Discussion in 'Order Execution' started by Vinny1, May 8, 2002.

  1. just21


    Exchange spends $100 million on IT to regain its reputation as a state-of-the-art market.
    By Eileen Colkin
    Technology gave birth to Nasdaq, which burst onto the scene in 1971 with a computer and telecommunications network that provided quote and trade data and let market participants conduct stock trades without a physical trading floor. Technology has also produced competition for Nasdaq in the form of Electronic Communications Networks, which have grabbed about a third of the exchange's trading volume by automating the execution of large stock trades.
    Now, Nasdaq is counting on a new technology push to grow its business in a challenging market that has seen the share prices of many of the high-tech companies that trade on its exchange steadily fall since the high-flying days of the Internet boom. Nasdaq's goal is to regain lost trading volume and restore its position as a state-of-the-art equities market by giving traders more and better data from multiple parties, including ECNs and market makers, using a new platform dubbed SuperMontage. In preparation for a July launch, Nasdaq began testing the system last month.

    Getting there from here provides a lesson in the promise and perils of market-shifting initiatives. Such changes can simplify processes for customers but threaten established business relationships, such as by forcing competitors to share information and partners to upgrade their infrastructures.

    If Nasdaq succeeds, the gains will be significant. By bringing more buyers and sellers to a central marketplace, the exchange hopes to be involved in more transactions, increasing its revenue from fees. In addition, even if traders continue to work through ECNs that participate in SuperMontage, Nasdaq gets access to more detailed data and can boost the revenue it gets from selling that information to data-feed companies. Nasdaq also hopes higher trading volumes on SuperMontage will encourage more companies to list on the exchange, adding more revenue to its coffers.

    Nasdaq's new trading platform, SuperMontage, will prepare the exchange to grow quickly to match any upturn in trading volume, CIO Randich says.

    Brokers would win, too. They'd have greater insight into market moves and trading trends, letting them get the best price for the shares they buy or sell. "Our business is to serve the end investor and ensure that the companies listed on Nasdaq have a fair market," Nasdaq CIO Steven Randich says. "We believe SuperMontage meets these goals by making a far more fair and efficient market to trade on."

    Success isn't assured. Nasdaq's three-year, $100 million effort was delayed by more than a year, largely because of regulatory concerns. To address those concerns, among other reasons, the exchange has separated from the National Association of Securities Dealers, which owned 55% of Nasdaq and oversees securities trading. Nasdaq also had to give up its exclusive right to collect and post last-sale-and-quotation information. Still, only two of the five major ECNs have signed on. Other ECNs may be worried about increased competition from Nasdaq, says Larry Tabb, VP of securities investment at TowerGroup, a research firm. "The idea for Nasdaq is to make [its] market more viable and more actively traded," he says. Nasdaq "wants to see more liquidity flow back to [its] marketplace and away from the ECNs."

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    Nasdaq plans to accomplish this by enabling traders to see more than the current highest buy and sell offers for a stock. Today, traders don't know if there's a herd of market makers looking to do business at slightly higher or lower prices. SuperMontage will show five levels of buy and sell offers, which can help a trader analyze whether a stock is more likely to move up or down and decide whether to hold off on a transaction. It also will let traders choose one of three priority views for displaying stocks--price and time, price and time plus added fees from third parties such as ECNs, and price and size.

    The exchange will merge its existing electronic order-execution and order-delivery systems for large orders into SuperMontage, which is built on a group of Compaq's Himalaya servers. SuperMontage includes five new 16-processor Himalayas and another five that are part of the current system. The exchange also will have five more Himalayas for disaster recovery. The current quotation system, which Nasdaq says can process 1,500 quotes per second, will move from Unisys 6830 mainframes to the Himalayas. The servers are redundant and scalable, so the exchange will be able to grow quickly to match increases in trading volume, Randich says.

    Initial tests last month, which used simulated trades and scripted scenarios, were successful, Randich says. But trading firms are bracing for a data deluge when the system goes live. Online brokerage Ameritrade Inc. expects the data flow from SuperMontage will increase sixfold, so it's installing higher-capacity external network lines, says Cassius Almeida, senior product manager for client products and services at the firm. It's also developed compression technology to pass that data on to traders' desktops without having to increase internal network bandwidth capacity.

    Nasdaq had to give up its original vision of requiring all Nasdaq trades to be executed on SuperMontage to gain Securities and Exchange Commission approval. ECNs can continue to participate in Nasdaq through an alternative display system the SEC required the NASD to create. The alternative display system will show quotes and trades, but it won't execute trades.

    Not participating in SuperMontage could cause a network to lose visibility among traders, while joining could force a change in some business practices. For instance, because SuperMontage will show service fees charged by these networks, some may be compelled to reduce fees so they can rank higher on a trader's computer screen. MarketXT, one of the two major ECNs to sign on, has already decided to eliminate its fees.

    Some major ECNs have begun to make changes to stay competitive in the rapidly changing environment. Earlier this year, Island ECN, the other major network to join SuperMontage, began reporting its transactions on the Cincinnati Stock Exchange rather than through Nasdaq's current market-data reporting system, for a cut of the revenue the Cincinnati exchange generates from selling this data. Another leading ECN, Archipelago, hasn't decided whether to share its market and trading data on SuperMontage, but it's slowly backing away from the ECN business, says Jamie Selway, an economist and analyst at Archipelago. Last year, Archipelago and the Pacific Stock Exchange got SEC approval for Archipelago to take over the exchange's floor-based equities trading market and create an electronic exchange.

    Nasdaq CIO Randich acknowledges that SuperMontage has the potential to change the way trading firms and ECNs compete. But he doesn't buy predictions that the new system will consolidate power in Nasdaq and spell the end of other networks. "We're going to get to a healthy middle point where we'll still have competitors that are viable," he says. "But there will be consolidation."

    It won't be business as usual for trading firms and market-makers, either, once the level trading floor promised by SuperMontage becomes a reality. When all participants have access to the same information through technology, how traders and analysts use that information will become a key competitive advantage.

    "SuperMontage is about giving us more tools to service our customers better," says Bruce Turner, managing director and head of U.S. trading at CIBC World Markets, who worked on SuperMontage as executive VP of transaction services with Nasdaq before joining CIBC in April. "The more information we have, the better investment decisions we can make," Turner says. "If we've got the best team on the field, we will add value."

    International market-making firm Bernard L. Madoff Investment Securities LLC, which has $400 million in capital, years ago developed the Madoff Superbook System, an in-house system that pulls data from electronic networks and other stock exchanges. Because it includes data on quotes and trades at other exchanges, such as the New York Stock Exchange, that system will still deliver some benefits beyond SuperMontage. But Andy Madoff, head of Nasdaq trading at the firm, agrees that things have changed. "The ability to tap into disparate information will no longer be available only to firms with deep pockets," Madoff says.

    Some analysts speculate that even if SuperMontage is successful, it may not lead to increased market share for Nasdaq, because traders will have alternative routes for conducting transactions. But no one denies that the trading market will be different once SuperMontage goes live. "The equities market structure is in transition, and SuperMontage will move it toward faster execution and more open books," says TowerGroup's Tabb. "Some [players] are going to be winners, and some are going to be losers."