Want direct access to the American Stock Exchange? Sam Lek's ROX front-end will get you there, but the brokerage exec doesn't recommend the exchange.
Lek, founder and president of direct access broker Lek Securities, lost a legal battle over a busted trade with the Amex in 2001 and relinquished his membership. Lek claims that all too often Amex specialists bust trades they find unprofitable.
So, now, if Lek gets any "non-directed" orders, or those in which he picks the trading venue, for Amex securities, they go to ECNs, market makers or elsewhere.
There's irony here. Lek got his start in electronic direct access as an options market maker on the Amex in 1989. His frustration in trying to complete quick hedges on the New York Stock Exchange led him to develop ROX in 1992. Initially an electronic gateway to the New York Stock Exchange's DOT order routing system, ROX has blossomed into a full-blown direct access system.
Since 1993, Lek Securities – then known as Lek Schoenau – began to transform itself from a trading house into an agency brokerage. That year it became an NYSE member. By 1996, it had ceased making markets. The agency business was more profitable and revenues more stable.
Initial ROX users were other options market makers and regional specialists. These were pros who needed fast access to DOT. Then came the block desks, which included Cantor Fitzgerald. Now, Lek is targeting hedge funds and other money managers. About 15 percent of its 300-plus clients are European.
Lek's chief competitor is probably the REDIPlus division of Spear, Leeds & Kellogg. Both are similar. Unlike many direct access providers, such as the popular Lava Trading, both are self-clearing brokers not just software vendors. Also, few are as old as Lek and REDI and few got their starts catering to listed traders.
Lek has a staff of about 30 and handles between 20 million to 30 million shares per day. A slight majority of those shares are listed. The firm became an NASD member in 1996 to accommodate the surge in interest in Nasdaq, but its founder sees trading interest swinging back to New York names. Traders Magazine technology editor Peter Chapman spoke to Lek about trading electronically on the New York Stock Exchange.
Traders: The New York Stock Exchange's auto-ex initiatives, Institutional Xpress and Direct+, have not been big hits. But we understand the exchange is planning to introduce a new auto-ex "Liquidity Quote" that off-floor traders will be able to access. How do you suppose it will fare?
Lek: The Xpress quote has not been a big success. Although there is a need for a liquidity quote – being able to buy more size – an Xpress quote only becomes expressable if it has been there for more than 15 seconds.
Traders: It must be for at least 15,000 shares and on the book for at least 15 seconds?
Lek: That's right.
Traders: But when a quote of that size does hit the book, it rarely remains there long enough?
Lek: Right. Also it must be the NBBO.
Traders: How will this new feature help?
Lek: I think this is the simple answer to what institutions have said they want. The liquidity quote will typically be inferior to the NBBO, but it is certain that the institutions will be able to access it.
Traders: Does it have to sit there for 15 seconds?
Lek: No.
Traders: It's accessable as soon as it hits the book?
Lek: Yes. If a floor broker is offering 100,000 shares at $79.30, even if there is a little bit of stock offered ahead at $79.27, his could be considered a liquidity quote.
Traders: A floor broker instructs the specialist to designate his quote as a liquidity quote?
Lek: I think the specialist gets to decide. The specialist will be responsible for publishing the liquidity quote.
Traders: How will he decide?
Lek: It will depend on what he knows about what is being bid or offered.
Traders: Sounds subjective.
Lek: This will give the specialist the incentive to be somewhat aggressive in his market making.
Traders: How about Direct+?
Lek: Few of our customers use it.
Traders: What's the issue?
Lek: With the New York, although it takes some time to get the execution, the benefit of an auto-ex is relatively small. If something is actually offered at a certain price, even without Direct+, you're going to get it at that price.
Traders: So, just send a market order directly to the specialist through DOT?
Lek: Correct. And, in that case, you have the chance for price improvement. With Direct+, you don't.
Traders: And because the order is small, for less than 1,099 shares, it is unlikely to get broken up in the crowd.
Lek: That's right.
Traders: How about OpenBook? You are one of the few trading systems vendors to offer OpenBook.
Lek: In the beginning, we were the only trading system with OpenBook. We were the only people to display OpenBook as a Level II with point-and-click functionality. The others were typical quote systems such as TrackData, Bloomberg, etc.
Traders: It is a surprise that any trading system supports it. We thought it was strictly a market data service?
Lek: I think this is a logical place. This competes directly with [Nasdaq's] Level II.
Traders: Except you can't highlight a series of quotes, click and trade against them.
Lek: Not true. Let's compare OpenBook to Level II. First of all, OpenBook is only the specialist's book. It does not include brokers working orders in the crowd. It does not give you a complete picture. Second, unlike SOES, what you see is not necessarily what you get because the specialist must cross orders prior to execution. That means your trade is subject to break-up in the crowd. It's very important to understand this break-up business.
