NEW YORK — Instinet LLC Chairman Ed Nicoll wants to bring the fast-execution, fee-rebate model of the Island electronic communications network to Europe, Canada and Asia, looking to deliver significant savings for global institutional investors.
“We’ll be 80% cheaper than the London Stock Exchange,” Mr. Nicoll said in an interview of the Chi-X European alternative electronic market, which will operate as a London-based quasi-exchange with displayed quotes.
“We’ll pay rebates along the 30/20 model,” Mr. Nicoll added, referring to Island’s groundbreaking model of charging 30 cents to customers for every 100 shares traded and paying back 20 cents for every 100 shares posted on the electronic book.
Island’s rebate system — now a U.S. industry standard — was a key factor behind the ECN’s success at capturing the lion’s share of the Nasdaq market. The aggressive pricing model is likely to challenge both global full-service brokers and exchanges overseas, just as Island competed against market-makers and Nasdaq alike. Like Island, Chi-X will provide free real-time market data to customers.
Mr. Nicoll, who co-founded U.S. online brokerage Waterhouse Investor Services and sold it to Canada’s Toronto Dominion Bank in 1996, has an impressive track record of finding value in struggling financial firms. Besides Island, he turned around Datek Securities Corp., Edison, N.J., a pioneering online broker plagued with regulatory problems, and Instinet, which had failed to adapt to competition under its previous management.
Instinet has also struck a deal with Fortis Merchant Bank, the international wholesale bank of Fortis NV, Amsterdam, which will clear all Chi-X’s European trades, using trade compression and netting to slash clearing and settlement costs.
Currently undergoing beta testing, Chi-X should be fully operational by this fall — in time for the European Union’s Markets in Financial Instruments Directive, which takes effect in November. The directive, which will introduce a single market and regulatory regime in 30 European countries, seeks to boost transparency and competition in trading, much like the Order Handling Rules did in the U.S. in the late 1990s, allowing then-newcomer Island to succeed on a level playing field.
Low-cost technology
Island’s success shows how effective a high-tech, low-fee strategy can be. Instinet bought it in 2002 for $500 million from three private equity firms and renamed it Inet. Those firms — TA Associates Inc. and Bain Capital LLC, Boston; and Silver Lake Partners, Menlo Park, Calif. — had bought Island from its founder, the former Datek Securities, three years earlier for a reported $25 million.
Last year, Instinet sold Island to Nasdaq for $1 billion. Inet’s technology now powers Nasdaq’s trading platform, which has one-millisecond execution, the fastest in its industry.
“What we were able to do, which was at the core of the success of Island, was to invest in technology that took advantage of the price-performance ratio of technology breakthroughs over the last 10 years,” Mr. Nicoll said. “We built our technology with anything off the shelves, anything that was cheap. We had no pretense about selling our technology.”
Much of Island’s innovative technology was designed in the mid-1990s by Joshua Levine, a college dropout and programming genius who is still revered today in the trading industry, although he left Instinet in 2003 to devote time to his own projects.
“If there was a true technology innovation at Datek and Island, it came from the code written by the guys at (Datek subsidiary) Watcher Technologies (LLC, Jersey City, N.J.) and Josh,” Mr. Nicoll said.
In 2006, Mr. Nicoll made the same heavy bet on low-cost, high-performance technology to turn around Instinet. Nasdaq had bought the entire Instinet group in a complex deal to take control of Inet while simultaneously spinning off all other business divisions, including the global agency broker. For the past year, Mr. Nicoll has focused on revamping Instinet’s order-crossing technology, discarding a legacy system and launching a new platform with access to asset classes other than equities to better serve its customer base of asset managers, mutual funds, insurance companies, pension funds and hedge funds.
This paved the way for Japan’s brokerage powerhouse, Nomura Holdings Inc., to acquire Instinet’s agency brokerage operations in February for $1.2 billion. The price was nearly $1 billion more than what Instinet was shopped around for just a year ago. Private equity firm Silver Lake Partners again stepped in to acquire Instinet in December 2005 for an undisclosed sum, along with Mr. Nicoll and other Instinet executives, to make the Nasdaq-Inet deal possible.
Nomura has given Instinet carte blanche regarding its global operation.
“We already have a lot of liquidity. We represent a 3% market share in Germany, 2% on the Tokyo Stock Exchange. We have been a big member of the Hong Kong Stock Exchange for the past six months,” Mr. Nicoll said, adding that Instinet’s market share in the U.S. is 4.3%. He noted his business model can be competitively priced because it is based on the unbundling of payment for research and execution.
As Instinet chairman under the Nomura umbrella, Mr. Nicoll will no longer attend to the day-to-day operations. Longtime associates and Instinet co-Presidents John Fay and Alex Goor were promoted in February to co-chief executive officers. Mr. Fay is responsible for foreign operations and Mr. Goor for U.S. operations and the group’s global technology.
Regulatory savvy
Another component of Mr. Nicoll’s success with the various ventures he led is the understanding of what regulatory changes mean to a business model. For instance, Island spearheaded an aggressive push — sometimes seen as overly aggressive by the Securities and Exchange Commission — to bring about the Regulation NMS reform.
Canada is instituting regulatory changes of a smaller scope than MiFID or Reg NMS. But the new rules take into account the industry push for more competition. This seems highly likely to benefit Instinet in Toronto, where the firm plans to launch Instinet Canada Cross, an ECN based on the same technology and pricing structure as Chi-X.
Instinet is also developing a KoreaCross crossing network in South Korea and already operates a continuous crossing facility in Japan, CBX Japan.
