isn't exactly an old-school Wall Street institution. In fact, it's the darling of the online world and owns a piece of an electronic trading system called
market-making unit of the
, whose largest customers are well-known online brokers like
, is trying to tear down what is largely seen as one of new Wall Street's inequities.
The unfair barriers, Knight says, are the fees that increasingly popular electronic communication networks, or ECNs, charge to nonsubscribers that trade with them. Those fees, Knight says, make trading more expensive for the retail customers of its brokerage clients.
Some ECNs, meanwhile, seem resigned to a world without the fees, especially since the
Securities and Exchange Commission
seems opposed to them. Still, taking away income just as ECNs become a Wall Street power could hamper their efforts in arenas like after-hours trading.
ECNs are electronic order-matching systems that made up about 33% of Nasdaq volume in the third quarter, according to recent numbers from
analyst Greg Smith. These subscriber-based systems are part of the Nasdaq market system, but instead of taking revenue from the spread, or the difference between the bid and the offer as traditional market makers do, they charge a transaction fee.
Knight has plenty of support for its position. SEC Chairman Arthur Levitt recently questioned the fees, even as he said ECNs have added important competition to the market. Then there was a recent
National Association of Securities Dealers
arbitration case that leaned toward Knight's position.
Knight made its case in a Dec. 3 letter, from Chief Executive Kenneth Pasternak and Chief Operating Officer Walter Raquet, mailed to other broker-dealers. They sent along Knight's own strongly worded letter to the SEC and a form letter that Knight wants the broker-dealers to send to the SEC.
Knight's letter says the fees have created higher trading costs for its customers' largely retail clients, as well as $26 million to $30 million in lost earnings for the firm. In 1998, parent Knight/Trimark earned $50.8 million.
While Knight's Pasternak says there may be alternatives to total fee elimination, such as including the ECN fee in the quote, reducing the fee or allowing everyone including traditional market makers to have the fee, the hard-line stance in his letter is designed to spur action. "I wanted to go to the most extreme and force a controversy," he says.
Knight's letter to the SEC is dated just a few days before it got word on a case involving Montvale, N.J.-based
All-Tech Investment Group's Attain
ECN. A NASD arbitration panel ruled largely in Knight's favor earlier this month when it awarded All-Tech only a few thousand dollars compared with the more than the $97,000 that All-Tech said Knight owed it in such ECN access fees.
Pasternak says the timing of the ruling is coincidence but may help. "Certainly that maybe put this on people's radar," he says.
With or without the letter-writing campaign, ECNs already were looking at this issue because of remarks this fall by Levitt. In September in a speech at New York's
, Levitt said that ECN access fees may need to be "redressed" and then made similar comments in October while testifying before the Senate.
At Columbia, Levitt said, "Because brokers often have little choice but to pay whatever fee is charged by the ECN, competitive pressures on these fees have been all but paralyzed. Nasdaq market makers, by contrast, may not charge fees to access their quotes. In this regard, ECN access fees stand alone in an otherwise fee-less arena. I believe this imbalance in the marketplace must be redressed. I have asked the commission's staff to recommend the best approach toward restoring a fair, competitive balance in this important area."
ECNs say the SEC isn't contacting them yet, but they are preparing for a rule change next year. At Chicago-based
, general counsel Kevin O'Hara says the company's future business plans don't include fees. In New York,
Datek Online Holdings' Island
ECN also supports their elimination, says Island general counsel Cameron Smith.
"Things are changing so fast who knows what's going to happen tomorrow," says Larry Liebowitz, president of ECN
. "If these fees do go away, ECNs might all register to be exchanges, to make the money up somewhere else." Redibook is owned by
Spear Leeds & Kellogg
As Liebowitz points out, while some of the nine ECNs have other revenue sources, such as software platforms or brokerages, but others depend on the fees.
"Most ECNs are running on low margins to begin with. If the regulators think that these ECNs are good for competition, then getting rid of a major source of revenue might not be the way to go," he says.