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May 31, 2001

ITG's POSIT and Prosperity

By Peter Chapman

Also in this article

Volume is up. Profits are up. The stock is up. Investment Technology Group, by any measure, is a success. Still, the story is not all brass bands: ITG's crown jewel, POSIT, is getting old and its growth is slowing. And that's forcing the agency broker to spread its wings.

How successful is ITG? 2000 was a stellar year. It traded an average of 65 million shares per day, a whopping 40 percent jump from the previous year. Revenues increased by 34 percent in the same period to $310 million.

The rub was POSIT.

The electronic crossing mechanism - ITG's most profitable asset - accounted for only 48 percent of those shares, down from 56 percent in the prior year.

Ray Killian, chief executive of ITG, admits POSIT is a mature product. "But POSIT is not the whole ship," he stressed. "It's an important part, but the other parts are growing quite rapidly."

The "other parts" are the basket trading front-ends, QuantEX and ITG Platform, and a 55-person trading desk. They are growing quite rapidly but then so are their associated expenses. Revenues from the front-ends must cover the salaries of a 45-person research staff. Revenues from the desk must cover the salaries of the traders. Both must cover rising transaction and clearing charges. POSIT, on the other hand, largely pays for itself.

Product Mix

"There is a shift in ITG's product mix toward lower-margin, third-party executions," Salomon Smith Barney analyst Matt Vetto writes in a recent report. "Margins could come under pressure if there is a further increase in executions outside of POSIT - particularly ECN executions."

The analyst notes that revenues per share fell from 2.0 cents to 1.9 cents last year because of the increase in non-POSIT executions.

POSIT trades earn ITG two cents per share. The front-ends bring in 1.25 cents on average. The trading desk brings in between two cents and three cents per share. Customers include indexers, quants, single-stock players, and the sellside.

POSIT is by no means fading away. Despite encroachment by several new order matching systems it is still very popular with both buyside and sellside traders. But last year's volume growth of 21 percent is well below its annual compound growth rate of about 50 percent over the last five years.

ITG's front-end business is now in the driver's seat. In last year's fourth quarter, users of QuantEX and ITG Platform executed an average of 26 million shares per day. That's more than double the 10.6 million shares tallied in the fourth quarter of 1999. On the other hand, POSIT was flat with the year-ago quarter at 27 million shares.

The vigor of ITG's front-end business is a testament to the buyside's increased scrutiny of its trading costs and ITG's knack for creating technology to help manage those costs. Indexers and single-stock traders are under pressure from their managers and clients to reduce implicit trading costs such as market impact. That's industry jargon for the price spikes that occur when the Street gets wind of a big trade.

Lower Costs