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[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]

 
     ELECTRONIC COMMUNICATION NETWORKS IN THE WAKE OF SEPTEMBER 11
=======================================================================

                                HEARING

                               before the

                            SUBCOMMITTEE ON
                COMMERCE, TRADE, AND CONSUMER PROTECTION

                                 of the

                    COMMITTEE ON ENERGY AND COMMERCE
                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED SEVENTH CONGRESS

                             FIRST SESSION
                               __________

                           DECEMBER 19, 2001
                               __________

                           Serial No. 107-79
                               __________

      Printed for the use of the Committee on Energy and Commerce

 Available via the World Wide Web: http://www.access.gpo.gov/congress/
                                 house
                               __________

                        U.S. GOVERNMENT PRINTING OFFICE
                                WASHINGTON : 2002
_____________________________________________________________________________
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                    COMMITTEE ON ENERGY AND COMMERCE

               W.J. ``BILLY'' TAUZIN, Louisiana, Chairman

MICHAEL BILIRAKIS, Florida                 JOHN D. DINGELL, Michigan
JOE BARTON, Texas                          HENRY A. WAXMAN, California
FRED UPTON, Michigan                       EDWARD J. MARKEY, Massachusetts
CLIFF STEARNS, Florida                     RALPH M. HALL, Texas
PAUL E. GILLMOR, Ohio                      RICK BOUCHER, Virginia
JAMES C. GREENWOOD, Pennsylvania           EDOLPHUS TOWNS, New York
CHRISTOPHER COX, California                FRANK PALLONE, Jr., New Jersey
NATHAN DEAL, Georgia                       SHERROD BROWN, Ohio
STEVE LARGENT, Oklahoma                    BART GORDON, Tennessee
RICHARD BURR, North Carolina               PETER DEUTSCH, Florida
ED WHITFIELD, Kentucky                     BOBBY L. RUSH, Illinois
GREG GANSKE, Iowa                          ANNA G. ESHOO, California
CHARLIE NORWOOD, Georgia                   BART STUPAK, Michigan
BARBARA CUBIN, Wyoming                     ELIOT L. ENGEL, New York
JOHN SHIMKUS, Illinois                     TOM SAWYER, Ohio
HEATHER WILSON, New Mexico                 ALBERT R. WYNN, Maryland
JOHN B. SHADEGG, Arizona                   GENE GREEN, Texas
CHARLES ``CHIP'' PICKERING, Mississippi    KAREN McCARTHY, Missouri
VITO FOSSELLA, New York                    TED STRICKLAND, Ohio
ROY BLUNT, Missouri                        DIANA DeGETTE, Colorado
TOM DAVIS, Virginia                        THOMAS M. BARRETT, Wisconsin
ED BRYANT, Tennessee                       BILL LUTHER, Minnesota
ROBERT L. EHRLICH, Jr., Maryland           LOIS CAPPS, California
STEVE BUYER, Indiana                       MICHAEL F. DOYLE, Pennsylvania
GEORGE RADANOVICH, California              CHRISTOPHER JOHN, Louisiana
CHARLES F. BASS, New Hampshire             JANE HARMAN, California
JOSEPH R. PITTS, Pennsylvania
MARY BONO, California
GREG WALDEN, Oregon
LEE TERRY, Nebraska

                  David V. Marventano, Staff Director
                   James D. Barnette, General Counsel
      Reid P.F. Stuntz, Minority Staff Director and Chief Counsel
                                 ______

        Subcommittee on Commerce, Trade, and Consumer Protection

                    CLIFF STEARNS, Florida, Chairman

NATHAN DEAL, Georgia                 EDOLPHUS TOWNS, New York
  Vice Chairman                      DIANA DeGETTE, Colorado
ED WHITFIELD, Kentucky               LOIS CAPPS, California
BARBARA CUBIN, Wyoming               MICHAEL F. DOYLE, Pennsylvania
JOHN SHIMKUS, Illinois               CHRISTOPHER JOHN, Louisiana
JOHN B. SHADEGG, Arizona             JANE HARMAN, California
ED BRYANT, Tennessee                 HENRY A. WAXMAN, California
STEVE BUYER, Indiana                 EDWARD J. MARKEY, Massachusetts
GEORGE RADANOVICH, California        BART GORDON, Tennessee
CHARLES F. BASS, New Hampshire       PETER DEUTSCH, Florida
JOSEPH R. PITTS, Pennsylvania        BOBBY L. RUSH, Illinois
GREG WALDEN, Oregon                  ANNA G. ESHOO, California
LEE TERRY, Nebraska                  JOHN D. DINGELL, Michigan,
W.J. ``BILLY'' TAUZIN, Louisiana       (Ex Officio)
  (Ex Officio)

                                  (ii)

                            C O N T E N T S

                               __________
                                                                   Page

Testimony of:
    Andresen, Matthew, President & Chief Executive Officer, The 
      Island ECN.................................................    12
    Bang, Kim, President, Bloomberg Tradebook....................    22
    Jamiatis, Keith R., Senior Vice President, NYFIX Millenium...    40
    Kinney, Catherine R., Group Executive Vice President, New 
      York Stock Exchange, Inc...................................    17
    O'Hara, Kevin J.P., General Counsel, Archipelago, LLC........    28
    Randich, Steven J., Executive Vice President of Operations & 
      Technology, Chief Information Officer, The Nasdaq Stock 
      Market, Inc................................................    35
    Steinmetz, Joel, Senior Vice President, Instinet.............     7

                                 (iii)

  

