Latin American Capital Markets

50 REENA AGGARWALFigure 2-5 I Electronic Communication NetworkU.S. stock exchanges have been extremely successful and have been the envy of theworld; however, the structure of traditional stock exchanges in the United Statesleaves a lot to be desired in terms of their market microstructure.The advent of theInternet and the emergence of ECNs are changing the structure of the markets.Thenonelectronic structure of the U.S. markets was ideal for the operation of ECNs, allowinginvestors to trade anonymously. ECNs lower the costs of transacting by reducingor eliminating the spread, providing faster execution, and cutting out some ofthe intermediation functions. For instance, ECNs moved first to offer after-hours trading.Based on their experience and economies of scale, traditional stock exchanges arewell positioned to offer similar and even better services than ECNs, but they needto act soon because ECNs are becoming aggressive and starting to enter the fixedincomeand the derivatives markets.Major market participants—for example, investment banks, investors, traditionalretail brokers, e-brokers, and data providers—are investing in ECNs (box 2-5).Even European firms are starting to invest in ECNs. Instinct, owned by Reuters, has operatedas an ECN since 1969. New entrants include Island (Datek Online), Redi-Book(Fidelity, Spear Leeds, and Schwab), Brass (Merrill Lynch, Goldman Sachs, and MorganStanley Dean Witter), and Archipelago (Goldman Sachs, JP Morgan, and Merrill Lynch).ECNs have adopted different strategies. For example, Instinct's focus so far has beenon institutional investors (now it is also entering the retail market), while Island startedin 1996 with a focus on retail investors benefiting from the increase in stock marketactivity during the past three years. Tradepoint was the first European ECN to registeras an exchange, but liquidity in Tradepoint has been a major problem. ECNs thatare able to pool large amounts of liquidity will dominate the marketplace.New trading systems are already operating in many parts of the world. In additionto ECNs, other ATSs have emerged.The term ATS describes different types ofalternative trading platforms, with ECNs being one category. POSIT is an electroniccrossing system, owned by ITG, which executes orders at the midpoint of the bid andCopyright © by the Inter-American Development Bank. All rights reserved.For more information visit our website: www.iadb.org/pub