Instinet Seeks to Court Small Traders Online
One of the most popular trading venues among big investors is setting its sights on the burgeoning ranks of small investors who swap shares online.
Instinet, the world’s largest private stock-trading network, has for years rung up lush profits by executing stock trades for professional investors seeking an alternative to the New York Stock Exchange and Nasdaq Stock Market.
Instinet is best known for letting institutions trade stocks with each other after the close of traditional markets each day.
But rising competition from upstart electronic rivals has eaten into Instinet’s institutional market share and flattened its once prodigious revenue growth, forcing the company--and its parent, Britain’s Reuters Group--to look for new ways to make money.
“Instinet faces some very significant threats to its business,” said James Holder, an analyst at HSBC Securities in London. “It has to find a new place for itself in the market.”
One answer, Instinet believes, is to court the millions of small investors who have rushed to trade stocks online over the last two years.
By late in the first quarter of 2000, Instinet plans to start an online brokerage to compete head-to-head against the likes of Charles Schwab Corp. and E-Trade Group. The unit would offer stock trading and related investment services such as mutual funds, credit cards and mortgages.
The unit was dubbed Instinet.com in a Securities and Exchange Commission filing by Reuters, though the company says it hasn’t settled on a final name.
The move could be part of a broader plan by Reuters to spin off Instinet: London’s Sunday Times reported last week that Reuters may sell as much of 25% of Instinet to the public, listing the stock on Nasdaq.
The move by Instinet into the retail market is a big gamble. With more than 150 online brokerages in the market, the world isn’t exactly crying out for another one. Even brokerage industry leaders have had to surrender potential profits by spending hundreds of millions of dollars on advertising to stand out from the crowd.
What’s more, Instinet won’t offer the rock-bottom commissions charged by some of its rivals, and it says it won’t shell out nearly as much on marketing.
Still, many analysts believe Instinet shouldn’t be underestimated.
It has name recognition among the most active small investors who are its target audience. As the largest of the “electronic communications networks,” or ECNs, competing against the NYSE and Nasdaq, Instinet has the “liquidity,” or critical mass of orders, necessary to attract investors who want the best possible price in buying or selling, analysts say.
Some also speculate that Instinet might team up with Yahoo, in which Reuters is an investor, to have that leading Internet portal promote Instinet and link to its site.
Instinet’s success may hinge on its ability to persuade individuals that, despite high commissions by industry standards, the overall cost of trading through Instinet could be cheaper than through rivals. If Instinet can offer better prices and a higher likelihood of execution because of the number of investors in its market at any given moment, that “price improvement” on trades could far outweigh the lower commissions of rivals.
As an ECN, Instinet offers “direct access” to the market. In other words, investors can trade directly with one another on Instinet and other ECNs, theoretically saving money by cutting out the Wall Street middlemen that have traditionally bracketed trades.
“What 1/8small investors 3/8 don’t really understand is they’re given no choice on how they execute 1/8trades now 3/8,” said Doug Atkin, Instinet chief executive. “What retail investors deserve is a choice, and we’re going to offer them that.”
Commission rates have not been set, Atkin said, though he acknowledges that Instinet won’t come close to matching the $8 to $10 commissions charged by some cut-rate online brokers.
Instinet is now conducting focus groups “trying to get a feel for how much of the retail marketplace understands that it’s the total cost of trading that matters, not the commission,” Atkin said. “The retail investor is focusing far too much, and the vested interests want the retail investor to focus, on the commission.”
Over time, Instinet may roll out a program that analyzes an individual’s total cost of trading, including commissions and certain hidden charges--a service the firm now offers to institutions, Atkin said. Likewise, it may eventually make available to individuals some of the high-end stock number-crunching research now done for institutions, he said.
“I don’t think that for a minute it’s going to be easy,” said Andrew Gordon-Brown, an analyst at Warburg Dillon Read in London. “But for a big player with a big brand and some competitive advantage in technology, there’s no reason why they shouldn’t come in and take some share of that market.”
Instinet’s initial foray into the retail market began in the middle of this year when it worked out a deal with E-Trade to provide after-hours trading for the online firm’s customers. Similar deals may come next year, Atkin said.
Instinet this year launched a $10-million ad campaign and invited reporters from financial cable channel CNBC to broadcast from its trading floor after the market close each day.
The courting of individual investors is a curious turnabout for Instinet, which for years shunned the retail marketplace--it was originally named Institutional Networks Corp.--and crafted an intentionally low profile in the media.
But lower-cost ECNs such as Island and Archipelago have in recent years wrested away a notable chunk of the ECN market that Instinet once had to itself. Though still the dominant player, Instinet’s total ECN market share shrunk to 59.5% in the third quarter, according to Hambrecht & Quist.
While ECNs are all the rage on Wall Street nowadays, they’re jeopardized by the plans of the powerful NYSE and Nasdaq to raise money to become more competitive, potentially by launching their own new trading networks.
And though Instinet has taken a minority stake in Archipelago, Atkin has publicly questioned whether ECNs have a future.
Instinet has been the major source of revenue growth for Reuters in recent years. But after rising 19% in the first half of 1999, Instinet’s U.S. sales were flat in the third quarter--due, the company said, to slowing Nasdaq trading volume and “some attrition of price and market share due to competition.”
The revelation sparked the second of two big sell-offs in Reuters’ U.S.-traded shares in recent months, though the stock has since rebounded.
Besides its retail effort, Instinet, which operates in 40 global markets, is also moving into electronic bond trading for institutions.
While acknowledging the obstacles, Atkin says the upheaval in traditional stock markets could pay off for Instinet because of its technological and trading know-how.
“I think the next 24 months are going to be critical for everybody, and those who are not worried about changing the business model in a fundamental way are certainly not going to be the winners,” he said. “It is an absolutely critical period for Instinet, but not just for Instinet.”
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Walter Hamilton can be reached by e-mail at walter.hamilton@latimes.com
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Volatile Ride
Shares of Instinet’s parent company, Reuters Group, have fluctuated sharply in the last few years. The stock took a sharp hit in the global market turmoil of late summer 1998, then roared back early in 1999, in part because of excitement over electronic trading venues’ growth. Quarterly closes and latest on Nasdaq:
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Tuesday:
$82.25, down 75 cents
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Source: Bloomberg News