     ELECTRONIC COMMUNICATION NETWORKS IN THE WAKE OF SEPTEMBER 11

                              ----------                              

                      WEDNESDAY, DECEMBER 19, 2001

              House of Representatives,    
              Committee on Energy and Commerce,    
                   Subcommittee on Commerce, Trade, and    
                                       Consumer Protection,
                                                    Washington, DC.
    The subcommittee met, pursuant to notice, at 10:23 a.m., in 
room 2322, Rayburn House Office Building, Hon. Cliff Stearns 
(chairman) presiding.
    Members present: Representatives Stearns, Deal, Shimkus, 
Shadegg, Bryant, Pitts, Bass, Towns, Harman, and Markey.
    Staff present: David Cavicke, majority counsel; Ramsen 
Betfarhad, majority counsel and policy coordinator; Shannon 
Vildostegui, majority counsel; Brian McCullough, majority 
counsel; Will Carty, legislative clerk; Jon Tripp, assistant 
press secretary; and Consuela Washington, minority counsel.
    Mr. Stearns. Good morning. I would like to welcome 
everybody to our hearing today and apologize for its lateness. 
We had the President come over to speak to the Republican 
Conference, and we were delayed and that is why we are starting 
a little late.
    I appreciate the indulgence of the ranking member, Mr. 
Towns of New York, and we look forward to our witnesses.
    The topic we will discuss today is a very important one. It 
has become more obvious since the attacks of September 11 that 
the decentralization in this country is good--or some would 
call it ``sprawl'' of the United States--is a huge asset in 
this war that has found its way to our shores. A widely 
dispersed population ensures viability in the unfortunate event 
of terror in a particular locale.
    Mirroring the advantages of our population distribution, 
the Internet also uses an assortment of distinct connections to 
ensure performance even when certain locations are troubled. 
The Internet has a packet switch design that allows data to run 
on different paths until it is reassembled at its destination. 
Its strategic design should come as no surprise, given it was 
invented by the Department of Defense.
    On September 11, the Internet stayed operational even with 
an unprecedented surge in demand. It quickly became the 
preferred method of communication when cellular and telephone 
networks became temporarily overloaded. Many Americans turned 
to e-mail and instant messages to communicate with loved ones 
and business associates.
    The Web also became an important media for information-
gathering. Like the television networks, news sites updated 
information rapidly at a time when up-to-the-minute information 
was extremely vital to the world.
    Like the entities that provided continuity of business and 
personal communications on September 11, others were arguably 
capable of, but prevented from, performing such a mission. 
ECNs, as the name implies, are communication networks that 
facilitate commerce. At a basic level, a company like eBay is 
an ECN because it facilitates the meeting of buyers and sellers 
without the intervention of a middleman. More specialized ECNs, 
like our panel today will talk about, specialize in 
facilitating markets in stock by causing buyers and sellers to 
meet electronically using private electronic networks.
    ECNs are electronic networks that do not have physical 
trading locations. Therefore, they are somewhat less 
susceptible to disruption of service stemming from events in a 
particular location. However, a catastrophic incident of the 
magnitude of September 11 can still affect the communication 
infrastructure that the ECNs depend on.
    The technology of the ECNs is a development that reflects 
the changing nature of all commerce, both domestic and, of 
course, global. An ECN is not unlike the Internet in that it 
provides a platform that allows perfect strangers to enter from 
anywhere and meet in an anonymous environment. In this 
particular case, they meet in order to trade stock. Although 
they are quite different from the traditional exchanges, the 
ECNs can provide a unique alternative to the markets. However, 
securities regulations prevent these entities from operating 
when the traditional exchanges are closed.
    Following the attacks of September 11, the markets were 
closed for 4 business days and no rules--excuse me--no trades 
were conducted. I understand the decision was based in part on 
both security concerns and the loss of power for market 
participants and their ability to connect to these markets. 
Additionally, even though it appears some of these ECNs had the 
ability to operate in a situation such as the market shutdown, 
the markets remained closed. It would have been impractical to 
trade when the consolidated tape was closed for 4 days.
    My colleagues--on a related note, the committee has had 
correspondence last year with the SEC on an issue that affects 
ECNs, the rules governing the Consolidated Tape Association, or 
CTA. The CTA, as I understand it, is a group that splits the 
fees from market data generated by stock trades. This data is 
very valuable to ordinary people who wish to buy or sell 
stocks. To change the rules of CTA or to admit new members 
requires the unanimous consent of all the current members. 
Because of our dealings with the Senate, we know that this 
unanimous consent is difficult to achieve. That is why we are 
here today.
    I would like our witnesses to address what changes they 
think could be made to the CTA to make it a more modern and 
efficient organization. So I look forward to learning more 
about these issues and considering the suggestions from our 
witnesses on shaping a stronger market that can utilize the 
advantages of today's technology.
    And, with that, the opening statement from our 
distinguished ranking member, Mr. Towns of New York.
    [The prepared statement of Hon. Cliff Stearns follows:]
Prepared Statement of Hon. Clifford Stearns, Chairman, Subcommittee on 
                Commerce, Trade, and Consumer Protection
    I would like to thank our panel of witnesses for being here today. 
The topic we will discuss is an important one. It has become more 
obvious since the attacks that the decentralized nature, or as some 
call ``sprawl'' of the United States is a huge asset in this war that 
has found its way to our shores. A widely dispersed population ensures 
viability in the unfortunate event of terror in a particular locale. 
Mirroring the advantages of our population distribution, the Internet 
also uses an assortment of distinct connections to ensure performance 
even when certain locations are troubled. The Internet has a packet 
switch design that allows data to run on different paths until it is 
reassembled at its destination. Its strategic design should come as no 
surprise given it was invented by the Department of Defense.
    On September 11th, the Internet stayed operational even with an 
unprecedented surge in demand. It quickly became the preferred method 
of communication when cellular and telephone networks became 
temporarily overloaded. Many Americans turned to email and instant 
messages to communicate with loved ones and business associates.
    The Web also became an important medium for information gathering. 
Like the television networks, news sites updated information rapidly at 
a time when up to the minute information was vital to the world.
    Like the entities that provided continuity of business and personal 
communications on the 11th, others were arguably capable of, but 
prevented from, performing such a mission. Electronic Communications 
Networks, or ECNs, are entities that provide an electronic platform for 
trading securities. As their name implies, ECNs are electronic networks 
that do not have physical trading locations. Therefore, they are 
somewhat less susceptible to disruption of service stemming from events 
in a particular location. However, a catastrophe the magnitude of 
September 11 can still affect the communication infrastructure that the 
ECNs depend on.
    The technology of the ECNs is a development that reflects the 
changing nature of all commerce--both domestic and global. An ECN is 
not unlike the Internet in that it provides a platform that allows 
perfect strangers to enter from anywhere and meet in an anonymous 
environment. In this particular case, they meet in order to trade 
stock. Although they are quite different from the traditional 
exchanges, ECNs can provide a unique alternative to the markets. 
However, securities regulations prevent these entities from operating 
when the traditional exchanges are closed. Following the attacks of 
September 11th, the markets were closed for four business days and no 
trades were conducted. I understand the decision was based in part on 
both security concerns and the loss of power for market participants 
and their ability to connect to markets. Additionally, even though it 
appears some of the ECNs had the ability to operate in a situation such 
as the market shutdown, the markets remained closed. It would have been 
impracticable to trade when the consolidated tape was closed for four 
days.
    On a related note, I would like our witnesses to address another 
issue with the consolidated tape. It is my understanding that the 
Consolidated Tape Association requires unanimity for rule changes to 
the operations of the system. I find this troubling as one participant 
can hold up advances in the system. I would be grateful if the 
witnesses would address solutions to this problem.
    I look forward to learning more about these issues and considering 
our witnesses' suggestions on shaping a stronger market that can 
utilize the advantages of today's technology.

