Bats Scrapping IPO Is Gift to Critics of Modern Market Structure
The decision by Bats Global Markets Inc (BATS)., the third-largest U.S. equity exchange operator, to cancel its initial public offering emboldened brokerage and fund executives who say the way stocks trade in America doesn’t work.
Bats, founded by a high-frequency trader in 2005 and nurtured by the world’s top securities firms, withdrew the IPO yesterday after errors on its own computers kept the stock from trading and forced a halt in Apple Inc. (AAPL) Pulling the IPO capped a day of embarrassments for the Lenexa, Kansas-based company, which rose to prominence with the electronic trading industry.
“This tells you the system we’ve created over the last 15 years has holes in it, and this is one example of a failure,” Joseph Saluzzi, partner and co-head of equity trading at Themis Trading LLC in Chatham, New Jersey, said in a phone interview. “When the exchange blows itself up, that’s not a good thing.”
The malfunctions will refocus scrutiny on market structure in the U.S., where two decades of government regulation have broken the grip of the biggest exchanges and left trading fragmented over as many as 50 venues. Bats, whose name stands for Better Alternative Trading System, expanded in tandem with the automated firms that now dominate the buying and selling of American equities.
The withdrawal also raises questions about the reliability of venues formed as competitors to the New York Stock Exchange and Nasdaq Stock Market since the 1990s. Bats’s mission is “making markets better,” according to its website. “Unlike traditional market operators, we are a technology company at our core,” the prospectus said.
“When you’re actually the exchange that is coming public and the platform that you touted as being very robust and competitive with any other global exchange fails to work, it’s a real black eye,” Peter Kovalski, a money manager who expected to receive shares in Bats for Alpine Mutual Funds in Purchase, New York, which manages about $5 billion, said in a telephone interview. “They were ready to open, and then there were all these glitches.”
Bats priced 6.3 million shares through underwriters March 22 and appeared set to begin trading about 90 minutes into the day when chaos erupted. While the company quoted its shares at $15.25 at 10:45 a.m. on its website, feeds including those sent to Bloomberg LP displayed different prices. At 11:14 a.m., Bloomberg received data showing 1.26 million shares had traded, with the most recent execution at 3.84 cents and the lowest transaction at 0.02 cent.
Apple Circuit Breaker
Compounding the confusion, a single trade for 100 shares executed on a Bats venue at 10:57 a.m. briefly sent Apple down more than 9 percent to $542.80, data compiled by Bloomberg show. Two more transactions, which sent the stock back above $598, were made before the halt. The stock stayed around that level once trading resumed five minutes later and the errant trade, along with all transactions in Bats shares, were later canceled.
Bats sent a notice about 10 minutes before the Apple trade saying it was investigating “system issues” affecting companies with ticker symbols ranging between A and BF. Apple’s is AAPL. Bats’s ticker was BATS. At 11:07 a.m., Bats’s BYX Exchange took a procedural step known as “declaring self help” against its BZX exchange, indicating that it had stopped routing orders to the market because BZX wasn’t responding to messages quickly enough.
A Bats computer that matches orders in companies with ticker symbols in the A-BFZZZ range “encountered a software bug related to IPO auctions” at 10:45 a.m. New York time, the company said in an e-mailed statement explaining its trading problems. The glitch made existing customer orders for those symbols unavailable for trading, the document said. Bats alerted users that it was investigating system problems.
“Although our affected market has reopened, in the wake of today’s technical issues, which affected the trading of certain stocks, including that of Bats, we believe withdrawing the IPO is the appropriate action to take for our company and our shareholders,” Joe Ratterman, the chief executive officer, said in a statement yesterday. Asked if that meant Bats is no longer going public, Randy Williams , a company spokesman, replied by e-mail, “Yes, that’s correct.”
The company executed 10.9 percent of U.S. equities volume last month, compared with 10.7 percent a year earlier, it said.
Bats was steered to prominence by brokerage and trading companies trying to hold down fees as the New York Stock Exchange (NYX) and Nasdaq Stock Market bought their biggest electronic rivals. The company was initially built to service high- frequency firms like Tradebot Systems Inc. Automated trading firm Getco LLC and Wedbush Inc., owner of an investment bank whose clients include high-speed firms, later bought equity stakes.
