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January 1, 1998

How a Sleepy Broker Became a Global Giant: Instinet Started Small and Grew Up To Shake the Establish

By Staff Reports

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  • How a Sleepy Broker Became a Global Giant: Instinet Started Small and Grew Up To Shake the Establish

Instinet was once a sleepy U.S. domestic broker. Not anymore.

It now spans the globe, executing buy and sell orders electronically across international borders a far cry from the system first conceived as a computer network for institutions trading New York Stock Exchange-listed stocks.

Back in the early days, life was different. During Instinet's first 14 years, in fact, volume grew at a snail's pace. Then times suddenly changed. And in 1983, Instinet took the industry by storm when it began trading Nasdaq stocks. Business grew spectacularly.

Four years later, bigger changes were afoot. Instinet was acquired by Reuters Holdings PLC, the British news and information giant. Among the new owner's boldest moves: giving customers the ability to cross stocks anonymously with each other. That move worried Nasdaq.

Now, institutional accounts and others, trading with each other or directly with the broker, paid a commission to Instinet and part of the bid and asked spread, rather than the full spread made by the market maker.

Trading on Nasdaq was being partly disintermediated because investors could trade between the spread, and market makers were no longer making the difference between the bid and asked price on each trade. That didn't stop market makers using Instinet to lay off their positions, however.

Anonymity

When Instinet added anonymity in April 1989, some clients actually canceled their accounts. Anonymity meant that a trader could no longer avoid paying commissions on some orders.

Buying 25,000 shares, for example, the trader could no longer enter an order for 1,000 shares, wait and see who took the other side and then phone that party to trade the other 24,000 shares. (Instinet now charges pennies or less on shares of the U.S. trades it executes.)

Some say Instinet's maneuvers were prescient. Today, trading among customers between the bid and asked spread is explicitly approved under the Securities and Exchange Commission's order handling rule. What's more, anonymity and the lack of market impact are viewed as Instinet's main attraction to traders. Back in the 1980s, however, that caught Nasdaq off guard.

Nasdaq's parent, the National Association of Securities Dealers, fought back with its own private network, an upgraded SelectNet. Instinet now competes with Nasdaq for order flow, and reportedly accounts for 20 percent of Nasdaq volume, the equivalent of more than 100 million shares daily. Instinet enables a Nasdaq market maker or buy-side trader to select each stock's page on their Instinet terminal. The user can then anonymously hit a bid, enter an ask or negotiate with a buyer to raise the bid between the spread.

Two years ago, the last time reliable figures were available, Instinet had an estimated 5,200 customer terminals worldwide. In theory, Instinet is open for real-time trading 24 hours each day, 365 days a year. In practice, Instinet volume in a stock declines at night once that stock's primary market has closed, with activity surging during important world events.

Global Markets

Today, Instinet is taking on the global markets. A registered broker dealer in 16 countries, and correspondent relationships with brokers in others, Instinet trades in 40 markets. Foreign customers now account for an estimated 70 percent of Instinet's global business, up from 25 percent in 1992.