    Mr. Towns. Thank you very much, Mr. Chairman, and also 
thank you for holding this hearing.
    The Nasdaq stock market and the New York Stock Exchange 
should be commended for the heroic efforts that their staffs 
performed to allow for the opening of their markets within 6 
days after the attacks. The unified action taken by them, 
together with the American Stock Exchange and the SEC and New 
York State and city officials, should serve as a model for 
future public-private undertakings.
    It is truly a shame that it takes events like September 11 
to bring the best out of us. I am hopeful that this new spirit 
can be a permanent part of our financial landscape.
    While this hearing is focused on ECNs, it would be a 
mistake to overlook or minimize the value of the primary 
markets and all they contribute to capital formation and 
economic improvement in this country. They are truly natural 
resources and enjoy the envy of the rest of the world. 
Moreover, this committee has jurisdiction over the computer 
systems and telecommunications infrastructure that forms the 
backbone of ECNs and exchanges, indeed, the entirety of the 
securities industry.
    I firmly believe that you all provide important services to 
investors. I deeply regret the losses that you sustained, be 
they personal or physical, in the September 11 attacks. I look 
forward to hearing from you about lessons that we can learn and 
what steps we should be taking, going forward, to improve our 
response to such disasters. I am especially interested in your 
suggestions regarding systems security and continuity planning.
    Mr. Chairman, on that note, I yield back.
    Mr. Stearns. I thank my colleague.
    The gentleman from New Hampshire, Mr. Bass.
    Mr. Bass. Thank you very much, Mr. Chairman. I thank you 
for holding this fascinating hearing. I really didn't 
understand this issue until a week or so ago, and I think it is 
yet another example of how modern technology is moving forward 
to dramatically expand opportunities for commerce in this 
country. And as you mentioned in your opening statement, what 
platforms like eBay and others do for the auction business, so 
electronic communications networks may do for all sorts of 
other commerce-related issues, especially securities trade and 
so forth.
    As you also mentioned in your opening statement, there are, 
however, issues that may need to be addressed in order to 
protect consumers and to make sure that commerce that does 
occur through this medium is done in an orderly and reliable 
and secure manner.
    So I welcome the witnesses that we have here today. This is 
going to be a learning experience for me, and I appreciate your 
holding this hearing. I yield back.
    Mr. Stearns. I thank the gentleman.
    Mr. Bass. Can I submit a statement for the record?
    Mr. Stearns. By unanimous consent, so ordered.
    [The prepared statement of Hon. Charles F. Bass follows:]
 Prepared Statement of Hon. Charles Bass, a Representative in Congress 
                    from the State of New Hampshire
    Mr. Chairman, thank you for holding this hearing. As others have 
pointed out, September 11 gave our system of electronic communications 
quite a test.
    Most of us were part of that test as we rushed to our landline and 
mobile phones, our pagers, our PDAs, and our email accounts. Although 
phone service from our offices was intermittently down or overloaded, 
and the mobile networks were incapable of handling the volume, Internet 
based systems performed well due to their packet switching technology.
    I don't know what the proper role is for Congress to play in 
ensuring continuity of service during a crisis. Certainly, several 
items stand out as needing review. For example, why weren't emergency 
broadcasting systems used to better effect? Why were those of us in 
this area unable to have the numerous false rumors disproven for so 
long? And why weren't we able to more effectively ask the public to use 
the communications network sparingly, thus keeping it free for 
emergency use? I hope that this hearing will, in part, begin to answer 
these and other questions.
    On September 24, I visited southern Manhattan with several members 
of this committee. We saw for ourselves the extent of the horror and 
damage to the area. While there, we toured the site of the World Trade 
Center and the nearby Verizon building at 140 West Street. Like so many 
other nearby facilities, it was impossible to imagine that the building 
would be able to perform any serviceable action whatsoever.
    Nevertheless, Verizon and many other service providers undertook 
absolutely monumental efforts to get the system running as quickly and 
confidently as possible. Each of these communications workers deserves 
our thanks--and they certainly have mine.
    I look forward to hearing from these witnesses, and I yield back to 
the Chairman.

    Mr. Stearns. The gentleman from Tennessee, Mr. Bryant.
    Mr. Bryant. Thank you, Mr. Chairman. I think Mr. Pitts 
actually arrived before I did, but I will be brief.
    I want to welcome this panel. And like Mr. Bass, I think he 
has probably already learned enough about this, but there is 
more I need to learn. But I think neither of us knew very much 
before we started. I welcome you.
    And I thank you for holding this hearing and I would yield 
back the balance of my time.
    Mr. Stearns. Mr. Pitts?
    Mr. Pitts. I have no opening statement.
    Mr. Stearns. Mr. Shimkus.
    Mr. Shimkus. Just a brief follow-up. I know Chairman Upton 
in the telecom subcommittee visited Ground Zero about 4 days 
after. One of the reasons why was to observe the enormous 
amount of work that went--and I don't think the public really 
understands what was accomplished to get the financial markets 
back on line. It is a tremendous, tremendous success story; but 
as much as a success story, it is also a warning on how do we 
have the infrastructure to make sure that we can respond and 
continue to operate in a manner that provides confidence.
    I think that was one of the--of all the tremendous things 
that occurred in the visit and seeing everything, the fact that 
the economic stability of the country was maintained with such 
a devastating blow to a large portion of the financial sector, 
and the communication aspects and the ability to get up and 
running and really without--I don't think the vast majority of 
the public understands and saw no difference after the delay 
and when the markets reopened. It is an incredible statement.
    But we do have to look at how we can make sure, how we are 
able to do that in the future and what type of systems need to 
be in place.
    Mr. Chairman, I thank you for the hearing. I think it is 
going to be educational, eye-opening; and hopefully, even for 
the constituents across the country, they will understand the 
incredible amount of work that went on to help provide economic 
stability for this country in a tremendous time of crisis.
    And with that, I yield back the balance of my time.
    Mr. Stearns. I thank the gentleman.
    With no further opening statements, we will move to our 
panel, which again, I want to welcome all of you. We have Mr. 
Joe Steinmetz, senior vice president of--yes, Mr. Towns?
    Mr. Towns. I would like unanimous consent that other 
members who are not here also have an opportunity to put their 
statements in the record.
    Mr. Stearns. So ordered.
    [Additional statements submitted for the record follow:]
 Prepared Statement of Hon. John Shadegg, a Representative in Congress 
                       from the State of Arizona
    Thank you Mr. Chairman for holding this important hearing today. 
Let me first express my deepest sympathy to those in the financial 
services sector who lost employees in the terrible attack on the World 
Trade Center towers. Words cannot describe the tragedy and loss.
    I also want to applaud the tremendous effort of all who were 
involved in putting the telecommunications infrastructure back in place 
in order to get trading back up in such a short time after the 9/11 
tragedy.
    Mr. Chairman, today, half of all Americans own stocks, up from 36 
percent in the early 1990s. At the same time, however, I would guess 
that a very small fraction of that percentage understand Electronic 
Communications Networks and how they may change the future of 
investing.
    So, it is with anticipation Mr. Chairman, that I look forward to 
learning more today about the telecommunications infrastructure that 
supports ECNs and the regulatory structure that may or may not need to 
be changed to keep pace with technological innovation.
    I yield back.
                                 ______
                                 
