N.Y. Stock Exchange: Trading Futures
N.Y. Stock Exchange: Trading Futures
Doreen Mogaveros marching orders appear on a screen in her cramped booth on the New York Stock Exchange floor: Sell 50,000 shares of Bank of New York. No rush. Get the best price possible.
Mogavero, president and CEO of Mogavero, Lee & Co., an independent broker with direct access to the trading floor, first taps a touch screen to get a chart of Bank of New York, or "BK." She accesses the NYSEs electronic trading system, known as Direct+, and unloads 1,000 shares at $30.34.
"That gets us rolling," Mogavero says. She would have sold more. But Direct+ trades are capped at 1,099 shares every 30 seconds, so electronic trading wont take away the heart of the NYSEits system of auctioning shares between specialists in handling particular stocks.
Pending approval from the Securities and Exchange Commission, Mogavero in about a year will be able to sell the entire 50,000-share block electronically if she so chooses.
The NYSE plans to meld electronic trading with its traditional auction system to create a hybrid market that will appeal to split-second traders as well as institutional buyers looking for the pricing stability that a market managed by specialists provides. The hybrid market is one of chief executive officer John Thains top tasks as he tries to restructure the NYSE and ward off inroads from increasingly popular electronic trading networks such as Archipelago and Instinets INET, which have a strong presence on the rival Nasdaq Stock Market.
On the Nasdaq, Archipelago and INET combine to move 51% of shares traded. For NYSE-listed stocks, Archipelago and INET accounted for 5.3% of shares traded in January, up from 4.4% a year ago. Another emerging player: Liquidnet, which electronically arranges block trades averaging 63,408 shares for institutional buy-side money managers, the NYSEs core market.
To make matters worse, Thain must carry out this sea change at the same time he has to revamp a board of directors left reeling by the $187.5 million pay and retirement package it granted former chairman Richard Grasso. The CEO also has to find some way to boost the value of a seat on the exchange, which has plummeted from $2.6 million in 1999 to $1 million today.
And he has to bolster the spiritsand businessof the specialists while hes at it.
Specialists dont exist in purely electronic exchanges. But the New York exchange relies on these auctioneers as the grease that keeps its gears moving. If an institution wants to sell a holding but has no customer for its stock, the specialist steps in and acts as one. Similarly, the specialist steps in if an investor wants to buy a specific stock but no seller is on the spot. Today, specialistswho know the behavior of their assigned stocks perhaps better than that of their spousesline up trades verbally. Under the hybrid market, they can line up trades using algorithms that consider price spreads and historical data to match buyers and sellers.
What the NYSE will get is a market where electronic trading will dominate for highly liquid stocks such as General Electric. The current auction system will stay in place for less widely traded shares, to narrow price gaps such as an offer to buy at $40.50 and an offer to sell at $40.25.
But first the NYSE has to cook up the software that will let the specialists create interfaces and algorithms to make trades happen electronically and update its existing eBroker software, so traders on the floor can indicate buying interest and shares in reserve using handheld computers.
The hybrid market will be a new body on top of the Direct+ chassis. But the exchange will need systems that execute functions not currently available through Direct+. Traders, for example, will want to execute "sweeps, where they can swoop in and buy all the shares that have been put up for sale in a specified price range.
ZIFFPAGE TITLEIs Faster Better
Is Faster Better?
Ultimately, all of the NYSEs systems, most of which are homegrown, will be touched by the moves toward instant, higher-volume trading. The goals are clear: automate as much as possible; complete trades faster than todays 14-second average; maintain an 80% market share in trading NYSE stocks; fend off electronic rivals; and navigate a rapidly changing regulatory landscape.
"Over its 212-year history, the exchange has built its reputation on the highest standards of market quality," Thain said at an August press conference. "What we have not offered to a sufficient degree is speed." Indeed, Mogaveros trade took 8 minutes, but she notes that "speed wasnt the issue with this trade."
Why did it take minutes and not seconds? Today, specialists and floor traders may talk in several conversations in order to complete trades.
Mogavero found a buyer for her remaining 49,000 shares by chatting to a specialist who noted that a Merrill Lynch trader was interested in her shares.
"I wouldnt know those shares were out there on the Nasdaq," Mogavero says. "Theres no one to ask. At an electronic exchange, I may see an offer of 1,000 shares and not know theres another 100,000 behind it to be sold. Here, I can ask around."
Now the NYSE has to speed up Mogaveros trade. According to Robert Britz, president and co-chief operating officer of the NYSE, "Right now, were laying the foundation."
There are two major technical pieces to the foundation. The first is the eBroker handheld device. This is a custom-built computer from IBM that can take handwritten notes and wirelessly transmit details of orders to the NYSEs maze of interconnected systems on its trading floor, in its data centers and offices at 11 Wall St., and elsewhere. More often than not, traders input figures into eBroker more than they talk. Without eBroker, trading just wouldnt happen, Mogavero says.
The eBroker system will get an update called eQuote, due in late summer, Britz says. The system will serve as an upgrade to the eBroker terminals on the floor, allowing traders to use their handhelds to perform many of the tasks they now do verbally. For instance, traders will be able to pitch and book big block trades of, say, 50,000 shares at $50 each, to specialists through the eBroker handhelds. The upgrade will also allow traders to store disclosed and undisclosed offers, such as a disclosed offer of 50,000 shares at $50 and an undisclosed 10,000 just in case the stock runs to $50.30.
