Exchanges' futures
Markets see risk, reward in more-perilous times
Safe in the ether: Chris Doubek believes that electronic stock exchanges will play a larger role as financial markets seek to reduce their vulnerability to terrorist attacks. Photo: Steve Leonard
September 17, 2001
By Steven R. Strahler
Chicago's exchanges, which thrive on risk and uncertainty, will get more of both — not all of it the profitable variety — after stocks stopped trading last week for the longest stretch since World War I.
While the catastrophe that struck lower Manhattan's concentrated financial district will accelerate decentralization forces in U.S. markets, the trend will mean both opportunity and danger for the Chicago Stock Exchange (CHX), the Chicago Board of Trade (CBT), the Chicago Mercantile Exchange Inc. and the Chicago Board Options Exchange (CBOE).
The centrifugal forces also will push beyond those long-established institutions and benefit competitive upstarts: electronic communication networks, or ECNs, that are the Internet's version of a virtual stock exchange. As last week's events proved, not having a trading floor can prove advantageous.
Each of the Chicago players was careful not to be perceived as taking advantage of the closing of the New York Stock Exchange (NYSE), the over-the-counter (OTC) Nasdaq and shattered New York commodity exchanges.
Indeed, they face longer-term threats themselves in the aftermath of the World Trade Center implosion, should it destroy consumer confidence and ignite a global recession. If international commerce plunges, so will the need to hedge various risks, the bedrock of the futures and options exchanges here.
Interdependent markets
The CHX and CBOE, closely tied to the NYSE's lead role in equity trading, elected to stay idle until the regulator-coordinated reopening of stock markets this week. The CBT and Merc partially reopened Thursday, with operations limited to commodity and fixed-income-related trading.
"The reality is, the security markets are so closely tied together, we would never open without the underlying market," says CBOE Chairman and CEO William J. Brodsky. But, he notes tellingly, "for the first time, we are talking about what are the underlying markets?"
Answer: They aren't as New York-centric as they used to be, and are likely to become even less so as the vulnerabilities of a financial system concentrated in one physical location dawn on market participants. ECN trading has grown to encompass about 9% of Nasdaq-related transactions and about 1.5% of NYSE business.
Suggests Chris Doubek, president of Terra Nova Trading LLC, terranovaonline.com, a Chicago-based broker-dealer catering mainly to online retail customers, "I think the ECNs are going to play a much, much greater role in terms of being there in the OTC world."
Conceding that his viewpoint could be colored, he nevertheless points out: "I am biased, but, frankly, our customers make the choice."
One of those ECNs, Chicago-based Archipelago LLC, tradearca.com (a Terra Nova affiliate), was, in fact, prepared to operate last week, despite having a secondary site, at 65 Broadway in New York, knocked out by the World Trade Center attacks.
"We tendered our ability, but we defer to the government during this crisis," says Archipelago General Counsel Kevin O'Hara. At the same time, he predicts, "If New York has trouble beyond a Monday opening, (regulators will) allow Nasdaq and other ECNs to open."
At the Merc, security was tight on the first day back last week.
Chicago police and blue-jacketed private security guards ringed the exterior of 10 and 30 S. Wacker Drive. Merc members had to pass through a single entrance, visitors had to wait for escorts and press access to traders was restricted.
It was more business-as-usual at the CBT — except for an apparent reversal in the relative volume (noise-wise) between the agricultural and financial floors. The ag pits were humming, while the trendier financial side was in a lull at mid-morning.
CBT Chairman Nickolas J. Neubauer, strolling past the soybean pit, said selling pressure didn't materialize there as expected. In a crisis, he explained, "I want to have my hands on supplies. I don't want to do without."
Indeed, volatility in foreign exchange contracts — another big-ticket business here — also was more muted than might have been anticipated, a condition attributed to the subdued mood of the market participants.
"It's almost bad karma to be piling on the wagon to buy or sell in these markets, knowing you're doing it on the back of these victims you had lunch with last week," says Merc member R. H. Bailin.
Agrees Jack A. Wing, a fixture in Chicago's brokerage community and co-founder of Market Liquidity Network LLC: "It looked like there was a lot of forbearance going on and not putting a lot of pressure on markets, which they might later do."
If equity markets do tank, so could the increased popularity of stock index futures, a growth business for the Merc and CBT, which are attracting more retail investors with new and smaller versions of such contracts.
However, William A. Kaiser, managing director of Zap Futures, thinks the World Trade Center calamity could lead to a more orderly retreat in equity markets, if not a rebound in stock prices. "We have had a chance to see the impact on other markets, and it hasn't been a disaster."
The Merc could benefit near-term from the possibility that gold, silver and energy-related contracts could be transferred from the out-of-commission New York Mercantile Exchange (NYMEX), which was housed in the World Trade Center, to the Merc's Globex2 electronic trading system.
Offers of help
Traders would be allowed to liquidate or manage risk of existing positions, according to John J. Lothian, president of the electronic trading division of Chicago's Price Futures Group Inc. As for opening new positions, "whether the brokerage firms would allow them to do that is another question," he says.
While not confirming any deal, Merc Chairman M. Scott Gordon says: "We have offered our assistance to the New York exchange community. We are prepared to help in any way necessary."
Depending on the NYSE's ability to come up to speed, Mr. Wing sees an opening, if not a burden, for the CHX "to stand up and take down more volume" by providing a venue for trades as large as 500,000 shares, far greater than its typical trade. For the CHX, "it's another ball game," he says.
Promises A. D. Frazier Jr., the CHX's president and CEO: "If anybody decides to route trades here and away from New York, we'll be able to handle it."
However, he concludes: "I just don't see that happening. The markets are going to be the markets when they come back."
©2001 by Crain Communications Inc.
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