IS 356 IT for Financial Services Alternative Trading Systems (ATS) and Electronic Communications Networks (ECN)

October 21, 2015© Paul Tallon2/15 Definition  An Alternative Trading System (ATS) is a networked application that connects potential buyers and sellers of securities electronically, and matches trades that meet predefined criteria.  An Electronic Communications Network (ECN) is an ATS that has been registered with the SEC as either a broker/dealer or an exchange. – Broker/dealer = – Exchange = (Arca|Ex) Class Question: What’s the added benefit of registering as an exchange?

October 21, 2015© Paul Tallon3/15 Examples of ECNs Class Question: Consolidation is taking place (why do you think this is?)

October 21, 2015© Paul Tallon4/15 Vol. distribution - NYSE listed stocks Source: Goldman Sachs Trading & Market Structure Analysis Seeing through Nasdaq InterMarket Single-counted, share volume Internal matches only All hours Excluding ETFs October 2003 Slide based on presentation by Prof. Ingrid M. Werner, Ohio State University

October 21, 2015© Paul Tallon5/15 Vol. distribution – Nasdaq stocks October 2003 Share volume Single-counted Internal matches only All hours Excluding ETFs Mostly broker-dealer upstairs trades But also small activity on: Brut NexTrade MarketXT Attain TradeBook Other ATSs 2 to 5 percent? Source: Goldman Sachs, Trading & Market Structure Analysis Slide based on presentation by Prof. Ingrid M. Werner, Ohio State University

October 21, 2015© Paul Tallon6/15 Consolidated quotes

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October 21, 2015© Paul Tallon8/15 Trade through Rule (TTR)  Instituted in 1975, the TTR was designed to make sure investors got the best available price for their stock trade.  The TTR means that if you place an order and the best quote is with a specialist on the floor of the NYSE, then your broker is required to route your order there  Applies only to NYSE stocks since a MM would match the best price on a NASDAQ stock without having to route the order to that MM offering the best price  While a quote on a NASDAQ stock is executable, a quote on an NYSE stock is an indication and not a firm quote.  Specialists are allowed to hold an order for 30 seconds before either executing it or handing it off to another specialist—and during that time, the price may change.  NASDAQ members charge NYSE specialists with bait-and-switch pricing tactics so that orders are routed to the NYSE, then executed at a worse price than was available at the time the order was entered. Based on article by Theresa Carey in eWeek

October 21, 2015© Paul Tallon9/15 Clearing Mechanisms  After a trade takes place (i.e., becomes locked-in), then what?  There must be an exchange of cash for securities  Third parties offer clearing/settlement services  Possibility of self-clearing (e.g., Raymond James)  Fee for service charged back to broker  Trades clear in 3 days (T+3)  Stock borrowing in the interim Exch. Clearing BuyerSeller Securities Funds Securities Funds

October 21, 2015© Paul Tallon10/15 Stock Borrowing  The Continuous Net Settlement (CNS) System is an automated book-entry accounting system that centralizes the settlement of compared security transactions and maintains an orderly flow of security and money balances.  The Stock Borrow Program allows participants to lend NSCC (National Securities Clearing Corp.) available stocks and fixed income securities from their account at The Depository Trust Co., to cover temporary shortfalls in the CNS System. NSCC credits members' accounts with the full market value of securities borrowed, and members can earn overnight interest on that value by investing the funds. Class Question: What are some risks associated with this program?

October 21, 2015© Paul Tallon11/15  When the financial markets close, SIAC’s computers keep going, processing, on behalf of the Depository Trust & Clearing Corporation (DTCC) and its affiliates, nearly 100 percent of the equities and fixed income securities traded in the U.S. each day.  SIAC’s Shared Data Center alone is linked to the securities industry by more than a thousand communication lines over which an average of 70 billion bytes of data are transmitted daily.  SIAC plans, develops, implements and manages a variety of automated information-handling and communications systems. These systems support order processing, trading, market data reporting, trade comparison, surveillance, clearance and settlement for a broad range of securities. SIAC (subsidiary of NYSE)

October 21, 2015© Paul Tallon12/15 Block Trading  Strictly sold to the buy-side – suitable for large blocks  Launched in with 38 members – currently has 582 buy-side traders  Average trade size is 57,000 shares  Traded $11.5 billion of NYSE equities in first year  Quantity discovery, not price discovery – facilitates negotiation of price  NYBX open January 2009 – NYSE Euronext now in partnership with Liquidnet (June 09) Check out the Liquidnet Website

October 21, 2015© Paul Tallon13/15 ETFs & SPDRs  Different from Mutual Funds (buy/sell at NAV)  Trade directly on exchanges during the day  Lower expense ratios than with most mutual funds  Nov ‘09: 779 ETFs, $737,922m in assets (  Barclay’s iShares traded on AMEX  SPDR – benchmark S&P 500, 9 sector SPDRs  QQQ – Nasdaq 100  Tax implications

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October 21, 2015© Paul Tallon15/15 For Next Class…  Read – Check out for next classwww.liquidnet.com – Look for other block trading venues: NYBX