1. IS 356 IT for Financial Services
IS 356 IT for Financial Services
The Search for Large Block Liquidity:
From Liquidnet to OptiMark
Please use this space for making ANNOTATIONS or for adding comments to individual slides.

2. Characteristics of an Ideal Market
Certified confidentiality
Price discovery at all sizes
Liquidity available
A frequent call or continuous market
Cancellations at electronic speeds
© Paul Tallon

3. The Block Trade Problem
source:
© Paul Tallon

4. Transaction Costs
According to the Plexus Group, institutions on average incur hidden transaction costs of $.39 per share for every trade they make. This amounts to $100 billion in transactions costs each year.
change in stock price
Announcement Costs
© Paul Tallon

5. Block Trading Video: Seth Merrin
Click above to launch video.
© Paul Tallon

6. Regulation coming soon…
Almost 40% of US stock traded through dark pools but nobody knows who does what… we only know aggregate data monthly
Click logo above for video.
Might LiquidNet be able to dodge potential SEC regulations involving dark pool trading?
© Paul Tallon

7. When and how would a dealer use Optimark rather than another market source?
Options
When
How
Nasdaq
Desire to place order with a single price and quantity
Loose network of broker-dealers serving as market makers. Use own K to buy/sell stocks and profit from spread between bid/offer prices quoted “real time”
NYSE
Desire for order driven trades of listed stock in auction market model
Labor intensive
Physical floor
Via a specialist (1 market maker)
ECN
Desire to display order anonymously but disclosed to traders
Seek lower cost structure
Screen order book displays bids/offers of investors and continuously matches orders electronically
Optimark
Desire to place multiple orders with multiple price and quantities without disclosure to traders
Indicate “willingness” to buy via graphical interface designating preferences
Algorithm continuously matches orders electronically
© Paul Tallon

8. OptiMark: Buy-side and Sell-side
Large institutional investors such as mutual fund or pension managers on the “buy-side”
Brokerage firms on the “sell-side” to help out their institutional clients
Small retail investors who benefit from matching the aggregated interest of other small traders to a large investor
© Paul Tallon

9. Innovative Idea
New means of representing trading strategies based on simple color visualization of preferences
Lighter colors reflect greater satisfaction
For larger orders, I would be willing to pay more just to get the order executed but I cap the amount I am willing to pay when it reaches the black cells.
Buy order
Signal willingness to pay a little extra to have the order completed
© Paul Tallon

10. Graphical rendering
© Paul Tallon

11. Fees: OptiMark vs. Others
NASDAQ – Revenues from commissions which can be 5 –10 cents a share, bid-ask spread and market impact, timing cost and opportunity costs
ECN – Charge their users-per share access fees and charge commission to dealers
OptiMark – Transaction fee of one cent per share from each side of a trade for member's own customer accounts. For trades in customer accounts, fee is paid out of brokerage commission
© Paul Tallon

12. Value Proposition for Institutions
Traditional Costs
Trading cost for an Institution
Commission %
Bid-Ask-Spread %
Timing Cost 0.43 %
Opportunity %
Total %
OptiMark’s Cost
Sell 1¢ / Share
Buy 1¢ / Share
Total 2¢ / Share
100,000 shares of Microsoft bought & sold at $50
Sell .0136% x 100,000 x $50 = $68,000
Buy .0136% x 100,000 x $50 =$68,000
TOTAL = $136,000
Sell 100,000 x 1 ¢ = $1000
Buy 100,000 x 1 ¢= $1000
TOTAL = $2,000
© Paul Tallon

13. NASDAQ – OptiMark Connectivity
source:
© Paul Tallon

14. OptiMark Troubles
$236m in funding from Merrill Lynch, Goldman Sachs, CSFB, PaineWebber and Softbank ($100m alone)
Revenues $3m in 1999 – 75% came from 4 users!!!
Typical daily volume was 1m shares, a few 3m+ days, so revenues were low (1,000,000 x $0.01 = $10,000); this eventually declined to 100k shares per day
Not a specialist, so they could not provide capital or a source of liquidity to ensure a fair and balanced market
Officially, they could trade 250 NASDAQ stocks, but their system was so complex, they could only manage 10
Most of their matches were found on the NYSE: TTR
© Paul Tallon

15. For Next Class…
Read
Read the Oriental Fortune case study (emerging markets)
We will review the case in class and discuss some other international initiatives to design efficient equity markets
Second blog is due on Oct. 9
There will be an exam on Oct. 16 covering everything we’ve done so far
© Paul Tallon