Chief Executive Officer
Knight Financial Products
130 Cheshire Lane
Minnetonka, MN 55305
Tel: (612) 249-5500
April 3, 2000
VIA ELECTRONIC MAIL
& VIA OVERNIGHT DELIVERY
Office of the Secretary
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington DC 20549-6009
Attn: Mr. Jonathan G. Katz
|Re:||Options Linkage Plans; File Number 4-429
Release No. 34-42456
Ladies and Gentlemen:
We believe that an option market linkage plan should be examined in conjunction with the significant market structure debate that is now being considered by Congress and the Commission. We strongly believe that market centers should compete for customer orders and any inter-market requirements should not impede the ability of a market center to differentiate itself through innovation. We agree with the Commission that the trading of listed options has developed to the point in which many of the national market system initiatives that apply to the equity markets are now appropriate for the listed options markets. Therefore, we are supportive of the Commission's order requiring the options exchanges to create and operate an inter-market linkage to prevent trading-through of retail customer orders. Although the Commission and the options exchanges attempted to address the issue of intermaket trade-throughs by enacting the trade-or-fade rules, we believe that these rules proved to be unworkable and unable to protect the investing public. We believe that an inter-market linkage will enhance the execution quality of customer orders because a linkage will, among other benefits, afford public customers "trade-through" protection.
In the Commission's Order Directing Options Exchanges to Submit an Inter-Market Linkage Plan, the Commission noted that "establishing a linkage among options markets will increase competition among markets (and market participants) to provide the best execution of customer orders." We agree that an inter-market linkage may be a useful tool in that it would allow market participants in one market center to confirm that the quote from a competing market center was not made in error, stale (because the quote was in the OPRA queue), or made to hurt the profitability of the competition-but not to be honored. This, in turn, could increase competition and benefit public customers. However, an inter-market linkage should not be implemented in such a way as to create a de-facto single market for options trading. Any linkage system technology is likely to become obsolete before or soon after the system is implemented. The Commission should avoid requiring the options exchanges to implement a linkage that significantly hinders competition between market centers. As history has shown, markets are incredibly dynamic. If the inter-market linkage is saddled with goals other than to be a mechanism to afford trade-through protection to public customer orders, the quality of customer executions will be subject to the "weakest link." We would argue that the order routing firms, as agents and subject to the duty of best execution, should not welcome the loss of control over which market center executes their customer orders.
The degree to which an options exchange chooses to link with other exchanges or chooses to open itself for "principal access" should be dependent on the model that that market center wishes to adopt. In the end, the market center that consistently provides the highest quality executions will prevail. However, the Commission should, in our opinion, not mandate a linkage that effectively locks the options markets into an inefficient or obsolete technology.
Competition is already having a profound affect on the options industry. The introduction of the ISE, dual listing, and the development of new technology has dramatically altered the options industry-in just the last year. We should let these natural forces run their course, we should strenuously enforce existing rules requiring best execution, we should require the SROs to rigorously enforce rules, and we should foster competition and innovation in the securities markets. In a time of dramatic change, we should not attempt to regulate - "we should ensure that competitive forces continue to shape our marketplace so that the market's natural genius is permitted to fully unfold."
Knight/Trimark Group, Inc., headquartered in Jersey City, NJ, is the parent company of Knight Securities, Trimark Securities, and Knight Financial Products (formerly Arbitrade, LLC). Knight/Trimark's subsidiaries make markets in equity securities listed on Nasdaq, the OTCBB of the National Association of Securities Dealers (NASD), the New York Stock Exchange (NYSE) and American Stock Exchange (AMEX); and in options on individual equities, equity indices, fixed income instruments and certain commodities in the U.S. and Europe. As the number one destination for online trade executions, Knight/Trimark is the processing power behind the explosive growth in securities trading via the Internet. The firm was recently selected to Fortune's "e-50 Stock Index," an elite collection of companies that are shaping the new Internet-based economy. Currently, the four-year-old company employs more than 850 people worldwide with offices in Jersey City, NJ; Jericho, White Plains, Purchase and New York, NY; Chicago, IL; Boston, MA; Minnetonka, MN; Santa Clara, CA and London, England.
Knight Financial Products, LLC (f/k/a/ Arbitrade, LLC) is a domestic options market maker that is active on the Chicago Board Options Exchange, the Chicago Board of Trade, the Chicago Mercantile Exchange, the American Stock Exchange, and the Philadelphia Stock Exchange. It also will operate Primary Market Maker and Competitive Market Maker memberships when the International Securities Exchange commences operations in May 2000.
We are happy to have the opportunity to comment on the options linkage proposals. We feel ourselves in a unique position to comment based upon our role as Specialist, DPM, PMM and our senior management's experience in trading the European options markets. As primary traders in numerous markets, we believe in competition for order flow. Where possible, we adhere to matching NBBO and also bettering NBBO by price improving the retail order. As the experience of our parent firm, Knight/Trimark, has displayed, this type of trading activity reduces costs and increases price improvement for the retail customer.
We thank you again for the opportunity to comment on these matters. If you have any questions on our comments, please do not hesitate to contact us.
Very truly yours,
KNIGHT FINANCIAL PRODUCTS LLC
/s/ Peter Hajas
Chief Executive Officer
The linkage plans filed by the options exchanges reflect agreement on a number of important issues. Consensus was not achieved, however, on the issues of price/time priority and access to the linkage. Although we are opposed to mandated linkage, we would like to comment on the following technical items.
With respect to this issue, we are in favor of the following compromise:
We believe that this compromise adequately protects customers and prevents the linkage plan from becoming a mandatory routing switch that would potentially hinder competition between markets and undermine broker-dealers' efforts to secure best execution for their customers.
We believe that access must be limited to retail customers.
Limit Order Protection
Limit Order Protection refers to the execution of limit orders resident in a market based solely upon transactions occurring at the same price in another market. This concept developed over many years in the regional stock exchanges as a competitive response to firm concerns that their customers' orders receive the same likelihood of execution when being represented in a regional market as the orders would have received had they been represented in the primary market.
Our belief in this respect mirrors the belief set forth by the CBOE -- that the market structure in stocks, where clear "primary" markets exist for all stocks, may make Limit Order Protection a more logical and feasible concept in that environment than in options. Accordingly, we do not believe that Limit Order Protection is an element of the linkage plan that is appropriate for regulation and believe that these types of issues will become a matter of differentiation in the marketplace for market makers by way of customer service.