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Electronic Communication Networks

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  1. Electronic Communication Networks Marie Carone

  2. Definitions • Broker-dealers • Exchange • Limit order • Limit order books • Institutional investors • Market-makers • OTC trading

  3. What are ECNs? • Off-exchange exchanges • ECN vs exchange • Both • Conduct transactions • Collect fees • Produce and sell market data • Exchanges • Can list stocks • Govern themselves… • ECNs • Governed by the SEC

  4. Automated limit order books

  5. Specialists • NYSE vs ECNs • NYSE • Broker sends buy order to specialist • Specialist finds sellers • ECNs • broker sends buy order to ECN • Computer matches orders • No specialists • SEC charges 2005 • Interpositioning – extra broker/dealer • Trading ahead – own account • Lucky

  6. What are ECNs? • Automated limit order books • Open display • Offer anonymity • After-hours trading • Subject to SEC’s Regulations • Order protection rule – best displayed prices • Access rule – fair access, limit on fees • Sub-penny rule

  7. List of ECNs • Instinet (1st) • Archipelago • Island • BATS • Direct Edge • LavaFlow • Bloomberg • Track Data

  8. Instinet • 1st • Started in 1969 (before Nasdaq) • Subscribers • Institutional investors • Broker-dealers • Market-makers

  9. Instinet • Initially a broker-dealer • Operated electronically • New category ECN • In 1997 • And imposed order handling rules • Why?

  10. Order Handling Rules • Display Rule • Display order if better than specialist’s or market maker’s • Quote Rule • ECN amendment • Make publicly available any superior prices

  11. ECNs • After 1997 the number increased • Became a real competitor for Nasdaq • Archipelago, Brut, Island, Instinet

  12. Retail • Archipelago • 1997 • Both institutional and retail • Island • Mostly retail • Acquired by Instinet in 2002

  13. Consolidations and Acquisitions • Early 2000 • Instinet by NASDAQ • Archipelago by NYSE

  14. Exchange Rule 390 • Restricted ECNs • Rescinded • SEC pressure • 1999 • Has since lost market share to ECNs

  15. Summary • ECNs has advantages over the traditional trading systems • Less expensive trade execution • Faster trade execution • More complete price information • Anonymity • Hours

  16. Questions

  17. Sources • (n.d.). Retrieved April 6, 2011, from Investopedia: http://www.investopedia.com/terms/t/tradingahead.asp • (2005, 11 4). Retrieved April 6, 2011, from SEC: http://www.sec.gov/divisions/marketreg/mrecn.shtml • Engber, D. (2005, April 21). Markets vs Exchanges. Retrieved 4 06, 2011, from Slate: http://www.slate.com/id/2117171/ • Fabozzi, F. J., Modigliani, F., & Jones, F. J. (2010). Foundations of Financial Markets and Institutions. Pearson Education Inc. • Samii, M., & Karush, G. (2004). International Business and Information Technology. New York: Routledge. • Understanding ECNs and Inside Spreads. (n.d.). Retrieved April 16, 2011, from UC San Diego Economics: http://econ.ucsd.edu/~mwilloug/documents/Articles%20and%20Reports/NASDAQ%20inside%20spreads.pdf