New Stock Exchange Mixes Retail Brokers, Banks & HFTs

Four retail brokers team up with three big banks and two high-frequency trading firms to create a new exchange.

If you were wondering how many stock exchanges in the US are too many, the answer to that question drifted further away on Tuesday. A new consortium of financial firms is preparing to launch a competing venue, aiming to make life more difficult for the NYSE and NASDAQ heavyweights.

Nine companies are forming a new equities exchange called MEMX, or the Members Exchange. The project is headed by several broker-dealers, banks, and high-frequency trading firms. The companies are Bank of America Merrill Lynch, Charles Schwab, Citadel Securities, E*TRADE, Fidelity Investments, Morgan Stanley, TD Ameritrade, UBS, and Virtu Financial.

The mix between three major banks, two high-frequency trading firms, and four retail brokers is a surprising one. It was almost five years ago when Michael Lewis dropped his Flash Boys bomb, alleging that HFT shops are using predatory practices to the detriment of traders that are not using highly sophisticated algorithmic trading strategies.

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At the time, the companies denied the allegations. In the official announcement on the launch of the project, the MEMX founding members emphasize their goals to foster a fair marketplace for retail and institutional investors alike.

Concentration of Power

Out of the 14 biggest exchanges executing stock market transactions in the US, 13 are owned by three companies: InterContinental Exchange (ICE), NASDAQ and CBOE. Shares of all three companies ticked lower yesterday following the announcement of a prospective new entrant into the space.

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The only other exchange that isn’t owned by the big three is IEX, founded by the chief protagonist of Michael Lewis’ best-selling book about HFTs, the Flash Boys. At present, the exchange handles between 2.5 and 3 percent of average daily volumes on the US stock market.

At the same time, two of the nine companies that are the founding members of the new exchange are generating massive volumes. Virtu and Citadel Securities combined are responsible for more than a third of total stock market trading volumes in the US.

Convincing Clients with Pricing

The founders of the new exchange are claiming that they can run the venue at a fraction of the cost that US major exchanges are currently charging. The main pushback against the big three came after recent data feeds price hikes.

Major banks and brokerage companies have been voicing their concerns about the pricing power of the big three exchanges. Back in October, the SEC ruled that CBOT, NYSE, and NASDAQ have failed to provide sufficient rationale for the data fees they are charging. That said, the US regulator only prevented new increases from happening.

The mix between HFTs, banks, and retail brokers will only gain the public’s trust if the new trading venue provides sufficient transparency to its clients. The CEO of Virtu Financial Douglas Cifu said that the founding members of MEMX represent a “diverse array of market participants.”

Indeed, the success of the new stock exchange, which aims to announce further details early this year, hinges on the ability of market participants to look after each other’s interests. It remains to be seen if HFTs, banks, and retail brokers can work together to ensure that their clients are well off in an ever more digitized market.

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