IEX ready for its market close-up
New exchange plans a ‘fairer’ experience
At the start and end NEW YORK of each trading day, an IEX Group staffer rings a silver-colored bell near the work stations and computers that function as the nerve center for the new stock exchange that’s among the most anticipated launches in recent Wall Street history.
The ritual, unlike highly public bell-ringing ceremonies at the long-established Nasdaq Stock Market and New York Stock Exchange, has been an inside-thecompany-family event for IEX’s approximately 70 employees.
But starting Friday, the financial world will be watching as IEX launches the first phase of its transition to a full-fledged stock exchange — with promises of slower trading speeds to provide what the company bills as fairer trading for all investors.
“The last couple of months have been spent talking to our clients, and our team internally, testing the system and ensuring that we’re ready to go,” IEX Group co-founder and CEO Brad Katsuyama said during an early August interview at the company’s lower Manhattan headquarters. “So far, so good.”
Katsuyama, 37, gained fame as the hero of Flash Boys, the 2014 best-seller in which author Michael Lewis argued the U.S. stock market has been “rigged” in ways that favor high-frequency trading. In June, the former Royal Bank of Canada senior trader won Securities and Exchange Commission approval of IEX as an automated trading center.
Now a potentially even harder struggle begins as the company competes for broad public usage.
IEX until now functioned as a dark pool, a private venue that doesn’t publish price quotes and discloses transaction details only after execution. IEX currently has a 1.7% to 1.8% trading market share. Growing to a 7% to 8% market share within two to three years “is totally plausible,” Katsuyama said.
“It’s a niche exchange,” projected to appeal mainly to large institutional investors like pension funds as they execute large trades, said Larry Tabb, CEO of the Tabb Group, a financial markets research firm. However, Tabb said an eventual 4% to 8% market share is “probably a doable number.”
IEX and its backers are also betting a key facet of the company’s business model — an electronic speed bump — will attract investors fed up by the complexity and speed of today’s U.S. financial trading market.
High-frequency traders using
powerful computers with sophisticated algorithms now buy and sell before others have a chance to react to the latest market changes. Their high-volume trading adds up to millions of dollars, even as their transactions change stock prices before the trading orders of average investors can be executed. “In many ways, clients are missing money that they don’t even know they are entitled to,” Katsuyama said. In contrast, brokers who send trading orders to IEX will have each transaction delayed by 350 microseconds, each one-millionth of a second. The speed bump will neutralize high-frequency traders’ edge by giving the IEX system enough time to get updated on the latest prices before executing new trading orders. “It creates a fairer experience for the greatest number of people,” Katsuyama said. IEX hopes to attract brokers for small investors and other retail traders to join route transactions to the new exchange. The company also expects institutional investors who already have used the IEX dark pool to shift some or all of that business to the new public market. Bill Harts, CEO of the Modern Markets Initiative, a high-frequency trading industry group and frequent IEX critic, questioned whether the new exchange’s ability to get the best price in the shortest time will meet big traders’ expectations. “I don’t see that happening,” Harts said. “How will they get their execution quality up to a level where the large retail brokerage firms would feel comfortable sending significant volumes of orders there?” IEX cited the Teacher Retirement System of Texas, a public pension fund with approximately $130 billion in assets and more than 1.4 million active and retired public school employees. The fund backed IEX’s SEC battle by writing that “the enhanced quality of executions ... we receive in IEX can equate to millions in savings for our beneficiaries.” If IEX succeeds, it could revolutionize U.S. equities trading. “What we’re trying to do is shift behavior. And we’re trying to educate,” Katsuyama said. “It’s the same kind of things we’ve been saying all along. Simplify the markets. Give people an equal chance to compete.”