NASD Strikes Deal to Use Alternative Trading System

Primex, which will supplement Nasdaq trading, provides a mechanism for the Nasdaq to compete head-to-head with the NYSE.
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Call it war.

The

Nasdaq

stock market came out waving a big stick Thursday -- a deal to use a hot alternative trading system backed by some of Wall Street's biggest names to supplement its traditional electronic system.

After months of discussions, the

National Association of Securities Dealers

signed an exclusive (albeit nonbinding) agreement with

Primex Trading

, an electronic trading system that had also been in talks with the

New York Stock Exchange

. Its hope is that broker-dealers will voluntarily send orders to buy and sell both Nasdaq- and NYSE-listed stocks to this auction-based trading system, from which the Nasdaq will receive revenue.

While investments in electronic trading systems have been plentiful by Wall Street's establishment, this one will have far greater implications.

"It means that there is now a mechanism with which Nasdaq can compete head-to-head with the New York Stock Exchange," says John Coffee, a

Columbia University

law professor and Wall Street expert. Coffee predicts the Primex move by NASD may prompt the New York Stock Exchange to purchase an ECN and fire back, a move that will require an NYSE IPO.

The Big Board declined to comment.

Just last week, the NYSE decided to eliminate an arcane but important rule known as

Rule 390, which barred NYSE members from trading certain stocks off the exchange floor. So by the time this venture gets up and running -- sometime before the second-quarter's end -- Nasdaq will be able to trade NYSE stocks.

"We obviously had negotiated with a number of the exchanges, including the New York. We looked at the various issues and we decided we felt it would be better for Primex, better for the marketplace and for investors if we aligned with Nasdaq," says Bernie Madoff, a Primex partner and head of

Bernard L. Madoff Securities

, a leading Nasdaq market maker.

Meantime, Jon Najarian, a Primex trading system creator and head of option market maker

Mercury Trading

, says he's considering selling his Primex stake to the Nasdaq. Najarian owns about 18% of the company, with

Goldman Sachs

(GS) - Get Report

,

Merrill Lynch

(MER)

,

Citigroup

(C) - Get Report

and

Morgan Stanley Dean Witter

(MWD)

owning stakes of 10% to 12.5% each. Madoff owns the rest, or about 30%, he says.

While Najarian says he hasn't had any negotiations with the NASD, he's confident it's interested. "We had other Nasdaq board-of-governor types tell us this would be a logical next step," he says.

Such a bid would supersede the two bids he's expecting in the next 10 days from Goldman and Merrill, which are looking to increase their stakes, he says, valuing the stake in a wide range of $10 million to $25 million.

Goldman didn't have an immediate comment. Merrill declined to comment.

Under the Primex agreement, the Nasdaq will share development costs and pay a licensing fee but will also receive revenue from trading system fees, NASD President Rick Ketchum said during a conference call Thursday. Final terms of the agreement will be negotiated during the next few weeks and the board will vote on the plan in January. Ketchum didn't address during the call whether the NASD is interested in owning a stake in Primex.

On Thursday, the NASD board also announced it's closer to a plan for a restructuring that would involve spinning off its stock exchange. Although he wouldn't release details of how the spinoff would be structured, NASD Chairman Frank Zarb said the proposal should be completed for a full board vote in January.

A version of the plan that the NASD has presented to members in recent weeks called for selling 75% of the exchange in two private offerings next year.

That had angered some smaller NASD members, including board member Alan Davidson, who complained that the first of those offerings would take place without a vote of the organization's members. Thursday's meeting apparently soothed those concerns.

"I am extremely confident and comfortable supporting this restructuring," says Davidson.