By now, everyone in the financial community knows that Instinet and Island, the two largest ECNs, have signed a pact to form a merger that could dramatically shake up the Nasdaq Stock Market landscape. But what will happen to the single-stock futures business that Instinet stands to inherit from Island?
Prior to announcing its deal with Instinet, Island had planed to launch an all-electronic SSF market -- dubbed the Island Futures Exchange -- later this year. However, if the merger receives regulatory approval, Island will have a tremendous amount of work on its plate, including, most significantly, the integration of its matching engine with Instinet's platform.
Jean-March Bouhelier, Instinet's chief operating officer, says that he expects Island's SSF business to become a component of Instinet's ECN operating unit. After the merger goes through, Bouhelier explains, Instinet will create a pair of distinct operating units: a global agency brokerage unit, which Bouhelier himself will run, and an ECN unit, which will be headed by current Island Chief Executive Matt Andresen. For regulatory reasons, Bouhelier says, Instinet/Island may have to "create a separate legal entity" for its SSF business, but the ECN division will definitely run and maintain the SSF trading platform.
While noting that it is hard to predict the impact of hybrid contracts that have not been traded in the United States in more than 20 years, Bouhelier says that Island's SSF business will provide Instinet with room to grow its portfolio of products. "One of the ways to expand our asset class is to get involved with single-stock futures," he says. "The fact that Island has made progress there is exciting for Instinet's customer ... (because) this will allow us to not just be an equity ECN, but a marketplace where people can come to trade multiple asset classes."
Island's Andresen says that it is "premature" to discuss the ECN's SSF strategy, especially its post-merger plan. However, he says the success or failure of Island's SSF business will be directly proportional to the U.S.-popularity of the contracts. "The good news is if they're worth trading, Island is going to trade a lot of them," he says. ""If these instruments take off and are very liquid, Island is going to have a great shot to be very successful in them. If they don't pan out ... than it's not going to be terribly important to have access to liquidity or speed."
Sang Lee, an analyst covering e-trading at the research and consulting firm Celent Communications, retorts Andresen's take on Island's SSF potential sounds a bit too optimistic. Island, he notes, will face significant competition in the SSF arena from a pair of large, all-electronic SSF consortiums: NQLX, a market uniting Nasdaq and the London International Financial Futures and Options Exchange and OneChicago, a joint venture comprises of the Chicago Board Options Exchange, Chicago Mercantile Exchange and Chicago Board of Trade. "There are tons of other more experienced players that are out there that are in the midst of doing the same thing, including Nasdaq/Liffe. And Liffe is already trading universal stock futures .... So I think that (single-stock futures) is just going to be an interesting side business for Island," says Lee.
Interestingly, the Commodity Futures Trading Commission and the Securities and Exchange Commission just granted SSF markets the ability to list futures based on exchange-traded fund contracts. Initially, SSF contracts were going to be comprised exclusively of futures based on individual stocks. But with this regulatory ruling, SSF exchanges will be allowed to list futures based on ETFs -- open-ended mutual fund contracts that Island has had excellent success trading.
In fact, Island is now the largest marketplace for the QQQ, the most popular ETF. The American Stock Exchange, the home market for the QQQ and more than 100 other ETF contracts, also plans to get into the SSF business, by trading the hybrid contracts on its floor.
Since the CFTC and SEC's ETF ruling was just announced, it's hard to say what kind of impact it will have on Island's SSF business. But Bouhelier says that Instinet is very optimistic about the prospects of the ECNs' combined ETF business. "What's interesting is that our ETF flow is very institutional driven, and Island's ETF flow is much more proprietary (trader) driven. So by bringing the two types of customers together, we can actually offer a very complete ETF market to the customers," he says.