 Prepared Statement of Hon. W.J. ``Billy'' Tauzin, Chairman, Committee 
                         on Energy and Commerce
    Chairman Stearns, thank you for holding this hearing this morning, 
a hearing that will help us understand how we might improve a vital 
aspect of electronic commerce.
    As the name of this Committee implies, commerce is the cornerstone 
of our jurisdiction. Since the September 11 tragedies, we have been 
spending quite a bit of time determining how various industries 
essential to commerce fared in the wake of the attacks. We have spent 
time examining how these industries are prepared to deal with future 
shocks to the system. As the familiar old cliche perfectly states: 
``Failing to prepare is preparing to fail.''
    There is ample evidence that, in the aftermath of the attacks, most 
industries' inability to operate as normal was only temporary. However, 
temporary interruptions still had severe results. We learned last month 
of losses suffered by the travel and tourism industry from the drop-off 
in air travel. Unfortunately, it has been a hard road back for that 
industry.
    The securities markets, too, were among the most severely affected 
by the attacks. The policy decision was made to close the markets for 
several days. While circumstances were extraordinary, it is 
disconcerting that the markets in this day and age were shut down as 
long as they were.
    As our economy continues to evolve into an electronic marketplace, 
the fundamental principle of commerce that we must protect is the 
ability to exchange information as efficiently and reliably as 
possible. Continuity of operations is part of this equation.
    Fortunately, with the technology and communication advancements of 
the past decade, electronic communications networks--ECNs--have filled 
that vital role and emerged as viable conduits to the securities 
markets. Many have made a niche in continuing trading in the hours 
after markets are traditionally closed. By meeting the demands of 
investors in creative and efficient ways, ECNs have sparked competition 
and innovation that has improved our marketplace and benefited 
consumers and the businesses that rely on access to capital.
    The purpose of the hearing today is to identify any barriers that 
may prevent the technology at our witnesses' disposal from being used 
more broadly to benefit of investors. As the world leader of free 
markets, the United States must make sure that regulation serves to 
make technology an asset to strong markets--not stand as an impediment.
    I thank the participants for coming today to share their views with 
the Committee and look forward to continuing to work with you as we 
discuss these matters of public policy.

    Mr. Stearns. [continuing] Instinet of New York City.
    We have Mr. Matthew Andresen, President and CEO of The 
Island ECN. We have Ms. Catherine Kinney, Group Executive Vice 
President of the New York Stock Exchange.
    And I understand you are going to be the President. 
Congratulations.
    Mr. Kim Bang, President of Bloomberg Tradebook, New York 
City; Mr. Kevin O'Hara, General Counsel, Archipelago, LLC; Mr. 
Steven Randich, Executive Vice President of Operations and 
Technology, Chief Information Officer of the Nasdaq; and last, 
Mr. Keith Jamaitis, Senior Vice President, Chief Operating 
Officer of NYFIX.
    So, with that, we are very pleased to have your opening 
statement. And we will start with you, Mr. Steinmetz.

STATEMENTS OF JOEL STEINMETZ, SENIOR VICE PRESIDENT, INSTINET; 
 MATTHEW ANDRESEN, PRESIDENT AND CHIEF EXECUTIVE OFFICER, THE 
     ISLAND ECN; CATHERINE R. KINNEY, GROUP EXECUTIVE VICE 
PRESIDENT, NEW YORK STOCK EXCHANGE, INC.; KIM BANG, PRESIDENT, 
   BLOOMBERG TRADEBOOK; KEVIN J.P. O'HARA, GENERAL COUNSEL, 
 ARCHIPELAGO, LLC; STEVEN J. RANDICH, EXECUTIVE VICE PRESIDENT 
 OF OPERATIONS AND TECHNOLOGY, CHIEF INFORMATION OFFICER, THE 
 NASDAQ STOCK MARKET, INC.; AND KEITH R. JAMAITIS, SENIOR VICE 
                   PRESIDENT, NYFIX MILLENIUM

