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Friday, July 15, 2005

Pennies from Heaven!

Interesting article about Arca's plan to start trading options in penny increments. In addition to the trailblazers at Arca re-writing the book on options trading, their delta is disrupting the actual infrastructure of options markets. A disruption that better serves investors by reducing price increments from .05/.10 to .01.

This happened to the equity markets at the turn of the century and caused so much trouble for the likes of companies like Nasdaq. The problem is that systems that exist to trade at nickel intervals need to be re-created to support penny increments. With equities, the move was from fractions to decimals (which reduced price points tremendously). Systems had issues with a surge in data, rounding, and supporting new price points. So much trouble, in fact, that the NASD kept urging the SEC to postpone the date that decimilization would be official. Eventually, the exchanges invested in their infrastructure and were able to play by the new rules.

This is what is finally happening to markets that trade deriviatives (i.e., options). For disgruntled (read: idiotic) NYSE seat-holders that argue that the NYSE doesn't need Arca -- or atleast don't feel that Arca is worthy of the current terms of the merger -- this should help illuminate some of the value that Arca provides the 200+ year old burse. How much money and how long would it take for NYSE to get into deriviative trading? Once in the deriviative space, NYSE would have to invest heavily in creating systems that support penny pricing. With Arca, they get that ability instantly.

On another note, the recent news regarding some seat holders taking NYSE to court is absurd. The clown that's suing Thain for not telling him that the NYSE was going to be a for-profit enterprise in February and the joker that's demanding access to documents from the Arca/NYSE deal have no regard for Regulation FD.

Late last year I was doing some independent market research and had a dialogue with Mr. Putnam and some executives from his team. I can tell you that Mr. Putnam praised me for this resource, but was also very mum on any plans Arca had merging with other exchanges. He cited Reg FD and apologized for not being able to discuss such things.

When I asked execs at Arca why Goldman Sachs was not listed (or even co-listed) on ArcaEx, I was assured that Arca was aggressively pursuing all opportunities. Again, citing Regulation FD as why I couldn't get any more color related to these issues. For an equity research fanatic like myself, reading between the lines indicated that there had to be a good (read: profitable) reason for keeping a tight lip. It also demonstrated management's respect for rules and regulations.

These litigious whiners have sour grapes and they're quite transparent. For long-term investors, though, these complainers have given folks a bit of a buying opportunity on weakness.

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