Casey Sets the stage for the Exchange revolution
Sunday 19 October 1997
The start of an electronic order-matching trading system - a controversial plan that cost Mr Casey's predecessor his job and promises to change the world for thousands of City workers - will complete a circle begun 11 years ago when the exchange closed its historic trading floor and computers were first used to trade.
The new system - called Sets, for Stock Exchange Electronic Trading System - will dramatically change the way shares are traded. It will allow investors to bypass the market makers who traditionally offered stock quotes by phone and to place orders through brokers directly to the exchange, where they will be electronically matched.
The exchange says the new system, which will initially only operate for companies in the FT-SE 100, will make trading costs cheaper for investors by narrowing spreads. It will also make trading more transparent by wiping out many of the rules that let market makers keep their identities secret for up to five days following some trades.
Mr Casey, a former Smith New Court executive who helped with the integration of the company after Merrill Lynch bought it in 1995, was able to mediate successfully between the market makers - including Merrill - and users of the Exchange in the dispute over Sets.
Many international investors preferred the order-driven system and Mr Casey persuaded the market makers to try it, pushing the project through in a little over a year.
Mr Casey takes no credit himself, saying it was a team effort. He said the exchange and its members knew it was time to modernise, although he denies the exchange would have been left behind if it kept its old market making system exclusively.
"We did have a very big lead at the time of Big Bang in London, which to some extent the local exchanges have caught up on," he said. "Competition is increasing, but it's impossible to say that if we'd stayed with the old system we'd wither and die."
The exchange expects the system to boost trading volume. Exchanges in Zurich and Paris reported 15 per cent to 20 per cent gains in volume after introducing electronic systems.
Sets will reduce the need for market makers, but it won't make them obsolete. Far from it; any trades larger
than eight times normal market size, which is 2.5 per cent of average daily volume, will be handled by the market makers. They will also handle all trades on FT-SE 250 shares and other smaller stocks.
The main bone of contention is still disclosure. Market makers doing large trades will be required to disclose their identities after completing 80 per cent of the trade. This will hamper market makers who want to sell the final two million shares of a 10 million share block at the end of the day.
"It will take longer to deal in greater blocks of shares as now market makers will be reluctant to take on a lot of risk because of the new visibility," said Simon Smith, an investment manager at Albert E Sharp. "They should be able to hide some of the risk."
Indeed, disclosure will be a problem on Sets as well. The new system will guarantee anonymity for investors until the moment the trade is executed, at which time the identity of both parties will be disclosed.
This rule is being seized on by the Tradepoint Investment Exchange, the electronic, order-matching rival to the London Exchange which guarantees total anonymity to users. Nic Stuchfield, its newly-appointed chief executive, said the exchange expects to gain business from securities firms as they learn to use order-driven systems and discover the benefits of Tradepoint. "We are going into an unknown world on Monday," he said. "But it should be a more favourable world for Tradepoint than the previous one."
Another problem with disclosure is that investors won't be sure who they are dealing with until the trade is executed. Whereas investors are happy to deal with well-capitalised firms like Merrill Lynch or BZW, they might not be pleased to find that the counterparty is a small brokerage whose cash balance may be suspect. To solve this, the exchange has set up a pounds 65m insurance policy to cover potential losses from counterparty defaults.
Mr Casey said he expected trading on the order book to begin cautiously as securities firms test the system. The exchange has warned traders not to try to manipulate the system to trick investors by trading at the wrong price. During rehearsals, traders found that by entering outrageously high or low prices into the system, the orders would sit undetected until someone entered a mistaken order that matched them. The exchange said these so-called "snake in the grass" trades would be treated as a regulator abuse.
Mr Casey said the exchange has taken every precaution to guard against technical or regulatory mistakes but that it will be open to changing parts of the system if they do not work well. "There are bound to be some teething problems," he said. "If something doesn't work or if the rules don't work, we'll change them."
Mr Casey remembers looking out over the City on the day of the 1987 crash - following the great storm - and seeing a "ghost town". But he harbours no superstitions about what might happen in the markets tomorrow.
Whatever happens, the City will be ready, he said. "I think they're as ready as they'll ever be. That doesn't mean they won't have to adapt further."
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