InformationWeek

"It saves you time, which, when the market is moving, is important," says Paul Umansky, president of JPR Capital, which supports more than 400 day traders from its two New York offices.

Using computer networks to provide better stock transactions has been the foundation of Archipelago since it began in a downtown Chicago office building in late 1996, one of the four original electronic communication networks. These networks provide an Internet-based platform for investors to post offers to buy and sell stocks listed on other exchanges, providing a faster trading environment than conventional markets because buyers and sellers interact directly.

But this summer, Archipelago plans to push the electronic communication network business model a considerable step further: competing directly with Nasdaq, the pioneer of electronic trading and home to some of the world's most valuable companies.

If its merger with the Pacific Stock Exchange is approved, Archipelago will become a standalone, self-regulated exchange, whereas now it cooperates with Nasdaq and lives under the regulation of that exchange's parent, the National Association of Securities Dealers. Archipelago will offer a completely electronic rival that is accountable directly to the Securities and Exchange Commission. That means it will no longer have a rival as a regulator.

Can an upstart really challenge Nasdaq, the world's largest stock exchange when measured by dollar volume? Stuart Townsend, chief technology officer and a board member of Archipelago, reaches into Rust Belt history for an analogy, pointing to the steel industry, which was transformed by miniature-mill technology, allowing smaller companies to remake the industry and force the giants to catch up.

"The old companies may not survive," Townsend says. "The same thing has happened in other businesses; there's no reason it can't happen here."

Electronic communication networks such as Archipelago and The Island, a New York company run by Matthew Andresen, a former Lehman Brothers banker, have grown because of their ability to deliver traders something better-faster trades, more transparent pricing, or lower spreads between buy and sell prices. In the traditional model, traders saw a price offered on one of the exchanges, then worked through a broker to execute the trade on the market. At a trading network such as Archipelago, a broker still sponsors a trader, taking responsibility that the trader has the credit to honor trades, but the trader executes the deal directly. In addition, Archipelago displays prices for markets other than its own, increasing transparency.

"The issue is really cutting out the fluff in the supply chain to get the buyer to the seller more quickly," says David Furlonger, an analyst at Gartner Group Financial.

Archipelago was born of an alliance between software engineers and day traders. Townsend, trained in economics at the University of Chicago, was CEO and founder of a software company, Townsend Analytics, that built software to match buy and sell orders for the trading industry, including the Austrian Options Exchange in Vienna. Townsend met Gerald Putnam, who was running one of Chicago's largest day-trading firms, TerraNova, and who wanted to offer his several hundred traders a faster connection to the market.

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Photo of Stuart Townsend by David Joel