CHICAGO — One day in late June, options trader Steven I. Malitz was poised to buy 1,200 shares of American Colloid stock at $13 a share--a quarter of a point more than any of the Nasdaq-listed stock's market makers were offering to pay.

Small investors certainly would have done better to sell to Malitz at his price. But they never got the chance. Instead, market makers ignored Malitz's order--"traded through" it, in market parlance--and continued to sell at $12.75, a price better for themselves and worse for their customers.

After three minutes, as a reporter watched, Malitz's order automatically expired--unfilled.

A cornerstone of the nation's securities laws is the "best execution" rule, meant to guarantee that brokerage customers get the best price available when they put in orders to buy or sell stock.

But much of the time on Nasdaq they don't.

"I get traded through all the time," says Malitz, a veteran floor trader at the Chicago Board Options Exchange. Throughout the day, by telephone from his trading post, Malitz buys and sells Nasdaq shares to limit the risks of his dealings in options on Nasdaq stocks.

The National Assn. of Securities Dealers, which owns and operates Nasdaq--the nation's busiest stock market--says the market could not operate without trading through. The NASD insists it carefully balances the interests of both market makers and its customers.

Still, in one 15-minute span on the raucous floor of the Chicago options exchange that day, a reporter witnessed two other apparent instances of Malitz's better-priced offers being traded through by Nasdaq market makers. Longtime investors and securities professionals say that on any given day, thousands of better-priced orders never get executed.

Another Chicago trader, Mark Shaprow, says he quit trading options on Nasdaq stocks out of frustration with getting traded through. Now he deals only in options on IBM, a stock listed on the New York Stock Exchange, where trading through is banned.

"We're professionals and we see it happen," says Shaprow. "Then we think about the people who aren't professionals. They get cheated the same way, and they don't even know it."

Trading through is just one of the ways the vast Nasdaq trading system produces big profits for market makers at the expense of millions of investors, small retail customers and professionals alike.