    Mr. Steinmetz. Thank you.
    Mr. Chairman and members of the subcommittee, thank you for 
the opportunity to appear before you this morning to discuss 
the impact of the events of September 11 upon electronic 
communications networks. My name is Joel Steinmetz and I am 
Senior Vice President, responsible for equities at Instinet 
Corporation.
    Instinet is the world's largest and oldest electronic 
agency securities broker and has been providing investors with 
electronic trading solutions for more than 30 years. Instinet's 
clients--mutual funds, pension funds, insurance companies, 
corporations and market professionals--represent more than 90 
percent of U.S. Managed institutional stock funds. Instinet is 
a member of 20 exchanges in North America Europe and Asia, and 
our clients use our services to trade on more than 40 markets 
around the world. Last year, Instinet's customers used its 
systems to execute almost 88 million transactions globally of 
which almost 83 million transactions were in U.S. Equity 
securities.
    As an important part of its services to its clients, 
Instinet acts as an electronic communications network, or ECN. 
ECNs are electronic marketplaces that allow institutional, 
retail and professional participants to trade securities 
directly with one another, as well as with other securities 
firms. ECNs are operated by companies that are registered with 
the Securities and Exchange Commission as broker-dealers and 
that are members of the National Association of Securities 
Dealers.
    ECNs provide electronic agency brokerage services, meaning 
that they match customer orders as agents, not principals. In 
other words, an order is executed if a matching order is 
immediately available from another customer of the ECN. If no 
matching order is available, the order is displayed in the 
electronic order book and becomes eligible for execution by 
orders entered by other subscribers. ECNs typically are 
compensated by small commissions paid equally by the seller and 
buyer in each transaction, generally on a per-share basis.
    Another consequence of being an agency broker is that, 
unlike Nasdaq market-makers or exchange specialists, ECNs do 
not trade for their own accounts. In recent years, the SEC has 
established special additional regulatory requirements 
applicable to ECNs as well as to other alternative trading 
systems.
    ECNs function both through the operation of proprietary 
internal networks that connect their customers to the ECNs own 
systems and through external networks that connect them to 
other ECNs and other market participants. The proprietary 
systems are used to display the available order book, offers of 
sales or purchases at stated prices and volumes, as well as to 
provide connectivity to other systems that execute the trades 
once they match. ECNs may also offer other products and 
services through their networks, including research and 
analysis.
    ECNs provide important services to issuers and investors in 
the financial marketplace. First, ECNs allow their customers to 
trade with one another directly. Second, ECNs do not trade 
their own accounts. They are completely neutral with regard to 
their clients trading strategies. Together these factors allow 
ECNs to create efficiencies that can significantly improve 
their client's trading prices and reduce overall transaction 
costs.
    In addition, ECNs do not require the identity of the 
ultimate buyer or seller to be disclosed to the other market 
participant at any point in the trading process. This anonymity 
can reduce the potential market impact of large transactions 
and transactions by certain investors whose trading activity, 
if known, may be more likely to influence other market 
activity.
    Another benefit that ECNs provide is direct access to 
markets for all of their customers, which can increase the 
speed at which trades are executed and can level the playing 
field among market participants.
    In short, ECNs have been leaders of innovation in bringing 
technological advances and using those advances for the benefit 
of consumers. Among the advances we are now developing, as I 
will discuss shortly, is increased use of distributed systems, 
which allows for more robust trading systems and could help in 
the future to absorb shocks.
    Turning to the events of September 11, I would first like 
to take the opportunity on behalf of Instinet to extend my 
deepest sympathy to all who suffered and continue to suffer in 
the wake of that unspeakable tragedy. I would also like to 
express any admiration and thanks to the countless people whose 
courage, strength and determination have helped our country get 
through this difficult time.
    Instinet, too, was directly affected by the events of 
September 11. Tragically, we lost two Instinet colleagues who 
were attending a conference in the World Trade Center at the 
time of the attacks. Everyone in the Instinet community has 
felt this loss deeply.
    Fortunately, our other employees who worked at the World 
Trade Center were able to escape. Instinet had important 
facilities located in the World Trade Center that were 
destroyed by the attacks, thus Instinet's operations were 
disrupted but not solely due to the loss of our own facilities. 
Specifically, 1 of our 3 principal data centers, through which 
many of our customer communications were routed, were destroyed 
in the collapse. As a result, we lost connectivity with those 
customers whose sole access to our system was through the data 
center in the World Trade Center. Our clearing operations were 
also housed in the World Trade Center and were also destroyed.
    In addition, however, we were affected by the destruction 
of Verizon's West Street central office across from the Towers. 
In addition to the direct impact of the loss of Verizon's 
service to us, the Verizon outage also caused us to be 
disconnected from some of our customers on Verizon's network 
who otherwise connected, or could connect, to one of our two 
other principal data centers. These losses in combination 
resulted in our losing connectivity to about one-third of our 
customer base immediately after the attacks.
    Fortunately, however, due to the hard work of Verizon, 
government regulators and, above all, our employees, we were 
able to restore connectivity with most of our customers in 
remarkably short time. We did this through a variety of means.
    For example, in the days after the attacks, we worked to 
circumvent the damaged units and by utilizing alternative 
lines. Customers that previously connected to the World Trade 
Center data center were rerouted to or through our centers in 
New Jersey and Boston, and we made use of ISDN lines in some 
instances. Also, we accelerated a pilot project we already had 
in place to provide access through the Internet, which provided 
an alternative and quite effective means to restore connections 
for some customers where it would have taken longer to restore 
standard methods of communication.
    By using these alternative communication routes, we were 
able to restore connectivity to approximately 90 percent of our 
customers by the end of the week.
    It is important to note, however, that our ability to 
conduct trading itself was not disrupted. Our customers in 
Europe and Asia, for example, were able to resume trading the 
