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A Napster for Trading

Music fans were bemoaning the near closure of Napster, the popular MP3 file sharing site which allowed a community of 21 million users to download free music—ranging from Metallica to Mozart. A court ordered the site to close at midnight on July 28 for violating the copyrights of the recording industry. It was a close call for Napster as another court granted a stay to the injunction—allowing it to remain open until the case is heard by another court in September. Whether Napster remains open or is forced to close down, the genie is out of the bottle and it has implications not only for sharing music, books and movies but for trading securities.

Napster ushered in a new form of technology—peer to peer file sharing—which turned every PC into a server, making it possible for those who downloaded the Napster program to scan each others' hard drives for content. A similar technique could be applied to the community of electronic traders and a variation on the theme is in the works.

As our cover story reports, Seth Merrin—a hero to the institutional trading community because he invented order management systems—is back. He's pushing a concept for trading large blocks of stock that uses publish and subscribe technology to basically x-ray the traders' order books for liquidity. See "The New Sheriff In Town," p. 29. No one is suggesting that Merrin's new electronic trading system, called LiquidNet, is stealing copyrighted material off traders' hard disks. In this case, traders subscribe to the messaging technology and agree to have their portfolios scanned. They are notified if there is a contra-side of significant size and then they enter a private negotiation.

While the comparison to Napster is stretching it a bit, there are a few similarities. Just as Napster eliminates the need for a central server, LiquidNet is deliberately decentralized to protect the anonymity of the institutional traders. Unlike alternative trading systems such as Instinet and Posit, orders reside within each firm.

The concept is intriguing given the controversy swirling around the Nasdaq Stock Market's proposal for a central limit order book known as Super Montage, which is perceived to pose a threat to Electronic Communications Networks. ECNs are debating the topic at industry conferences and the issue is on Congress' radar screen.

Whether or not Merrin's new system is a better mousetrap or not, remains to be seen. But it is refreshing to see a new approach emerge that addresses the needs of institutional traders who frequently complain about the difficulty of getting large orders executed without incurring market impact.

On the other hand, Merrin's system is not the only new game in town. At press time, WOFEX announced that it's developing an electronic trading solution that will integrate "a continuous matching engine, a crossing system and an electronic specialist network," into one cohesive service.

Similarly, in the world of straight-through processing, rival consortiums are vying to be the model the industry ought to follow. A year ago, it looked like the GSTPA would rule the roost in cross border trade settlement, but now that Thomson ESG and the DTCC have teamed to form a new for-profit company, and others are entering the market, all bets are off. 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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