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July 31, 2002

A Single Stock Frontend: Has Direct Access Brokerage a Superior Model?

By Peter Chapman

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  • A Single Stock Frontend: Has Direct Access Brokerage a Superior Model?

A young agency brokerage best known for its basket trading technology has set its sights on single-stock traders.

UNX, a Burbank, Calif.-based firm, is promoting a new direct access front-end among large hedge funds and traditional money managers that trade individual Nasdaq and listed names.

The system complements UNX's basket trading front-end that has found favor with about 200 hedge funds and boosted the fortunes of the fast growing brokerage.

While much of the brokerage community is circling its wagons, UNX is undergoing a growth spurt. It recently bought the San Diego agency brokerage, Embarcadero Securities, and opened a New York office. It is also partnering with a San Diego research boutique, PCS Securities, gaining access to its customer base of 500 institutions.

UNX differs from other purveyors of direct access roaming the Street today since it has always serviced the pros.

Many of UNX's competitors initially catered to day traders - a market that has since collapsed - and have rebuilt their systems to appeal to the buyside. "We've focused on the buyside from the get-go," said Scott Fletcher, the UNX principal who designed the new platform. "This was built for them from the ground up."

Trading on the system is a three-step process. For Nasdaq stocks, traders first sweep ECN orders. They then sweep market maker quotes. Finally, they post their leaves on ECNs [see next page].

For listed securities, UNX offers access to exchanges and alternative trading systems in addition to ECNs and market makers.

Traders can control the process with various sweeping and block trading algorithms, or leave the job entirely to UNX.

The broker has devised its own trading strategy that it has boiled down to a series of algorithms dubbed "STORM." The methodology was constructed using information gleaned from the data of the millions of transactions UNX has executed in the three to four years of its existence. Data is stored in a database and analyzed by a dedicated research group.

STORM routes orders to those market centers it knows provide the best executions. "We've traded billions of dollars through the system," Fletcher said. "And we've kept track of every single trade." Such information as where orders are filled inside the spread and where they are filled outside the spread is factored into STORM's thinking.

Here are some examples of its functionality:

Sweeping the ECNs

UNX says it's different from the rest. When it sweeps the bids and offers of an ECN, it is permitted to access every quote on the book. It is not relegated to just the "top of the book," or the ECN's best prices. Its methodology contrasts with some of its competitors - ECNs with their own "smart-routing" front-ends, according to Fletcher.

ECN front-ends only offer their customers so-called "hit-or-take lines" that execute no deeper than the top of the book. That's no good for a pro trying to move 100,000 shares or so. Size, at that level, is usually in the hundreds of shares.

"These ECN front-ends were made for day traders," Fletcher said, "who just want to bang out 100 or 200 shares or whatever."