Congress Examines Impact of ECNs on Stock Markets

Computerworld - Washington—Electronic communications network (ECN) operators defended themselves before Congress last week, pointing to their economic advantages, while critics said they skirt the law.

ECNs are systems that electronically connect buyers and sellers of equities. They rely on high-speed networks and systems to conduct trades and have emerged into prominence during the past several years. For example, they handle 40% of the trades on the Nasdaq Stock Market, according to industry executives who spoke at a congressional committee meeting here.

ECN technology has significant advantages for financial traders, say supporters. One ECN, NYFIX Millennium LLC, was formed by NYFIX Inc. in Stamford, Conn., and 10 U.S. investment banks and went live just before last year's terrorist attacks. It matches buyers and sellers of stocks, bonds and other financial instruments almost instantly - within 100 to 150 milliseconds. If the traders can't immediately improve on the price listed on the New York Stock Exchange, the trade is sent to the NYSE for execution, according to NYFIX CEO Robert Gasser.

"ECNs must earn their keep by innovating," said Kevin Foley, CEO of Bloomberg Tradebook LLC, an ECN based in New York.

ECN owners recognize that they have ruffled some feathers. The networks "present serious competitive challenges to the established market center," said Foley at last week's hearing before the Subcommittee on Commerce, Trade and Consumer Protection.

And the way these systems interact with other data-sharing systems is an issue. Of particular concern at the hearing was the Intermarket Trading System, a more than 20-year-old system linking the nation's stock markets. Foley called it the technological relative of the eight-track player.

Breaking the Rules?

However, Michael Ryan, an executive vice president at the American Stock Exchange, was critical of one ECN, The Island ECN Inc., for not publicly displaying orders in the consolidated quotation system. Ryan told the committee that Island is violating the U.S. Securities and Exchange Commission's (SEC) alternative trading system rules.

But a spokeswoman for Island disputed that and said the New York-based company isn't violating any rules.

Damon Kovelsky, an analyst at Meridien Research Inc. in Newton, Mass., said participating in the consolidated quote system may slow down an ECN. "The way trades occur now is not the way they occurred 10 to 15 years ago," he said. "Rules and regulations have not kept up to speed."

This was the second hearing held on ECNs by Rep. Clifford Stearns (R-Fla.), the committee chairman. An earlier hearing looked at trading networks after last year's terrorist attacks, and ECN operators said at that time that the decentralized nature of their networks offered a measure of protection.