These reserve shares can be kept out of view of the specialists and shared among traders. Applied to Mogaveros Bank of New York trade, eQuote would allow her to find out electronicallyand discreetlythat Merrill Lynch was interested in buying more shares. Taken to the extreme, you could have a crowd of people transacting trades wirelessly on the market floor without saying a word.
The second project will be to provide specialists with application program interfaces (APIs), software sockets that allow them to connect their book of orders to algorithms that will make trades for them and keep the markets moving smoothly.
These algorithms will be able to generate bids that improve the exchanges best offer price, withdraw a previous bid, supplement bids, execute trades and line up specialist interest in shares at different price points. Algorithms wont be able to take bids or make offers. Only specialists will be permitted to do that, in an effort to buffer volatile trading and check trades.
Simply put, much of the specialists job today will be automated. Thomas Schafer III, who specializes in the trading of shares in pharmaceutical giant Pfizer, hopes automation will filter out the "noise" of the market. To Schafer, that means trades ranging from 1,000 to 5,000 shares. These are trades too big for Direct+ because of the NYSEs cap on electronic trading, but too small to make a meaningful difference to the pocketbook of a specialist, who profits from the difference between a bid and an ask in a market order or through trading the firms account.
Schafer and his crew would rather negotiate big block trades, say, 500,000 shares. "I expect this to free me up from the mundane and focus more on the gamesmanship," he says.
Britz says that without these sockets, specialized software for specialists couldnt be created, closing them out of the electronic market. But no firm timetable for a rollout of the sockets or software for the specialists has been set.
ZIFFPAGE TITLEWhen Worlds Collide
When Worlds Collide
With the hybrid system installed, NYSEs challenge will be to find the balance between productivity and stability. Heres how those two worlds collide.
On Dec. 10, 2004, Pfizer announced that its Celebrex arthritis drug leads to heart attacks. The stock traded as high as $25.95 and as low as $21.99; more than 289 million shares changed hands.
Before the NYSE opened, Pfizer traded on the electronic exchanges at around $22 a share. With 100 people standing around his post and 37 million sell orders, Schafer delayed Pfizers open until after 10 a.m., or about 45 minutes after the company made its announcement, so traders could evaluate the news.
Schafer opened with a price of $23.52, about $1 higher than the price on the electronic exchanges.
As Schafer explains, "$22.52 to $23.52 may not seem like much, but if youre the money manager who dumped 7 million shares at $22.52, you have to explain why you lost $7 million." He says the Pfizer incident shows the benefits of the NYSEs format.
Kevin OHara, chief administrative officer for electronic net Archipelago, disagrees. He says the electronic exchanges did all the heavy lifting and found a stable price well before Pfizer even traded on the NYSE. "When it was an extreme period for Pfizer, the NYSE shut down its post so it couldnt trade," says OHara, who adds that the NYSE "was keying off the electronic price."
How that Pfizer trade will happen in a hybrid market is a hot topic for specialist firms such as LaBranche & Co. Chairman and CEO Michael LaBranche has spent his last two earnings conference calls fielding questions about a hybrid system at the NYSE. On a Jan. 21 call, LaBranche said automation should boost productivity as specialists rely less on keystrokesas many as 20,000 to 30,000 a dayand more on programs that react to and interpret a stocks "behavioral patterns." To shepherd these projects, Britz says the NYSE is spending much of its time making sure it identifies what traders and specialists need and building their requirements into the system.
Once floor traders, specialists and other market participants have their say in new technologies, changes will be rolled out slowly and evaluated. For example, Direct+ can handle more than the 159 million shares it traded on an average day in January, but is limited so the NYSE can study its impact on volatility.
"We implement in a very measured way, even with good design and QA [quality assurance]; were integrating a series of related subsystems and we have to make sure there arent unintended consequences," Britz says.
Its devotion to human involvement in the auctions and big trades means the exchange mostly writes its own software.
"By and large, we do all of own cooking," Britz says. "We get what we want, and there arent any places in the world that do what we do and on the scale we do. Obviously, if we could go out and buy cheaper and faster, we would, but frequently we dont have the option."
Institutional and individual investors will have to wait until at least March 2006 to see what Britz has cooked up; and whether Thain can keep his board, specialists and seat owners all happy with the resulting broth of men and machines.
ZIFFPAGE TITLENew York Stock Exchange
: Base Case">
New York Stock Exchange: Base Case
11 Wall St.,
New York, NY 10005
Phone: (212) 656-3000
Chief Technology Officer: Roger Burkhardt
Average Daily Trading Volume in 2004: 1.46 billion shares
Challenge: Expand use of electronic trading while maintaining open auction format.
- Increase percentage of electronic trading at NYSE to 20% by year-end 2006, up from 9.8%, or 159 million, of the 1.62 billion shares traded daily in January 2005.
- Be ready to roll out hybrid electronic/human exchange in 12 months.
- Cut time to complete a trade from 14 seconds, on average, to 7 seconds.