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Turn the tables on the Evil Market Maker!
Investors will pile into this company's stock... and we'll be waiting
by Briton Ryle
Those dirty market makers. Investors who haven't learned their lesson about placing market orders by now deserve exactly what they get. I guarantee the 250% run-up by Ariel Corp. (ADSP-NASDAQ) the day after Thanksgiving was caused by market makers taking advantage of novice investors, high on some distant cousin's hot stock pick whispered secretively over the candied yams.
If you missed it, Ariel's moonshot was a classic. A vague association with Linux caused the stock to double from US$5 to US$10 on the Wednesday before Thanksgiving. During the short session following the holiday, Ariel inexplicably opened at US$20 and hit an intra-day high of US$57 before closing at US$37.
Drugged by tryptiphan and with an egg-nog hangover, these "investors" put in market orders and got reamed. I feel sorry for for the kids of people who bought Ariel over US$30. This stock will never see that price again. Daddy just blew Christmas for little Cletus and Jimmy Sue.
Far be it from me to change the relationship between a fool and his money. Re-directing mal-invested money is the job of the shorts. And the shorts jumped all over this no-brainer, taking it from US$37 to under US$15 in one day.
Ghost in the machine
In the automated age, which, they tell me, is now, every effort is made to remove human error from production and distribution. The ultimate goal is for commerce and manufacturing to perform like a Formula One racecar. And the final frontier is the financial markets. Ashton Technology Group is trying to change even that.
Their plan is to automate trading using the relationship between volume and price. Any one with the slightest understanding of technical analysis knows that price and volume are linked like Siamese twins. To my knowledge, Ashton is the first company that has attempted to create an entire trading system based on this fundamental relationship.
Competition is good
From phone service to utilities, from Internet access to banks and insurance companies, deregulation is opening doors to competition. Financial markets are next. The SEC has endorsed the competitive benefits of ECNs (Electronic Communication Network) like Island and Instinet. Recently, the SEC ruled that all stocks listed on the NYSE can be traded on ECNs, even if the particular ECN isn't a member of the NYSE.
The SEC has even made some rule changes to the Exchange Act of 1934. In a report from Dec. 1998, the SEC said it is "adopting a regulatory framework for alternative trading systems (ATS) to strengthen the public market for securities while encouraging innovative new markets."
The SEC has changed the definition of an exchange to include any organization that brings together buyers and sellers. And it has decreed that registered exchanges can operate for-profit. Hence NASDAQ's move to go public.
Amazingly enough, the SEC seems to recognize the benefits of ATSs and is trying to lower the barriers to entry into the market place. This change in attitude is very bullish for Ashton's success. Ashton is pioneering the use of ATSs for the pricing of stocks on ECNs. Ashton is building out its own ECN to support its proprietary ATS, Electronic Volume Weighted Average Pricing or eVWAP. Ashton's ECN is not an after-hours exchange like Instinet. It will exist alongside the "regular" exchanges.
Low-impact trading
Here's how eVWAP works. An order is put in before the open. The program calculates the fair price based on volume and price action for the day, and then matches the order with a seller or buyer, as the case may be. The company says this system will allow institutions to trade large blocks (minimum order is 5,000 shares) of stock anonymously and without affecting the market.
eVWAP is a proprietary system of Universal Trading Technologies Corporation (UTTC), a subsidiary of Ashton Technologies. The CEO tells me they will have all of the major brokerages and institutions lined up by this spring, when phase 3 is completed.
Ashton is not a software company. They aren't trying to get in on other exchanges' action. They're creating their own action. Schwab and others will offer eVWAP service to their clients, and take a small cut. Ashton will get 99% of revenues.
eVWAP is targeted to institutional buyers, funds and the like. And the benefits are tremendous. A fund can place an order, have it filled at the end of the day, and no one on the big exchanges (NASDAQ, NYSE, etc.) will be the wiser.
Ashton is going after the big players. Its system will be of little benefit to the small or retail investor. And a system just for the big dogs probably wouldn't attract the eye of the little guy except for one thing: the market maker. Cutting out the market maker will make Ashton the hero of the small investor. They will reward Ashton by buying stock like crazy people.
Confederacy of dunces
From time to time, I'll read the bulletin board for a stock because I like to get a feel for what people are saying about it. If you haven't done this you should. The level of idiocy boggles the mind. No matter what happens -- can't get an order filled, price goes up, price goes down, price goes sideways -- it's the market makers' fault.
I swear most investors think the market makers are omniscient gods of the stock market. I wouldn't be at all surprised if people started sacrificing virgins to appease the MMs.
