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August 31, 1999

Merrill Hooks Big Fish As Knight Inks Deal

By John A. Byrne

Knight/Trimark Group of Jersey City, a Nasdaq wholesaler and third market dealer, is pulling the plug on PaineWebber Group, as Knight seeks to bolster its access to more digital technology as well as its capabilities on the international markets.

One of the largest customers coveted by firms that clear and settle trades for other broker dealers, Knight is transferring the processing of its trades from PaineWebber to Merrill Lynch & Co. The conversion is expected to be completed by mid-October, executives at both firm announced. Paine Webber is based in New York though it runs a correspondent clearing operation out of Jersey City.

On both counts, Broadcort Capital Corp., the relatively obscure clearing unit of Merrill Lynch, exceeded PaineWebber's current abilities, according to Knight/Trimark President and Chief Executive, Kenneth Pasternak.

"We get solicited all the time by clearing firms, including Merrill Lynch," he said. "So we took Merrill aside and spoke with the firm [about clearing], because we thought it offered us a better way forward on the international and domestic technology side."

Impressive Volume

While the deal will result in impressive transaction volume running through Broadcort Capital's trade processing systems, the potential profitability of the account is questionable. Several people close to the deal said Broadcort agreed to clear Knight's volume, most of it retail trades, for under $1 a trade. The industry typically charges between $4 and $7 a trade.

Knight executed more than 300,00 trades a day during the second quarter, according to the AutEx Group, a Thomson Financial Company. Broadcort currently clears and settles about 5,000 trades a day, according to one person familiar with its business. A spokeswoman for Merrill Lynch did not return a call seeking comment.

Strategic Move

Despite the lowball ticket charge, Broadcort may be happy to clear Knight's business at cost in return for cementing close ties between itself and probably the biggest wholesaler for online broker dealers, analysts say.

The deal could be strategic. As a market maker in practically the full universe of Nasdaq and OTC stocks, Knight could conceivably become an execution center for Merrill. The Wall Street retail powerhouse has deemphasized market making on the retail end as spread-based profits have shrunk.

Some observers think the deal signals the first step towards a possible acquisition of Knight by Merrill Lynch.

For his part, Pasternak said he is amazed at the speculation surrounding the clearing pact. "This is a clearing arrangement, not a joint venture," he said.

However, Pasternak added that if an offer for Knight is made, the management of the firm has a "fiduciary responsibility to bring that offer to the board. But I have said before, the firm is better by staying independent for now. We are not strategically focusing on being acquired."