day after the attacks; and customers in the United States that 
had not lost connectivity to us were able to view price 
information on the system that day as well. The principal 
constraint on trading in the United States was the need for 
settlement services and for the interconnection with other 
market segments, in addition to restoration of connectivity to 
all of our customers.
    In the weeks that followed, we began to focus not only on 
rebuilding our damaged infrastructure, but also on improving on 
it going forward. For instance, we sought to identify and 
eliminate potential single points of failure that could, in the 
event they were impaired, result in a loss of connectivity or 
other functionality. Our efforts in this regard have proceeded 
rapidly and are already about 70 percent of the way there.
    In addition, we are creating a more resilient and robust 
network, one which we expect will be less subject to disruption 
in the event of future catastrophic events. We are achieving 
this by, among other things, increasing the number of available 
connections with our customers.
    The events of September 11 and their impact upon our 
business have taught us a number of important lessons. Even 
before September 11, we placed a high premium on redundant 
systems to permit continuous service at all times. The 
unprecedented damage caused on September 11 underscored the 
necessity of backup systems, redundant systems and contingency 
planning.
    Mr. Stearns. We will need you to sum up, if you could.
    Mr. Steinmetz. Such systems and backup plans must be 
thorough and reliable and capable of being implemented on short 
notice. In general, less centralized systems like the Internet 
are better able to absorb and respond to disruption and 
devastating events than are more centralized ones. The less 
centralized systems thereby minimize interruption to the many 
affected parties.
    Indeed, the attacks did not impair Internet communications 
at all. Had Instinet's system of Internet access already been 
fully operational, there likely would have been significantly 
less disruption to our customer connectivity. Moreover, a 
network-style market structure provides a better framework to 
encourage competition and innovation through the use of 
emerging technologies.
    This has been Congress' goal since the 1975 amendments to 
the Securities Exchange Act of 1934; and it is one Instinet 
strongly promotes. Thank you.
    [The prepared statement of Joel Steinmetz follows:]
Prepared Statement of Joel Steinmetz, Senior Vice President, Equities, 
                          Instinet Corporation
                          i. instinet and ecns
    Mr. Chairman and members of the Subcommittee, thank you for the 
opportunity to appear before you this morning to discuss the impact of 
the events of September 11 upon electronic communications networks. My 
name is Joel Steinmetz and I am Senior Vice President for Equities at 
Instinet Corporation.
    Instinet is the world's largest and oldest electronic agency 
securities broker, and has been providing investors with electronic 
trading solutions for more than 30 years. Instinet's clients--mutual 
funds, pension funds, insurance companies, corporations, and market 
professionals--represent more than 90% of U.S.-managed institutional 
stock funds. Instinet is a member of 20 exchanges in North America, 
Europe, and Asia and our clients use our services to trade in more than 
40 markets around the world. Last year, Instinet's customers used its 
systems to execute almost 87.6 million transactions globally, of which 
82.4 million transactions were in U.S. equity securities.
    As an important part of its services to clients, Instinet acts as 
an electronic communications network, or ``ECN.'' ECNs are electronic 
marketplaces that allow institutional, retail and professional market 
participants to trade securities directly with one another, as well as 
with other securities firms. ECNs are operated by companies that are 
registered with the Securities and Exchange Commission as ``broker-
dealers'' and that are members of the National Association of 
Securities Dealers. ECNs provide electronic agency brokerage services, 
meaning that they match customer orders as agents, not principals. In 
other words, an order is executed if a matching order is immediately 
available from another customer on the ECN. If no matching order is 
available, the order is displayed in the electronic order ``book'' and 
becomes eligible for execution by orders entered by other subscribers. 
ECNs typically are compensated by commissions paid by the seller and 
buyer in each transaction, generally on a per share basis. Another 
consequence of being an agency broker is that, unlike Nasdaq market 
makers or exchange specialists, ECNs do not trade for their own 
accounts. In recent years, the SEC has established special additional 
regulatory requirements applicable to ECNs, as well as to other 
``alternative trading systems.'' 1
---------------------------------------------------------------------------
    \1\ These include in particular the Order Handling Rules and 
Regulation ATS.
---------------------------------------------------------------------------
    ECNs function both through the operation of proprietary internal 
networks that connect their customers to the ECN's own systems and 
through external networks that connect them to other ECNs and other 
market participants. The proprietary systems are used to display the 
available order ``book''--offers of sales or purchases at stated prices 
and volumes that have not yet been matched--as well as to provide 
connectivity to other systems that execute the trades once they 
match.2 Instinet also offers other products and services 
through its network, including research, analytics, and ``smart 
routing'' of customers' orders to other execution venues.
---------------------------------------------------------------------------
    \2\ Pursuant to the SEC's Order Handling Rules, ECNs display their 
customers' best-priced buy and sell orders to Nasdaq and provide access 
to those orders through Nasdaq to NASD members who are not ECN 
subscribers. Non-subscribers accessing ECN orders may be charged a fee, 
but it is capped at 1.5 cents per share.
---------------------------------------------------------------------------
    ECNs provide important services to issuers and investors in the 
financial marketplace. First, ECNs allow their customers to trade with 
one another directly. Second, ECNs do not trade for their own 
accounts--they are completely neutral with regard to their clients' 
trading strategies. Together these factors allow ECNs to create 
efficiencies that can significantly improve their clients' trading 
prices and reduce overall transaction costs. In addition, ECNs do not 
require the identity of the ultimate buyer or seller to be disclosed to 
the other market participants at any point in the trading process. This 
anonymity can reduce the potential market impact of large transactions 
and transactions by certain investors whose trading activity, if known, 
may be more likely to influence other market activity. Another benefit 
that ECNs provide is direct access to markets for all of their 
customers, which can increase the speed at which trades are executed 
and can level the playing field among market participants.
