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April 1, 2004

Big Board Firms Keep Order Flow at Home

By Peter Chapman

Big Board member firms with large retail operations are internalizing more exchange-listed order flow.

Citigroup Global Markets, UBS Financial Services, Credit Suisse First Boston and other desks are redirecting significant portions of listed flow away from the New York Stock Exchange. Some flow is heading to the nation's regional exchanges. But a sizeable amount is heading to the brokerages' own trading desks.

"They've all built electronic models to, in effect, cherry-pick the best order flow and to trade against it," explained one trader. The third market - Nasdaq's InterMarket - is likely printing much of these listed internalized stock trades, pros note.

Trading against order flow, known as internalization, is a standard practice in the Nasdaq market. In the listed market, brokerages accomplish it when they route orders to regional exchanges in which they operate as specialists. However, redirecting listed flow to an internal trading desk is a relatively new development. Big Board members have been permitted to internalize all of their flow since May 2000. That's when the NYSE rescinded its Rule 390. But listed internalization did not gather steam until last year.

Citigroup appears to be most aggressive. In the fourth quarter of 2003, the brokerage behemoth sent 10 percent of its non-directed listed orders - orders in which customers do not specify routing instructions - to its trading desk, according to a regulatory filing. UBS Financial Services, formerly UBS Paine Webber, held onto five percent. CSFB kept seven percent. In contrast, Merrill Lynch, Morgan Stanley and A.G. Edwards sent nearly all non-directed NYSE-listed orders to the Big Board during the same period. Non-directed orders account for most of these firms' flow.