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April 1, 2002

An Island In the Sun: Giant ECN Thumbs Nose at Nasdaq

By Brian O'Connell

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  • An Island In the Sun: Giant ECN Thumbs Nose at Nasdaq

Island is becoming bolder since it surpassed Instinet as the largest ECN. In one stroke, Island caught Nasdaq offguard when it moved its trade reporting business to the Cincinnati Stock Exchange.

"We're on a roll," Island chief executive Matt Andresen told Traders Magazine. "We've a plan to give our 700 subscribers better service and lower fees. We're making that happen."

Here's how: The Island's move to Cincinnati is giving the ECN a financial break. And it wants to pass the savings along to customers, who as a group are increasingly aware of trading costs. (The move also forces Nasdaq to think more seriously about how it charges trading firms for reporting trades, according to observers.)

Island, which accounts for about 20 percent of Nasdaq trade volume, is providing Cincinnati - a computerized Chicago-based market - with an opportunity to start trading Nasdaq stocks.

Island, meanwhile, is still awaiting approval to become a registered stock exchange. If the application succeeds, Island will continue to lobby, if necessary, for reform of the Intermarket Trading System (ITS), the system that links Nasdaq, the NYSE and the other national securities exchanges in the trading of listed stocks. It will also press for changes in the trade-through rule. "Approval as an exchange does not necessarily mean that all regulatory issues are simultaneously addressed," said Andrew Goldman, a spokesman for Island. Goldman cited the maximum length of time currently allowed for ITS participants to respond to orders ("30 seconds is a lifetime compared to the milliseconds we can match and execute orders"); and Goldman described the ITS trade-through rule as bothersome. That latter rule prevents an ITS participant from trading a stock at an inferior price to the displayed price in a different market.

Goldman said Island thinks the best approach is to, "work from within, which is part and parcel of what it means to be an exchange. We would lobby hard to modernize the ITS."

Altogether, ECNs comprise some 50 percent of Nasdaq's daily trade volume. Of that, Nasdaq takes 100 percent of the ECNs trade reporting fees. It charges 2.9 cents for reporting each side of a trade with some customers charged additional fees for other services.

Island expects huge cost savings with its membership of Cincinnati.

The kicker? A promise by CSE officials to rebate 75 percent of its revenue from market reporting data to Island. In turn, Andresen noted that Island is rebating two-thirds of market data revenue to customers, sliced equally among its buyers and sellers. With Island expected to report 92 percent of its trades through the CSE, the ECN could accumulate additional annual revenue of $10 million.

No Contest

"In 2000 alone Nasdaq made $258 million in selling market data revenue, and they didn't share it with anybody,"Andresen said. "By becoming members of the Cincinnati Stock Exchange we've found a cheaper way to report those trades and pass those savings along to our customers. The decision to go with [Cincinnati] was a lay-up."