    In short, ECNs have been leaders of innovation in bringing 
technological advances to securities trading and using those advances 
for the benefit of consumers. Among the advances we are now developing, 
as I will discuss shortly, is increased use of decentralized systems, 
which allows for more robust trading systems and could help in the 
future to absorb shocks.
       ii. the impact of the events of september 11 upon instinet
    Turning to the events of September 11, I would first like to take 
the opportunity, on behalf of Instinet, to extend my deepest sympathy 
to all who suffered, and continue to suffer, in the wake of that 
unspeakable tragedy. I would also like to express my admiration and 
thanks to the countless people whose courage, strength, and 
determination have helped our country get through this difficult time.
    Instinet, too, was directly affected by the events of September 11. 
Tragically, we lost two Instinet colleagues who were attending a 
conference in the World Trade Center at the time of the attacks. 
Everyone in the Instinet community has felt this loss deeply. 
Fortunately, our other employees who worked at the World Trade Center 
were able to escape.
    Instinet had important facilities located in the World Trade Center 
that were destroyed by the attacks. Thus, Instinet's operations were 
disrupted, but not solely due to the loss of our own facilities. 
Specifically, one of our three principal data centers, through which 
many of our customer communications were routed, was destroyed in the 
collapse. As a result, we lost connectivity with those customers whose 
sole access to our system was through the data center in the World 
Trade Center. Our clearing operations were also housed in the World 
Trade Center and were also destroyed. In addition, however, we were 
affected by the destruction of Verizon's West Street central office 
across from the towers. In addition to the direct impact of the loss of 
Verizon's service to us, the Verizon outage also caused us to be 
disconnected from some of our customers on Verizon's network who 
otherwise connected, or could connect, to one of our two other 
principal data centers. These losses in combination resulted in our 
losing connectivity to about one-third of our customer base immediately 
after the attacks.
    Fortunately, however, due to the hard work of Verizon, government 
regulators, and, above all, our employees, we were able to restore 
connectivity with most of our customers in a remarkably short time. We 
did this through a variety of means. For example, in the days after the 
attacks, we worked to circumvent the damaged units and to utilize 
alternative lines. Customers that previously connected to the World 
Trade Center data center were re-routed to or through our centers in 
New Jersey and Boston, and we made use of ISDN lines in some instances. 
Also, we accelerated a pilot project we already had in place to provide 
access through the Internet. This provided an alternative and quite 
effective means to restore connections for some customers where it 
would have taken longer to restore our standard methods for connection.
    By using these alternative communication routes, we were able to 
restore connectivity to approximately 90% of our high-volume customers 
by the end of September 13. Within a day of the equity markets 
reopening on September 17, we had restored connectivity to 75% of all 
our customers and were at the 95% level two days later. It is important 
to note, however, that our ability to conduct trading itself was not 
disrupted. Our customers in Europe and Asia, for example, were able to 
resume trading in non-U.S. securities the day after the attacks, and 
customers in the United States that had not lost connectivity to us 
were able to view price information on the system that day as well. The 
principal constraint on trading in the United States was the need for 
settlement services and for interconnection with other market segments, 
in addition to restoration of connectivity to all our customers.
    In the weeks that followed, we began to focus not only on 
rebuilding our damaged infrastructure, but also on improving it going 
forward. For instance, we sought to identify and eliminate potential 
single points of failure that could, in the event they were impaired, 
result in a loss of connectivity or other functionality. Our efforts in 
this regard have proceeded rapidly and are already about 70% of the way 
there in implementing these improvements. In addition, we are creating 
a more resilient and robust network, one which we expect will be less 
subject to disruption in the event of future catastrophic events. We 
are achieving this by, among other things, increasing the number of 
``backup'' or ``redundant'' connections with each of our customers.
            iii. lessons learned in the wake of september 11
    The events of September 11 and their impact upon our business have 
taught us a number of important lessons. Even before September 11, we 
placed a high premium on redundant systems to permit continuous service 
at all times. The unprecedented damage caused on September 11 
underscored the necessity of backup systems, redundant systems, and 
contingency planning. Such systems and backup plans must be thorough, 
reliable, and capable of being implemented upon short notice.
    The disruption caused by the attacks also demonstrated the value of 
``network'' or decentralized systems, such as the Internet, relative to 
older, more centralized ``mainframe''-type communications and trading 
systems. Indeed, the attacks did not impair Internet communications at 
all. Similarly, more decentralized financial markets like the currency 
markets and bond markets suffered disruption equal to or greater than 
the stock markets, but were able to resume trading more quickly. In 
general, less centralized systems like the Internet are better able to 
absorb and respond to disruption and devastating events than are more 
centralized ones. The less centralized systems thereby minimize 
interruption to the many affected parties. Moreover, a network-style 
structure provides a better framework to encourage competition and 
innovation through the use of emerging technologies.
    Instinet believes that ``network''-style communications systems 
hold continuing promise for the equities markets as well. Moving from 
the current system, with its mandatory linkages and centralized 
information monopoly, to a network-style structure would produce 
benefits for investors. Competition, spurred by advances in information 
technology, has substantially improved the transparency of the 
securities markets over the last several decades. Investors have a 
variety of options for the display and execution of their orders. 
Competition has also led market participants to develop voluntary 
linkages among themselves. These facilitate execution of investors' 
orders in other market centers while preserving the freedom of 
individual systems to innovate. A decentralized, ``open architecture'' 
structure would provide the greatest scope for competition and 
innovation to operate, benefiting investors through lower costs, better 
services, and more efficient trading. These have been Congress's goals 
since the 1975 amendments to the Securities Exchange Act of 1934, and 
they are goals Instinet strongly promotes.
    Thank you.