Traders: But, it's still not point-and-click.
Lek: Yes it is. If I double click a bid or an offer, the order will go to DOT.
Traders: That's a little different. DOT is just order delivery. If someone highlights five levels of quotes in Nasdaq, he may auto-ex against them.
Lek: Yes. But with the New York, the odds are you will execute at better prices. If you are going to try and trade through [those levels] on the New York, one advantage of the New York is you get a better price. And with DOT, the specialist is required to respond immediately, or at least, within 30 seconds.
Traders: How have your customers responded to OpenBook?
Lek: It has been a big success. Most customers feel it is well worth the $50 per month. Now, I don't think people see its value in being able to trade through the market. That isn't done frequently in the listed world. Because there is a great chance that if you want to buy something at or higher than the offer, for example, in an amount that exceeds what is displayed, the specialist will add to the liquidity. That is where the NYSE beats the OTC market. If you are willing to pay up, you will definitely find someone willing to sell it to you.
Traders: So, the value of OpenBook is in knowing what's there?
Lek: Correct.
Traders: So, is ROX a market data system as well as a trading system?
Lek: No. ROX is not meant to compete with the market data vendor. The market data we deliver to our users is for the benefit of their trading. Not their trading decisions. It's just real-time quotes. We're not here to provide historical analytics. That's how those systems distinguish themselves.
Traders: Let's talk about some of the more esoteric features of ROX.
Lek: O.K.
Traders: What are "Buy Minus" and "Sell Plus" orders?
Lek: A buy minus order is an order to buy on a minus tick. A sell plus is an order to sell on a plus tick. Those orders are seldom used except in conjunction with trading strategies that kick in when the NYSE puts trading curbs into effect. Such as if the Dow moves up or down more than a certain number of points. If the Dow drops too far, then all sell orders must be done on a plus tick.
Traders: That holds for individual stocks too?
Lek: Yes.
Traders: So, how do you keep track of that?
Lek: We subscribe to the New York's "Security Status" service. So, if we know that these curbs are in effect and we know that the trade is a strategy trade, we will automatically convert buys to buy-minuses and sells to sell-pluses.
Traders: That is a requirement?
Lek: It has to be done. When the curbs are in effect, a straight sell order is not a legal order.
Traders: O.K.
Lek: By the same token, ROX is one of the few systems to allow customers to do market-on-close orders. Market-on-close orders must be entered 20 minutes before the close. They cannot be changed unless there is a published imbalance in the stock. The trade is not offered on most systems because they can't determine when there is an imbalance.
Traders: How are you able to?
Lek: We know automatically when there is an imbalance. We pick that up from "Security Status." We can enter market-on-close orders after 3:40 if they are offsetting an imbalance. This is a great benefit to our customers.
Traders: What is an "Order on the Street?"
Lek: Because hedge funds, which have become a major part of our customer base, want to execute at many firms we allow them to trade with another broker but still use ROX to book the order.
Traders: So, you are like a prime broker? The hedge fund may trade elsewhere, but use you to manage all the paperwork. The clearing and settling?
Lek: Yes. We do a lot of back-end processing for customers. We are essentially writing the house tickets for them. An Order on the Street is a method of recording in ROX those trades that have been done away from Lek Securities. With an "away" broker. It's for clearing, reporting and risk management.
Traders: O.K.
Lek: ROX is a turnkey solution. That is why it is necessary to support all these order types. Like away orders. Where we have nothing to do with the trade really. That's why our competitor is REDI and not Lava.
Traders: OK, finally, what features are your customers asking for these days?
Lek: The next big thing we have coming out is list management. It's for buyside customers, primarily, or institutional desks that cater to the buyside. It's for when a customer needs to liquidate one list of securities or portfolio and buy another.
Traders: You already offer basket trading. Isn't list trading the same?
Lek: Similar. But baskets are usually designed to track an index or an Exchange-traded fund. With baskets, we keep a lot of statistics to compare the basket with the index. That allows traders to send out waves of orders and see how they are doing vis-a-vis the index price.
Traders: A list is just a bunch of stocks.
Lek: This is just a bunch of stocks that can be handled in random fashion. Typically, an index arbitrageur will want to get his underlying stocks done in proportion to the basket.
Traders: Used for transitions? Fire one money manager and hire another?
Lek: Yes. With the list product we will give the trader the ability to pick out certain stocks and send them off to where he wants.
Traders: We initially thought of ROX as a front-end. Now we're not sure. Is it a front-end or order management system?
Lek: It depends on where you draw the line.
Traders: Where do you?
Lek: I don't think it's a useful distinction.
Traders: Whatever. Thanks Sam.
Lek: You betcha.
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