For Options Exchanges, Multiple Listings Create Collective Obstacle -- Fierce Competition

Tradition dictates that an options exchange will steal a listing from a rival when that rival poaches one of its listings, but there's a sentiment developing that the best offense might be a good defense.

Experts had expected the coming attempt to multiply list grandfathered options, which trade on just a single exchange, to provoke competitors into a listings war. For example, if the American Stock Exchange were to list the Pacific Exchange-traded Microsoft (MSFT) options, the P-Coast would list Intel (INTC), an Amex exclusive.

In 1991, the Securities and Exchange Commission changed the way options listings were allocated from a lottery that gave the rights to one exchange to a system by which all exchanges could list any option. But about 60% of today's listings were grandfathered, protecting their exclusive listings.

Now, however, regulators are applying more pressure and a new competitor is promising to list the so-far exclusive listings, creating an environment in which exchanges are contemplating raids. At stake is increasingly precious order flow, volume that will be threatened by 2000, when the electronic International Securities Exchange begins trading on the 600 most-active options. That would certainly include premier grandfathered option listings such as Intel, Microsoft, IBM (IBM) and Dell (DELL).

But some traders and exchange officials are wondering whether they'd be better off defending their own listings rather than trying to capture others. With technology needs growing and volume relatively steady and strong across the exchanges, they may prefer to get traders to work harder to defend the turf they've already won. That tactic would involve improving technology, tightening the spread between the bid and ask on these listings and cultivating relationships with brokerage firms that provide order flow.

"If the [trading] crowd has a good relationship with the trading community, it won't lose any business," says Warren West, a trader who makes his living in the Philadelphia Stock Exchange Dell crowd, one constantly at the heart of the multiple-listing debate. "You can have a good market, but if you don't have the relationships, you're not going to get the volume."

One important New York trader agrees. "Exchanges would be smarter to defend what they already have. I hope they don't go out and list everything," the trader says. "Business isn't going to go unless you give [traders who work for securities firms and trading houses] a reason."

It also takes some work to get a new listing up. That necessitates technology upgrades, physical space on the trading floor and floor traders willing to put up risk capital to make markets. And with volatile Net stocks making their way into the options world, exchanges are forced to quote prices for strings of strike prices as low as 20 and as high as 250. Unless the volume follows, it can be an expensive undertaking.

In Chicago, Mercury Trading honcho Jon Najarian also sees reason for concern. "The real risk here is putting up more quotes and listings and staying with the same volume," he says. "We may take 20% from someone else's listing, but they'll take 20% of ours."

Najarian also is realistic about the dynamics of the floor. "If someone lists one of your stocks, you may say 'I'll make a better market,' but what's more likely is that you're going to pound the table and say 'I want [to take] Microsoft.'"

Late last year, Philadelphia trader Ed Mansfield applied to list options on 40 companies that trade elsewhere. He was rebuffed by the exchange, partly because of the fear that the Philly's single listings -- among them Dell, Home Depot (HD) and J.P. Morgan (JPM) -- would be targeted by the other three exchanges. Mansfield died March 29, but rumors that exchanges are going to poach the listings from one another won't go away.

However, the signs that some incursions will happen are apparent. Industry players say a recent move to drop 80 lightly traded options by the Chicago Board Options Exchange cleared the decks for more listings.

The exchanges are mum on the entire topic. They're feeling the heat from the government, which wants multiple listings, and they don't want to tip their hands to competitors.

One options trading firm executive says retaliation could be targeted against a certain crowd. For instance, if the CBOE steals an Amex listing, the Amex would move to list any option from the competing trading crowd.

Yet underneath this chatter, exchange officials are quietly hoping they don't have to get into a listings war.

In the past, the smaller Pacific and Philadelphia exchanges have hoped for the development of an electronic link that would route orders to the exchange with the best prices. That would help eliminate the advantage the larger CBOE and Amex get from their economies of scale.

On paper it looks like a good idea, but there are hurdles, such as the different execution costs of each exchange. The exchanges are generally supporting the idea in principle, in part to appease the feds. But there are issues such as Y2K, the switch to decimalization and how best to handle complicated options combination orders that can't quickly be ironed out.

And if payment for order flow becomes as common in the options market as it is in the equity market, exchanges wouldn't be able to guarantee that volume. Options exchanges aren't paying for order flow yet. "A linkage system would be in the best interest of the customer, but exchanges would lose a degree of control," says one high-ranking options exchange official. "They would also lose the opportunity to capture payment for order flow."

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