Archipelago likes challenges. On the heels of receiving Securities and Exchange Commission approval to form ArcaEx -- an all-electronic equity exchange that plans to eventually trade both listed and over-the-counter stocks -- the Chicago-based electronic-communications network most recently agreed to join forces with Redibook. Consequently, on
top of the huge task of morphing from a broker/dealer-regulated ECN specializing in Nasdaq stocks to a self-regulated exchange that will trade all types of equities, Archipelago now must construct a plan to merge its operations with those of its one-time ECN rival.
Unquestionably, this is a complicated project. Archipelago has spent the past 18 months developing a sophisticated matching engine that can trade listed equities on a price/time priority-driven exchange, in preparation for its planned launch of ArcaEx in the first quarter of 2002. Via ArcaEx, Archipelago will become the first ECN to make the leap to exchange status, trading New York Stock Exchange and American Stock Exchange-listed stocks in a self-regulated environment.
What's more, simultaneously, Archipelago will have to find a way to integrate Redibook's technology and services without alienating any of Redibook's stable of 400 clients. But just how will Archipelago achieve this?
Well, to start with, Archipelago will use Redibook's trade-matching engine to trade OTC stocks. Redibook, like Archipelago, built its ECN business by matching buy and sell orders for Nasdaq stocks. So Archipelago plans to leverage Redibook's experience by integrating the ECNs' OTC order books and linking them with Redibook's matching engine. "Our number one technology priority is to get the (ArcaEx) exchange up and running. The second piece will be to put our two OTC books together using Redibook technology," says Archipelago president Mike Cormack.
This strategy calls for the joint Archipelago/Redibook entity to maintain two matching engines: the Redibook technology for OTC stocks and an Arca-supplied engine for trading listed securities on the exchange. Cormack says this dual strategy is feasible, partly because Archipelago had always planned to start trading Nasdaq stocks on ArcaEx only after it had successfully matched orders for NYSE and Amex stocks on the exchange.
While refusing to specify Archipelago's time frame for launching trading of Nasdaq stocks on ArcaEx, Cormack says that the ultimate plan is to trade both listed and OTC stocks via the exchange's matching engine. "We want to make sure that our trading engine can handle somewhere in the neighborhood of 1 billion shares a day of OTC flow before we would move that volume onto the exchange platform," he says.
Larry Leibowitz, a senior vice president at Charles Schwab and the acting chief executive officer of Redibook, concurs that migrating the ECNs' order flow to a single matching engine is the ultimate goal. However, he also says that plan is not etched in stone. Noting that the merger gives Archipelago and Redibook "complete flexibility," Leibowitz says that the ECNs will wait to see what happens with listed equities on ArcaEx before making any final decision on Nasdaq stocks.
"Our customers are intrigued by (ArcaEx), but neither Arca nor Redibook is going to do anything to disadvantage its customers .... (So) if it makes more sense to continue to trade Nasdaq stocks on an ECN, that's what we'll do," he says.
Sang Lee, an analyst covering e-trading at the research and consulting firm Celent Communications, says that, on an interim basis, running dual matching engines is a sound strategy. In the short run, he says, it's logical to maintain both engines, because if the allies shut down one ECN, they could potentially "lose" some customers. "In the long run, it's probably in their best interests to consolidate the two systems ... (but) integrating these two systems may take a long time. So it makes sense to run these (engines) side-by-side," Lee explains.