Two markets are better than one. At least that’s the thinking at the Chicago Board Options Exchange. The CBOE next year plans to introduce a second trading venue that could appeal more to fast-gun trading houses and automated market makers.
“It will be designed to attract order flow from the high-frequency trading segment,” said Sang Lee, co-founder of research firm Aite Group. He added that the new exchange could be a maker-taker market, although the CBOE may come up with an alternate structure that appeals to high-frequency firms.
The CBOE says it hasn’t made a decision about the new exchange’s model. Exchange execs are in discussions with members and member firms about what might be the “most attractive and competitive market structure” for the exchange, according to the CBOE. However, in a sign that it will be geared toward fast players, the CBOE announced that the exchange’s primary data center will be in the New York metropolitan area. The location of the data center is important to reduce latency for firms whose trading engines are in New York and northern New Jersey. The CBOE’s data center is in Chicago.
Codenamed “C2,” the new platform will complement the CBOE’s marketplace, which offers market makers a guaranteed percentage of incoming marketable orders. William Brodsky, the CBOE’s chairman and CEO, said in September that the new exchange would “complement our Hybrid marketplace by expanding our customer reach, thus enhancing CBOE’s competitive position.”
The CBOE’s decision is a reaction to the increasing popularity of price-time priority exchanges that employ maker-taker pricing for penny-quoted options. NYSE Arca Options, Boston Options Exchange and Nasdaq Options Market all pay liquidity adders on their platforms and charge those taking liquidity.
Exchanges with price-time models have gained market share since early 2007, when the industry launched a penny-quoting pilot. Options priced under $3 are quoted in penny increments, while those $3 and over are quoted in nickel increments. Unlike those markets, the pro rata system used by the traditional exchanges guarantees market makers quoting at the national best price up to 40 percent of incoming marketable orders. The traditional exchanges don’t charge customers transaction fees for most products.
The CBOE told members its second market is a response to exchange consolidation that has given both NYSE Euronext and Nasdaq OMX two options exchanges each. “Exchange consolidation has enabled major competitors, such as the NYSE/PCX/ AMEX combination and the NASDAQ/PHLX combination, to control multiple, separate Exchange licenses,” the CBOE said. “The ability to offer different execution venues (for instance, a traditional, floor-based market and an all-electronic exchange) under a single Exchange holding company enables these combined entities to appeal to option users across the entire customer spectrum.”
The CBOE will spend $25 million to launch C2 in 2009. The all-electronic exchange will operate under a separate exchange license, pending regulatory approval.
C2 will be a subsidiary of the CBOE, which itself will be a subsidiary of CBOE Holdings, once the exchange’s planned demutualization occurs. C2 will run on CBOEdirect technology, but will have a “separate access structure and fee schedule,” the CBOE said. The new exchange will have its own board of directors, rules, connectivity and systems architecture.
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