Nasdaq Updates Strategy with Crossing Networks, Options and Other Value-Added Services

While continuing to increase its market share in U.S. equities, The Nasdaq Stock Market is focused on adding valued-added products to its INET matching engine, according to a press briefing held today.

After the purchasing the INET matching engine for $900 million from Instinet in December of 2005, and merging the BRUT ECN and Nasdaq's own SuperMontage matching engine into INET, the U.S.-based electronic stock exchange is leveraging the INET technology to launch intraday and continuous block crossing networks and an options exchange."Our matching engine is not going to be a simple matching engine. There's all this value added product and we're expanding that matching engine into options and other asset classes around the world," says Chris Concannon, EVP Nasdaq Transaction Services at the press briefing outlining Nasdaq's strategy.

Nasdaq announced a number of new initiatives including a Reg NMS compliance service and a Select Market Maker program for issuers that tracks the activity of market markers providing liquidity and aggressively quoting for Nasdaq-listed issues. For example, this would allow an issuer like Google to see the data on its top market makers and develop a relationship with those firms. Data is going out in July for the issuers to see who are their select market makers and whether their volumes are at or near the inside.

As for the options piece, Concannon said," We have an exchange license. We're building the options engine on the same matching engine. As we develop our OM strategy, the INET (matching engine) will go to other places outside the U.S. as well," said Concannon, referring to Nasdaq's recent decision to acquire OMX, the Swedish based stock exchange operator.

While "capacity and throughput doesn't get discussed," said Concannon, right now, capacity in the INET system is at 125,000 messages per second. "That's rarely done in any technology bit its reached on a regular day at Nasdaq," says Concannon, noting that will carry the marketplace into options.

Over the past 20 months, Nasdaq has continued to increase its market share in equities. In May, it matched 28.75 percent of the total consolidated market volume on its order book in May of '07, which is up from 25.73 percent in May of 05. In terms of "handled volume" that is matched, internalized or routed, Nasdaq handled 65.25 percent of all equities volume as of May of '07 versus 54.30 percent in May of '05.

The reasons for its success are moving to a single book, and running everything off the INET technology, "which is the most efficient platform," says Brian Hyndman, SVP of Nasdaq Transaction Services. To attract volume in NYSE-listed stocks Nasdaq is giving rebates for passive limit orders on those books," says Hyndman.

According to a chart provided by Nasdaq, NYSE floor volume in listed stocks has declined from 77 percent in May of '05 down to 50.6 percent in May of '07. "We're seeing order flow move off the floor," notes Hyndman who attributed this to a new pricing structure Nasdaq launched in January, as well as customers demanding speed on its platform.

Hyndman also attributes some of the growth to Reg NMS beginning on March 5 for exchanges. "Reg NMS has forced the New York and the rest of the industry to go electronic and we see it migrating to the most efficient platform," says Hyndman, who also noted that customers are demanding speed.

Whereas Nasdaq matched share volume increased 50 percent over the same period, going from one billion shares in May of '05 to more than to 1.5 billion shares in May of '07.

In terms of new products, Nasdaq will offer Pre-Trade Risk Management to enable broker dealers that are sponsoring direct access for the buy-side to validate orders before they enter Nasdaq. "On a port level basis, we can go in and limit the dollar volume of shares or the amount they can trade on a given day," said Concannon. The product is currently in beta test mode.

Nasdaq is also releasing Regulation Reconnaissance or Reg Recon, which is going to offer real-time surveillance alerts and reports to assist broker dealers with their Reg NMS compliance. "We are going to give alerts when someone is trading through the market and they can make a correction to that," said Hyndman. Compliance officers will have access to Reg Recon on July 9th. "This is going to give you stats about your traders, stats about your firms as compared to the industry," he says. Compliance officers can make adjustments if they see their trade throughs are out of range with the industry, he says.

While Nasdaq launched an intra-day crossing network two weeks ago, it's planning to launch a continuous crossing network for block trade by the end of the year. "As a business, Nasdaq has focused on matching 100 shares of stock quickly. Yet all these blocks exist," said Concannon. "We're just attacking this space with our crossing network," he said.

Answering the question, "Why does the U.S. need a seventh options exchange," Adam Nunes, VP Nasdaq Transaction Services and head of the Nasdaq Options Market, said "It comes down to the model." Instead of using the same model as the other options exchanges, which is a specialist internalized model - where the specialists are guaranteed allocations for incoming orders- Nasdaq is bringing out "a price-time priority model which is open and fair to everyone and really changes the way the business works," he said.

Nunes said the model has been optimized for penny pricing and is leveraging the INET technology for options at the request of clients. "We heard about new participants like hedge funds, institutions getting into options, particularly the black box stat arb players...said a model like yours would help us get in." Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio