National Stock Exchange CEO Joseph Rizzello Addresses STA Annual Conference

Good Morning, Everyone. I'm Joseph Rizzello and it's my pleasure to participate in this Conference on behalf of the National Stock Exchange -- and to be a part of this distinguished roster of speakers. I want to thank STA for the opportunity to speak with all of you here today.

Well, what a difference a year makes. If you went to sleep a year ago and didn't wake up until this morning, you'd be waking up to a very different business climate. When this group assembled here a year ago, the industry was in a pre-Reg NMS environment. Actually, "Pre"-Reg NMS might most accurately be pegged to the day before the NYSE's announcement in April 2005 that they were acquiring Arca, signaling that electronic linkage was a reality.

Since then, the securities industry has gone through a period of unprecedented change. And there's certainly more where that came from. Which is why the theme of this conference - "Prospects and Predications for Trading in 2008" - is such a good one. Looking ahead, it seems that the only thing we CAN be certain of is that this transformation will continue in 2008. What will this business look like a year from now? What role will Exchanges play? How will the costs of doing business continue to evolve?

While I don't profess to have all the answers, I do believe that there are several trends emerging - some more obvious than others - some challenging what has been the status quo for decades - and that these trends will shape the industry for years to come.

Before Reg NMS went into effect, there were a number of predictions circulating about what the world would look like post-NMS. There were widespread concerns because the market wasn't ready for NMS. Fortunately, we dodged that bullet and those problems didn't materialize. There were those predicting a doubling or tripling in NYSE-listed trading volume, which we haven't seen yet.

Here's what we have seen. Hundreds of millions of dollars have been spent industrywide in preparation for Reg. NMS. Was it necessary? I seriously question the need for Reg. NMS. To quote a good friend of mine in the industry, what Reg NMS did was make listed trading look like Nasdaq trading and make Nasdaq trading look the same, but with busy work. Eliminating ITS and linking the markets electronically could have accomplished the same thing, albeit at a high price tag, also. But the industry would not have incurred the enormous costs that were necessary to become Reg NMS compliant.

Since NMS, we've seen market share shift to electronic platforms in Tape A stocks. The old membership model is gone, and it's highly unlikely that the specialist model will stage a comeback. We've seen competitors step up and new entrants emerge, exerting downward pressure on transaction costs. We've seen the emergence of a single market structure, which has led most in the industry to harmonize pricing across all three tapes to reflect the fact that there is no real structural difference in how Tape A, B and C securities trade.

To really assess where we're headed from here -- it makes sense to take a look at a few statistics that show where we were before Reg. NMS -- and where we are now. So let's go back 2 ½ years to early 2005, just prior to the NSYE announcement of the Arca acquisition and Nasdaq's announcement that they were buying Inet -- two major developments that each had a significant impact on the industry.

Back around the first quarter of 2005, volume in all stocks was averaging 4.2 billion shares per day. Now it's 5.5 billion shares per day. Listed trades were averaging 5.6 million per day, now it's at 12 million; while Nasdaq trades were averaging 4.5 million per day in early '05 and are now at 7 million.

In the first quarter of 2005, quote messages in listed stocks averaged 22 million per day, and every 4 messages produced a trade. Today, quotes in these same stocks average 208 million per day, with every 17 messages producing a trade. Nasdaq quote messages averaged 25 million per day in early '05 - now they're averaging 75 million per day.

So what's the takeaway from these statistics? It's the fact that message traffic has grown sixfold, executed trades have doubled and share volume has increased by just 30% due to lower average trade sizes. Producing a quote today is far less likely to result in a revenue-generating trade, since a large portion of the quotes are so short-lived as to never have a chance to interact with orders.

Clearly, increased message traffic is a trend that's on the upswing. What does this mean for the future? It means that market centers must increase capacity to accommodate the surge in messages. It means enormous systems and processing costs to make this happen. It means a high probability of persistent latency in the SIPS publishing top-of-book quotes to the Street, which can take at least 30 milliseconds - considerably higher than what you would receive if you took the depth-of-book directly from the Exchanges and ATSs.

To this last point, the real irony here is that while the quote traffic being produced and disseminated is increasing exponentially, the quotes are worth far less now than they ever were before. In addition, last sale data is worth far less due to the fact that average share volume is dramatically lower. For example, average share volume per trade for listed stocks today is 290 shares per trade, down from 1,000 shares per trade just 2 years ago.

That's why there is a huge debate raging about market data now. In order for broker/dealers to have the most current information, they have to ignore the SIPS top-of-book and purchase the depth-of-book on their own. Currently, more than $400 million in revenue is being charged to the financial community for top of book data -- data that costs the industry somewhere between $40 and 50 million a year to produce. The reality is that top-of-book is becoming less and less valuable. It is, and has for some time, been hugely overpriced. It's simply not worth it because (1) The mark-up to produce the data is about 10 times what it costs; and 2) the cost of price discovery is higher than it has ever been.

It is my hope that during 2008, a comprehensive, broad-based review of market data structure will be conducted - and an alternative structure considered that integrates the advantages offered by new technology. The pace and volume of message traffic, which is fueled by quant trading, is not likely to slow down. The genie has left the bottle, folks. But I believe that charging excessive fees for market data is not a long-term solution for the health of the U.S. securities markets.

Market data is one of three key factors that I believe will shape the way the Exchange world evolves going forward. Transaction costs are another. And on that front, we are seeing the power of competitive forces at work today. Market centers with low-cost, innovative business models are offering lower fee structures, and in some cases, inverted structures, keeping pressure on the large exchanges to keep transaction costs in line. I absolutely believe that as long as there are viable competitors, the aggressive price competition that we have seen of late will continue, as will the innovative solutions necessary to solve market structure problems that can arise when you have a duopoly.

The third leg of the stool that I believe will eventually impact the evolution of Exchanges is listing fees. This, like market data, has been an area that has been virtually untouched up to this point. Corporate America pays NYSE and Nasdaq over a half billion dollars in listing fees. Does it really make sense for them to continue to pay these huge fees? Here, too, I believe that competitive forces will ultimately come into play - just as they have in transaction fees.

On a broader level, looking ahead to 2008 - prospects and predictions - we may have 9 Exchange licenses, but there won't be 9 operating exchanges a year from now. There will be more consolidation and more closing of Exchange doors. But there will definitely be alternatives to the two bigger exchanges that will continue to show themselves. Alternatives have already emerged and are exerting their influence, particularly in the areas of transaction costs, technology innovations and order types. But which one or ones will be here for the long haul as the industry's third and possibly fourth alternative? What will it look like? Will it be able to sustain itself?

I don't believe it will be just an ECN - or just one of the smaller exchanges - or even a dark pool. I believe the survivor will definitely have an Exchange component, with the economics, regulatory framework and most importantly, the valuable licenses inherent in an Exchange structure. Who it will be -- and what model it follows - should crystallize by the end of 2008. And that alternative market center - in order to survive and flourish - will, at a minimum, have to offer low-cost pricing and technological efficiency. Perhaps it will even be new alternative listing venue to challenge the two big exchanges and bring some much needed competition to the table.

Most importantly, I believe the alternative that proves to have the staying power will be owned by its customers. It will be the entity that aligns its interests with those of its customers. It will be a non-public institution that does not have to answer to short-term results-oriented shareholders - which has the freedom to compete on price, to generate new and innovative ideas, and to act upon them, even if margins are low.

As a great fan of Jack Bogle, founder of the Vanguard Group, I have always been an admirer of the business model they created. Yes, they are the mutual fund giant. But the model they follow is a simple one. What they did, that was distinctly different from their competitors, was build a client-owned business. And, despite skepticism, managed to succeed spectacularly by leveraging its unique ownership structure, rather than following a profit-maximizing structure of a service company extracting excessive fees from its customers.

There are many secrets to Vanguard's success. But I believe the predominant one is simply that they created a more efficient model that directly benefits the consumers of their services. And while they are not as profitable as some of their competitors - or as they could have been - they manage over $1 trillion of assets and, most importantly, no one wants to compete with them.

In our industry, as in any, the pendulum always swings too far in one direction before settling in the center. If we look at the composition of our market centers in the last year or two, we went from member-owned utilities serving the interests of their membership -- to publicly held organizations that must now serve the interests of their shareholders.

There will emerge a happy medium. One that can, and does, put its customers first. The alternative to the two larger markets will establish its position in the coming year. But it won't do it by competing head on with the two big Exchanges - it will do it through innovation in the areas of order types and products, advanced technology and utility pricing - by choosing its opportunities and hitting singles and doubles.

Other than inertia, there are very few advantages that the two bigger Exchanges have over any other Exchange. Yes, because of this inertia, at the moment they have the deepest liquidity pools and premium brands. But we are now seeing how portable order flow is - far more so than it ever was before.

NYSE market share across all tapes has stayed approximately the same in the last 2 1/2 years, but their market share in their own listed issues has declined from 79% to 56%. And this occurred after their Arca acquisition. I would expect to see continuing shifting in the market share picture in the coming year.

It's a brave new world, post NMS. There is no question that we will see tremendous change in 2008 as this industry continues perhaps the most significant transformation in its history. But one thing remains constant. And that is the importance of competition in the marketplace. It is why the U.S. is still the most efficient place in the world to trade.

I look forward to the coming year and the opportunities ahead for our industry. I can't think of a more exhilarating business to be in right now. Thank you.