The Inside Scoop on Nasdaq's Options Strategy

As more institutional traders and hedge funds adopt options trading, Wall Street is about to get its seventh options exchange. In a move to diversify its revenues from equities into derivatives, Nasdaq OMX is preparing to go live with the Nasdaq Options Market, a new electronic options trading offering.

Approval came two weeks ago from the Securities and Exchange Commission (SEC) for the rules associated with the new Nasdaq Options Market, whose architecture is based on the high-speed INET platform that has proven to deliver low-latency trading to equities. Nasdaq OMX is leveraging its expertise in equities to break into options trading. "The general thought process we had was we're going to take what we have for equities and we're going to make the modifications we need to trade options," explains Adam Nunes, VP Nasdaq Transaction Services, who is in charge of the options initiatives through Nasdaq Options Services LLC.

Nasdaq has been testing the system since August and the go-live date, according to a company release, was set for March 31.

Nasdaq OMX is jumping into the options market at a time when options trading volume is exploding, volatility in the U.S. equity market has returned with a vengeance and institutions and hedge funds are trading these instruments either to hedge risk or to add alpha to their portfolios. Options trading soared to a record 2.8 billion contracts in 2007, amounting to a 41 percent jump from 2006's prior record, according to TABB Group report, published in February of 2008. "All the clients we see in equities are diving into options," says Chris Concannon, EVP, Transaction Services at Nasdaq OMX in an interview Advanced Trading. But the question is with six options exchanges competing for multiple listed equity and index options, and with liquidity dispersed across the different venues, what is Nasdaq going to bring to the table that is not already out there? See Sidebar

In a major role reversal, Nasdaq OMX is also finalizing its acquisition of the Philadelphia Stock Exchange (PHLX), which means Nasdaq OMX will be operating a trading floor with specialists for the first time in its 36-year history as an electronic market. PHLX has a hybrid model comprised of a trading floor and an electronic trading platform called PHLX XL. Nasdaq agreed in November of 2007 to buy the PHLX, the nation's third largest options market, for $650 million. The general consensus on the Street is that Nasdaq is acquiring PHLX to pick up its 15.21 percent market share in equity and index options. (These market share numbers are as of March 20, according to the Options Clearing Corporation.) The transaction is expected to close by the end of this month.

When the deal closes, Nasdaq OMX will run two separate exchanges. "They'll be two separate legal entities," comments Kevin McPartland, senior analyst at TABB Group in New York. "The point is they're going to have two markets with two different market structures," adds McPartland. 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

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