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April 1, 2002

Trouble Brewing For Direct Access: Will the Lambs and Lions Co-Exist?

By Brian O'Connell

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  • Trouble Brewing For Direct Access: Will the Lambs and Lions Co-Exist?

The drive to integrate direct access trading technologies into institutional markets is heating up, but software developers are finding themselves fighting battles on two fronts.

On one side, firms like Sonic Trading, UNX, and Blackwood Trading must convince hedge funds and other institutional traders that direct access tools can work effectively on buyside trading desks. They must convince institutional clients that these tools will help them as much as they have day traders and other retail clients. Then there's the bigger problem: Convincing institutional traders that direct access vendors have their best interests at heart. Can these vendors change their stripes after working with day traders, the nemesis of the institutional community?

"It's like convincing the lion to lie down with the zebra, after the zebra's been stealing the lion's food for a long time,"said Randy Abernethy, chief executive of UNX, a Burbank, Calif.-based broker dealer that has created its own direct access trading platform for institutional markets. "It's a big challenge for the direct access companies."

So what's the big deal? Direct access vendors have made inroads into the institutional community and are not shy of marketing. True, but the early results are mixed.

"I'm hearing reports from traders that the systems are crashing. The technology is not robust enough to handle the institutional order flow," said one Wall Street insider. That does not surprise everyone.

"All the systems crash from time to time," agreed J. Mark Enriquez, president of Boston-based PulseTrading, a trading firm that specializes in routing and executing orders across the spectrum of Nasdaq market centers. "Archipelago went down this morning. Yesterday it was RediBook. Tomorrow it could be another system."

At issue, is the increasing spotlight on "direct access" trading, a term which refers to the bypassing of intermediaries on both the Nasdaq and listed markets.

On Nasdaq, it means hitting bids and lifting offers via ECNs and with the help of outfits such as quote aggregator' Lava Trading (its ColorBook' system shows all the limit orders and all the quotes on most large ECNs and Nasdaq), as well as smart routing' vendors. On the listed markets, it means bypassing the upstairs trading rooms, sending orders electronically to $2 brokers, or to the specialists. The technology means DOT' boxes used by traders to route their orders to the NYSE floor.

Direct access also means systems such as Harborside and Liquidnet, each in their own distinct way bringing buyside customers together on both sides of a trade.

Direct access vendors have much at stake. Since decimals were introduced, direct access vendors - seeing their profits squeezed - have had to cultivate new business among institutional accounts.