Earlier this month, Nasdaq launched its official entry into the exchange-traded funds (ETFs) listing competition by rolling out its official, proprietary ETF marketplace.
Nasdaq is hoping to lure ETF listings away from the American Stock Exchange and New York Stock Exchange Euronext. The goal, according to Harry Tutwiler, vice president of financial products at Nasdaq, is to have 40 new ETFs listed by the first quarter of 2008.
As of Sept. 30, Nasdaq listed only 20 ETFs, compared to Amex's 360, NYSE's 166 and NYSE Arca's 41. However, Nasdaq handles a large percentage of the actual transactions by volume. In August, it saw 52.1% of the trading volume of ETFs, up from 34.8% of the volume in April.
Nasdaq's new ETF marketplace was designed to add liquidity to the ETF market. The centerpiece of the new platform is the appointment of so-called "designated liquidity providers," or market makers, one or more of whom will be chosen through a consultative process between the ETF sponsor, Nasdaq and the market-making firms, Tutwiler said at a New York conference sponsored by the Structured Products Association.
During an ETF's incubation period, Nasdaq will give these liquidity providers specific and detailed responsibilities and price incentives.
Although Tutwiler said that Nasdaq ordinarily likes to make money on each transaction, its ETF marketplace will initially be a loss leader through the use of "inverted transaction rebates," which will continue until an ETF's trading volume grows to beyond 250,000 shares. At that point, incentive payments from Nasdaq will end.
Initially, liquidity providers will be paid .004 cents per share for every transaction on which Nasdaq receives a fee of .003 cents. "When ETFs graduate, they will go back to the standard economics," Tutwiler said. That usual scenario includes Nasdaq charging .004 cents per share and liquidity providers earning .003 cents of that, he added.
In other words, not only is Nasdaq reducing its transaction fees and turning over to market makers its reduced .003 cents per share earned on transactions, but it will pay an additional .001 cent out of its own pocket to incentivize liquidity providers.
But why is Nasdaq so late to the ETF listing party?
There are a number of reasons, Tutwiler said, first and foremost is the fact that Amex was the pioneer of the very first ETF, the SPDR, in 1993. That family lineage put Amex out in front as the forefather of the ETF, to which many followers flocked. "We haven't been able to compete, but that's all about to change," he added.
That competition is welcomed, said Lisa Dallmer, senior vice president of ETF and index services at NYSE Group. "Competition is good for any market. There's more opportunity for choice, which will spur more innovation," she said.
Moreover, Dallmer is flattered that Nasdaq's new ETF marketplace is copying the current ETF model that NYSE Arca, the exchange's all-electronic trading platform, debuted in 2006. That model now supports 94 ETF listings, with more to come as ETFs are voluntarily being transitioned in seamless fashion over to NYSE Arca exchange from ordinary NYSE listing status to improve trading efficiencies. The NYSE acquired Archipeligo Holdings and its all-electronic stock exchange system in April 2005.
By the end of this year or even sooner, all 166 of the ETFs listed on NYSE will be moved to NYSE Arca. To date, NYSE now accounts for 41% of all ETF listings and 67% of the entire assets across the ETF industry, Dallmer noted.
Nasdaq's copying the NYSE Arca revenue model for ETFs is not an exaggerated claim. In applying to the Securities and Exchange Commission to allow it to launch its new ETF marketplace, Nasdaq clearly cited that it was fashioning its model based upon the NYSE model.
"It's not uncommon for new competitors to enter high growth areas," Dallmer said. "But what is important is for issuers to be working with people with experience," she added.
There is perhaps no stock exchange more experienced with the idiosyncrasies of the ETF market than Amex, which helped create the very first ETF tracking to the S&P 500 Index 14 years ago. For Amex, "ETFs have been important to us and are part of our identity," said Scott Ebner, senior vice president of the ETF marketplace at Amex.
"We've got very serious competition in this business from NYSE Arca and Nasdaq," Ebner said. "We are working hard to support the ETF market and continuing to do what we always we have." He added that there's still plenty of room for new ETFs and new issuers.
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