Market makers can't control the price of a quality stock. But if you put money in a two-bit company on a Canadian exchange, you deserve what you get.
Of course, you can sidestep market maker shenanigans. If you put in a stop loss, prepare to have it triggered. Use a mental stop and watch your stock. If you use market orders, it's like walking through Rio de Janeiro, naked, with money taped all over your body. With luck, you'll only be severely beaten and left for dead.
Not exactly mainstream
My views are not in the mainstream. Neither are those of Taipan's publishers and researchers. This attitude gives us a distinct advantage over the members of the crowd. Besides the obvious that we have more fun.
We understand that the market maker is an important link in the investment chain. They are as prone to mistakes as anyone. We don't need to tip the playing field by cutting out a major source of profit competition. We keep the edge through research, connections and a clear vision of the future. But if there's a profit opportunity in cutting out the market maker, we'll personally show him the door.
For the average momentum investor, profits are a combination of luck and going with the flow. Anything that has the appearance of giving them an edge will be applauded wildly. That's why I'm bullish on Ashton Technology Group's stock.
Buy the rumor, sell the news
Profiting on a stock like Ashton is a clear case of "buy the rumor, sell the news." Investors will go ga-ga over the idea of trading without a market maker, even if it is for the big players. "Democracy hits the market," they'll say. Or, "Finally, an edge for the little guy."
Fools...
The idea of automated pricing based on some kind of volume weighted system sounds good. Its success will depend on attracting institutional investors. But the hype this stock gets will be amazing. And where there's hype, there's profit.
Ashton's technology is good enough for the Philadelphia stock exchange to give it a try, with the SEC's approval, of course. Initial trials began in March of '99 as a pre-open session involving 20 listed stocks. Phase three is supposed to begin this spring. More stocks will be covered and the system will be more widely available.
Keys to success
I think eVAWP will be successful for two reasons. The first is benefit. Fund managers and other large investors will jump at the chance to trade with anonymity and without moving the market.
The second reason I like Ashton's chances is that management is no stranger to ECNs. CEO Frederic Ritterieser helped make Instinet a fixture on Wall Street. He also engineered Instinet's buyout by Reuter's.
They say the measure of a great NFL coach is taking two teams to the Super Bowl. I think Rittereiser wants to be held to that measure of success. He did it once, why not do it again? I think it's reasonable to expect him to repeat the Instinet process here -- build it out, show it off, sell it.
Right now, ECNs like Instinet and Island account for 20% of the volume on the NASDAQ. Clearly, there is a market for ATVs. Ashton is certain to carve out a sizable market share with a system that allows institutions and funds to trade anonymously and without moving the market. And when investors get wind of the new system they'll be buying this stock hand over fist. And then it'll get bought out at a premium. The key here is getting in early.
Don't believe the hype. Buy it!
Right now, the majority of revenues are being generated by subsidiary Gomez Advisors. Gomez provides research to consumers and businesses involved in e-commerce. A ratings system for e-commerce is available to consumers. Gomez also offers research and data on a subscription basis to e-businesses seeking to maximize their on-line sales efforts.
Other divisions are active in creating the security and e-commerce tools needed to make the eVWAP system a success. All in all, Ashton is a self-contained, proprietary e-commerce company focused on the financial markets.
Ashton has over US$32 million in assets. Revenues for the three months ending in September of 1999 were just over US$1 million while net loss for the same period was US$4.6 million. It should be no surprise that Ashton is operating at a loss. Getting a trading system up and running is expensive.
To get an idea of what the eVWAP system could be worth as far as revenues consider this: eVWAP contributed about US$13,000 in revenues for the three months ending Sept. 30, 1999. Not much, but eVWAP was only active since August 27, 1999. During that one month, eVWAP processed 7.5 million shares. And remember, as part of the trial phase the system was handling only 20 stocks.
Now let's say the NASDAQ averages 1 billion trades a day. ECNs account for about 20% of that 1 billion, or 200 million shares. If eVWAP can gain only 10% of the ECN market, which is a conservative estimate considering that eVWAP will not really be competing with the traditional after-hour exchanges, it will process 20 million shares a day. That means eVWAP could realistically bring in around US$30,000 a day. Based on a 256-day trading year, eVWAP alone should generate nearly US$8 million in revenues a year.
Of course, I believe the ultimate goal is not to run the business but to prove it will work and then sell it. I rate Ashton Technology Group (ASTN-NASDAQ) a buy under US$6.50. This is a thinly traded stock so use a limit order. You can contact Ashton Technology Group at: 1900 Market St., Suite 701, Philadelphia, PA 19103 USA; tel. 215-751-1900; www.ashtontechgroup.com.
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