The canceled stock offering was intended to raise money for Bats’s owners, which include underwriters Morgan Stanley, Credit Suisse Group AG and Citigroup Inc. Others that expected to see proceeds from the deal were Tradebot, whose chief executive officer founded Bats, Chicago-based Getco and Wedbush in Los Angeles.
Almost half of the 6.3 million Class A shares being offered were coming from the estate of Lehman Brothers Holdings Inc., with another 1.1 million from Getco, another automated firm, according to Bats’s filings with the SEC. Bats also planned to pay a $100 million dividend to shareholders including its 10 main financial company investors such as Bank of America Corp., Deutsche Bank AG and Instinet Inc.
The company was formed two months after the NYSE announced plans in 2005 to go public by combining with rival Archipelago Holdings Inc. and Nasdaq Stock Market announced its purchase of Inet ECN. Archipelago and Inet were then the largest electronic communication networks, or ECNs, which match buy and sell orders and compete with exchanges.
Tradebot founder Dave Cummings created Bats with 12 employees to counter the emerging NYSE and Nasdaq duopoly. Executives at Goldman Sachs Group Inc., Citigroup, Merrill Lynch & Co. and other banks said in 2005 that the lack of competition after the purchases would hurt users by limiting their choice about how and where to execute orders and enabling exchanges to raise transaction fees.
CEO and President Joe Ratterman was one of the employees Cummings hired at Tradebot. He took over Bats in July 2007 when Cummings returned to their old employer in Kansas City, Missouri. Before joining Tradebot in 2004 to focus on business development, Ratterman oversaw 650 people as chief technology officer at Bridge Information Systems Inc. Ratterman couldn’t be reached to comment beyond the company’s release.
Bats said in a February regulatory filing that it “experienced very low downtime” last year. BZX Exchange, its main market, was accessible to users 99.94 percent of the time. BYX Exchange, its second market, was available 99.998 percent of the time, the company said. The main market processed an average of about 29,000 order messages per second last year, Bats said.
‘All the Facts’
“The concern I have is that people are going to rush to statements and conclusions and opinions and ideas without knowing all the facts,” Jim Toes, president and CEO of the Security Traders Association, based in New York, said in a phone interview yesterday. “This was an unfortunate event that occurred today. It was unfortunate for Bats, it was unfortunate for the whole marketplace and for Bats’ competitors. We hope people don’t make recommendations until we have all the facts.”
Bats planned to make its own shares the first corporate listing on its exchange. NYSE Euronext and Nasdaq OMX Group Inc. own the home venues for the rest of the U.S. stock market.
“This business has a much higher degree of complexity than people think it has,” NYSE Euronext Chief Executive Officer Duncan Niederauer said during an interview yesterday with CNBC. “It means one thing to be a liquidity venue or an ECN. It means a very different thing to be an exchange where you list companies.”
The exchange operator was trying to raise money less than two years after a crash erased $862 billion in less than 20 minutes from U.S. share values, a plunge that critics linked to the fragmented market structure that helped Bats thrive.
An official with the Securities and Exchange Commission’s enforcement division said last month that the agency is examining equity trading practices that gained dominance in the past decade amid the shift to automation. Daniel Hawke, head of the market-abuse unit, said the SEC is looking at techniques such as co-location, in which exchanges let traders place computers close to the market to shave time off executions.
Bats itself got a request from the SEC for information on the types of orders customers use on its venues. The request, disclosed in a regulatory filing Feb. 23, sought information about how order types have evolved at the company. Bats said regulators asked for documents “related to the development, modification and use of order types, and our communications with certain market participants,” including some of Bats’s owners.
About 55 percent of U.S. equities volume comes from firms using high-frequency trading strategies, Adam Sussman, a partner and director of research at Tabb Group, said in December. More than half of that -- 32 percent of total stock volume -- is from market makers supplying bids and offers, he said.
“You couldn’t have written it worse,” said Steve Grob, London-based director of group strategy at Fidessa Group Plc, a developer of financial software. “They won’t look back on this day as their best day, for sure.”
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