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Flashboy Brad Katsuyama On The Future Of IEX After Winning SEC Approval

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IEX Group, Brad Katsuyama’s controversial trading platform, won stock exchange status from the Securities and Exchange Commission on June 17th.

It was a big victory for the nascent trading platform. As an exchange, IEX will see volume surge since traders will have to execute on IEX if it has shares priced better or equal to the other exchanges. It also means Katusyama can collect high-margin fees by listing companies on his exchange. Steve Wynn, an IEX investor, says he’ll move Wynn Resorts shares over and plans on spreading the word to other casino owners like Las Vegas Sands’ Sheldon Adelson. Since IEX’s mission is to use technology to promote openness and fairness, Katsuyama thinks he can woo big Silicon Valley companies like Apple, Google, Facebook, and Amazon. A move from any of those companies could spark a major migration to IEX.

Katsuyama, who shot to fame as the hero of Michael Lewis’s bestselling book, Flash Boys, is one of Wall Street’s biggest contrarians. Stock exchanges and trading firms invest millions of dollars to speed up trading technology in hopes of luring high-frequency traders (advanced, algorithm powered bots that buy and sell stocks in a millionth of a second). But Katsuyama is out to win the finance drag race by slowing down.

Built into IEX’s system is a metal box containing 38 miles of spoiled fiber optic cable that acts as a speed bump stalling incoming trades by 350-microseconds. As I wrote in a 2015 profile, this delay, while only a few millionths of a second, neutralizes the speed edge needed to game the market the same way speed bumps and humps kill the advantage a Ferrari has over a Ford.

Katsuyama’s spool of cable, which has attracted more than $100 million worth of investments from the likes of Bill Ackman, David Einhorn, and the Capital Group, has split Wall Street down the center. In one corner stands IEX supporters--buy-side firms, pension funds, and CEO’s like Wynn Resorts CEO Steve Wynn. The anti-IEX side? Other stock exchanges like NYSE, NASDAQ, and Bats plus high-frequency heavyweights like Citadel, which has loudly lobbied against IEX’s trade delay. IEX foes claim the platform is illegal (the delay manipulates orders), regressive (it slows down technology), and un-American (yes, that old chestnut).

Despite the fight, the SEC has granted IEX the coveted status of a public exchange. That means whether you're a lover and hater, you'll have to execute your trade on IEX if it's displaying the most competitive price. I recently spoke with Katsuyama to talk about his plans as he readies IEX for its public debut.

Steven Bertoni: For more than a year, IEX has thrown substantial attention, time, and resources into winning SEC approval. What’s the plan now that you’re in the clear?

Brad Katsuyama: The big focus now is getting our broker and asset manager clients ready as we transition into an exchange. A small group of us focused on the exchange application, and this opens up a huge amount of bandwidth. For me, it’s about shifting my focus to our clients and getting back on the road and back to business.

SB: When does IEX officially open as a public exchange?

BK: We’re hoping to launch by mid-August. We’ve been ready to be an exchange for quite some time--we just need to give our clients the time to connect and reconfigure their systems to treat IEX as an exchange. They need to reconfigure their routers, data feeds, and algorithms. Luckily we're’ not starting from scratch--since they are already trading on our platform and have a rapport with our team--that gives us a good jump.

SB: You’ve sworn off features like co-location, ultra-fast access, and data fees--all of which are revenue cash-cows for your competitors. How do you plan to make money?

BK: We’re not paying rebates, which costs other exchanges billions a year. That means we make money on volume--by matching buyers and sellers--which is the core function of an exchange. Not paying rebates means we don’t have to charge for market data and access. Some people say we love your free market data but hate the speed bump. We say without the speed bump we’d look like everyone else. We don’t charge for data because we don’t have to pay rebates, and we don’t have to pay rebates because we attract orders naturally by protecting our clients with the speed bump. Instead of selling a few players advantages, we offer a service to everyone.

SB: Is it sustainable to make money from mainly off of trading volume?

BK: We’re profitable right now. We’re 70 people, we’re lean, we’re not putting microwave dishes on our roof or building data centers or spending money trying to speed things up. So we can run a scalable, reliable and efficient business. Because of that, we’ll end up charging a fraction of what the NYSE, NASDAQ, and Bats are charging. That’s what the SEC fight was about, why they went so hard against us, the other exchanges rely so heavily on the revenue streams we’re disrupting.

SB: Today IEX has about 1.5% of the total market trading volume. How do you increase your market share?

BK: Since we’re not paying people to send us orders, our growth will be more gradual and organic. Growth will be about teaching people how to best leverage IEX, show them here’s why we’re different and here’s the performance you can get from trading with us. We’ve seen a slow, gradual increase. We hope to get a boost from our exchange status, but long term we’re better for this industry than the existing exchange model and we hope more people realize this as we compete.

SB: Speaking of competition, some analysts predict that NYSE, NASDAQ, and Bats will build speed bumps of their own. If they launch competing features, how do you survive?

BK: It would be odd if NASDAQ, NYSE or BATs were to have a speed bump on one exchange and sell colocation on another. It runs counter on how they make money to make speed a lower priority. If they do that, it admits that their current model doesn’t benefit their investors.