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August 23, 2005

Algos & Crosses: Defragging the ATS World.

By Peter Chapman

(Traders Magazine, August 2005) -- The top three providers of independent crossing networks are separately entering into agreements with a small group of brokers to incorporate their alternative trading systems into the brokers' trading algorithms. The trend could make it easier for traders to access multiple systems more efficiently.

"It is not yet a major phenomenon," said Tony Huck, co-director of sales and trading at Investment Technology Group, "but it is a definite trend. The buyside trader wants to be able to consolidate to access all of the crossing systems from one place. We believe this will grow."

ITG is opening up its POSIT and TriAct crossing mechanisms to the algorithms of a couple of brokers. NYFIX is doing the same with its Millennium system. Pipeline Trading Systems has also opened up to brokers. Even Instinet is pitching its two pre-opening VWAP sessions to brokers.

POSIT, Millennium and Pipeline are the industry's three largest independent crossing networks. On average, they process about 25 million, 20 million and 10 million shares per day, respectively.

Driving the initiatives are two related factors. First, brokers building algorithms want to tap into as many sources of liquidity as possible. Second, some users of the ATSs want easier access to them. The thinking is that a single algorithm that seeks liquidity in multiple crossing systems could save a trader from dealing with multiple systems separately.

"There are times when the buyside will want to deal with us direct," explained Bob Gasser, chief executive of NYFIX Millennium. "And there are times when they will want to come in through algorithms."

Brokers building the algorithms include Credit Suisse First Boston, with its "guerilla" product; ITG with its "dark server;" and Piper Jaffray with its "fusion" algorithm.

In general, the programs will "drop in" on the closed ATSs during their search for liquidity. If a match is possible, a trade will occur. If not, the algorithm will move on.

The efficacy of some of the algorithms is being called into question. That's because the three major crossing systems operate differently. Pipeline chief executive Fred Federspiel notes, for instance, that it is possible to wrap Pipeline into an algorithm that provides little value.

"To get the best use out of Pipeline," Federspiel explains, "it's best to let the orders sit in there a long time. The system is based on human response time."

Algorithms that dart in and out looking for a match are unlikely to be successful, the exec says. Pipeline is working with brokers on algorithms that linger longer.