the rule's scope remains primarily oriented toward equity and corporate securities rather than the government securities markets.

Supervisory Obligations and Written Supervisory Procedures

FINRA Rule 3110 requires written supervisory procedures specifically addressing FINRA Rule 5240 compliance. For market makers and trading desks operating in OTC equity markets, those WSPs must address the training and awareness program ensuring that trading personnel understand the prohibition on coordination and intimidation, the surveillance procedures for identifying inter-dealer communications that may constitute prohibited coordination, the process for handling situations where a competitor dealer appears to be requesting price coordination or threatening retaliatory action, and the documentation requirements for any unusual trading patterns that could reflect prohibited conduct. FINRA Rule 3120's annual supervisory control testing should include review of trading communication records and inter-dealer contact logs for evidence of coordination discussions.

Examination Relevance and Key Takeaways

FINRA Rule 5240 is tested on the Series 7 General Securities Representative examination in the context of market manipulation, trading practices, and the specific prohibitions applicable to dealer market conduct. The Series 24 General Securities Principal examination tests the rule in greater depth including the seven safe harbor provisions, the historical context of the 1990s NASDAQ dealer coordination investigations, and the supervisory obligations for market-making operations. The rule's connection to FINRA Rule 2010, FINRA Rule 2020, FINRA Rule 5210, and the broader manipulative trading framework makes it relevant to any examination covering OTC market conduct and market integrity.

The key points to retain are these: FINRA Rule 5240 prohibits three categories of conduct — coordinating prices, quotations, trades, or trade reports with any other member, person, or entity; directing or requesting another member to alter any price or quotation; and engaging in any conduct that threatens, harasses, coerces, intimidates, or otherwise improperly attempts to influence any other market participant, including retaliatory refusals to trade designed to punish competitive activity; the rule arose directly from the 1994-1997 DOJ and SEC investigations into NASDAQ dealer coordination and was first enacted as NASD IM-2110-5 in 1997 before being consolidated into the current FINRA rulebook as FINRA Rule 5240 effective June 15, 2009; FINRA Rule 5240(b) provides seven safe harbors protecting purely unilateral commercial decisions — setting one's own bid and ask, choosing one's own quotation parameters, bilateral price negotiation for the purpose of exploring a purchase or sale, agency solicitation, underwriting syndicate participation, unilateral counterparty selection, and routine order routing — provided all such conduct is otherwise lawful; the coordination prohibition reaches trade reports as well as prices and quotations, meaning coordinated misreporting of transaction prices is equally prohibited; FINRA Rule 5240 violations typically also implicate FINRA Rule 2010 and FINRA Rule 2020, and the underlying conduct may simultaneously violate Sherman Act Section 1 as horizontal price-fixing; the 2025 FINRA Annual Regulatory Oversight Report identifies FINRA Rule 5240 as part of the broader manipulative trading framework that FINRA examines alongside FINRA Rules 5210, 5220, 5230, 5270, and 5290; and Regulatory Notice 18-05 sought comment on extending FINRA Rule 5240 to government securities, a rulemaking that remains pending as of June 2026.