    Mr. Stearns. Thank you.
    Mr. Andresen.

                  STATEMENT OF MATTHEW ANDRESEN

    Mr. Andresen. Thank you, Chairman Stearns, Ranking Member 
Towns and the members of the subcommittee.
    I would like first to commend the chairman and the members 
of the subcommittee for holding these hearings concerning the 
tragic events of September 11 and specifically the role of 
electronic communications networks in our securities markets.
    I am Matthew Andresen. I am the Chief Executive Officer of 
Island ECN. Island is an electronic marketplace that enables 
market participants to display and match orders for stocks and 
other securities. Island's proprietary technology allows it to 
offer this low-cost, rapid and reliable order display and 
matching service to a network of approximately 700 broker-
dealers representing a diverse array of market participants.
    On an average day, Island will trade over 460 million 
shares and over 1 in every 5 trades on Nasdaq. Through November 
of this year, Island has traded over 82 billion shares worth 
$2.5 trillion. Indeed, recent analyst reports indicate that 
Island is now the largest ECN in the world today.
    Mr. Chairman, unquestionably the events of September 11 
have had a profound impact on our whole Nation, not just on the 
securities markets. Those in the New York financial community, 
however, have felt an additional obligation to prove to the 
world the strength and the resilience of America's financial 
markets.
    I am proud that despite the initial shock of the attacks 
and even the fear of further attacks, Island has rebounded 
quickly. From the employees who were on the roof that morning 
cleaning out air conditioning ducts while burning soot 
blackened the whole of Wall Street to a team of technical staff 
that literally worked around the clock to reestablish 
connectivity to our subscribers whose lines ran through Ground 
Zero, the Island staff rose to the challenge ensuring our 
market was ready to trade when the markets reopened.
    Now, however, we have an opportunity to look back and 
consider not only what went well but also what could have been 
done differently or better. Through such critical analysis, the 
industry can become stronger and send a clear signal of the 
commitment we have all made to building the world's most robust 
equity markets. My testimony has some specific recommendations 
based on our experience.
    While contingency planning can always improve our response 
to unforeseen events, perhaps the best plan that we can 
undertake is to foster competition between markets and enjoy 
the beneficial effects that produces. You know, if you fill up 
your tank at Texaco in the morning and the Texaco station goes 
belly up, you can always fill up at AMOCO across the street or 
Exxon down the block.
    So, too, if Island has a system problem, all of our 
customers take about a second to start shunting all their 
orders to other people at this table. That is a very painful 
process for me, but is great for the customer; and just like 
the mythical hydra, a many-headed market structure where people 
have multiple connections to multiple competing marketplaces is 
the best way to insert continuity for the investor.
    If we can all agree that strong competition between markets 
will ultimately provide us with the most efficient market 
model, the question becomes, what changes, if any, are 
necessary to ensure varied and vibrant competition between 
markets?
    In Island's view, we should eliminate any barriers that 
inhibit fair competition between electronic and traditional 
markets. Currently, there are two main market structure changes 
that must be immediately pursued to ensure such fair 
competition. First, ECNs must be permitted to freely 
disseminate their market data to investors without sacrificing 
those very qualities that make ECNs such compelling 
alternatives in traditional marketplaces. Second, ECNs must 
have alternatives to Nasdaq in which to operate.
    On the first point, Island's quotation data cannot be 
included in the consolidated tape mentioned earlier by the 
chairman and disseminated by market data vendors, because only 
markets that participate in the so-called intermarket trading 
system, or ITS, are permitted to have their quotation data 
disseminated in the consolidated tape. Unfortunately, Island 
cannot participate in the intermarket trading system because 
having such participation would undermine the very advantages 
of speed and certainty of execution upon which Island has built 
its business. I think this would put at risk the whole segment 
of trading and price discovery that have been created since 
Island began trading New York Stock Exchange, Nasdaq and AMEX-
listed stocks.
    I think the best way to conceptualize this ITS issue is to 
answer the following question: Would you take a $50 guaranteed 
seat to the World Series; or would you risk that for the off 
chance that you could get a $49 ticket, but not be sure that 
you could make other arrangements if you didn't get the ticket, 
or that you might even get the ticket the day after the game 
was played and end up not even going to the game. Speaking for 
myself, I will always take the guaranteed ticket and a chance 
to actually go to the game.
    Island has had tremendous success in the last year trading 
selected listed stocks. In fact, in the largest AMEX- or New 
York Stock Exchange-listed security, the QQQ or Nasdaq 100 
tracking stock, Island has now taken over 30 percent of the 
shares traded in the stock and has actually become the largest 
single marketplace. In fact, on these points, Nasdaq's Wick 
Simmons made these points in a December 4 letter to SEC 
Chairman Harvey Pitt.
    I quote, ``Because ITS orders require a minimum life of 60 
seconds, it would greatly frustrate those investors and market 
professionals who wish to immediately lock in an execution. We 
are concerned that such a result would drive liquidity from 
U.S. Markets, producing a net loss for our Nation's economy and 
for its investors.'' And I will submit that letter for the 
official record.
    The second point that I would like to make is that Nasdaq 
is the only market today that is not required to maintain 
strict time price priority through a so-called central limit 
order book on the exchange. The absence of a central limit 
order book makes Nasdaq the only place the ECNs can operate 
autonomously and efficiently.
    To that end, the Cincinnati Stock Exchange recently filed a 
rulemaking its central book and priority rules voluntary. In 
effect, Cincinnati filed a rule requesting to operate in the 
exact manner as Nasdaq, a market that competes with them in the 
same securities for the same customers. Island believes that 
quick approval of the Cincinnati Stock Exchange's filing will 
promote competition between markets strengthening our 
securities markets.
    In conclusion, Mr. Chairman, I appreciate the 
subcommittee's interest in the Island's perspective on the 
events of September 11 and their implications for the markets; 
and I hope that the members of the subcommittee agree that in 
the wake of these events, we should redouble our efforts to 
create the strongest, most efficient market structure possible. 
I hope we can work together in the future on implementing both 
of Island's recommendations for fostering competition and 
thereby strengthen our equity markets.
    [The prepared statement of Matthew Andresen follows:]
 Prepared Statement of Matthew Andresen, Chief Executive Officer, The 
                               Island ECN
    Chairman Stearns and Members of the Subcommittee: I commend the 
Chairman and the Members of the Sub-committee for holding these 
hearings concerning the tragic events of September 11th and the role of 
Electronic Communications Networks in our securities markets.
    I am Matthew Andresen, Chief Executive Officer of The Island ECN 
(``Island''). Island is an electronic marketplace that enables market 
professionals to display and match limit orders for stocks and other 
securities. Island's proprietary technology allows it to offer this low 
cost, rapid and reliable order display and matching service to a 
network of approximately 700 broker-dealers representing a diverse 
array of market participants. On an average day, Island will trade over 
460 million shares--approximately one in every 5 trades on Nasdaq. 
Through November, Island has traded over 81.9 billion shares worth 
almost $2.5 trillion during 2001. Indeed, recent analyst reports 
indicate that Island is now the largest ECN in the world today.
    Mr. Chairman, unquestionably, the events of September 11 had a 
profound impact on our Nation, not just our securities markets. Those 
of us in the New York financial community have felt an additional 
obligation to prove to the world the strength and resilience of 
America's stock markets. As members of New York City's downtown 
financial community, every Island employee joins with me in expressing 
our sadness for the events of that day and the loss of lives of 
innocent people, some of who were close to me. I am certain nobody will 
ever forget that day and how it changed our lives.
    I am proud that despite the initial shock and even the fear of 
further attacks, Island rebounded quickly. From the employees who were 
on the roof cleaning out air conditioning ducts while burning soot 
blackened the whole of Wall Street to the team of technical staff that 
literally worked around the clock to reestablish connectivity to our 
subscribers, the Island staff rose to the challenge, ensuring our 
market was ready to trade when the markets reopened. The efforts at 
Island were replicated throughout the industry. Thanks to all the hard 
work, the contingency planning, the leadership of the Securities and 
Exchange Commission, and the sheer determination of the entire 
industry, the markets re-opened without incident on September 17.
    Now more than three months later, we have an opportunity to look 
back and consider not only what went well, but what could have been 
done differently or better. Through such critical analysis, the 
industry can become stronger and send a clear signal of the commitment 
we have all made to building the world's most robust equity markets.
    I believe that the industry was generally as prepared as possible 
for the events of September 11. Though we have already discussed our 
recommendations with the Securities and Exchange Commission, I would 
like to take a moment to touch on a few observations based on Island's 
experience:

1) Back-up connectivity--I think the entire industry learned the 
        importance of maintaining connectivity not only to primary data 
        centers but also back-up sites. Prior to September 11, some 
        companies did not test or even maintain connectivity to 
        Island's back-up facility. In the subsequent months, nearly all 
        of our subscribers secured redundant connections to Island.
2) Contingency planning--The entire industry realized the importance of 
        maintaining contingency plans. I am proud of how Island was 
        able to re-establish its entire operation in our New Jersey 
        back-up site within a day.
3) Inter-market Coordination--The SEC did an excellent job in keeping 
        market participants informed. The SEC, however, may want to re-
        consider the composition of some of the emergency working 
        groups. For example, although Island is approximately the same 
        size as all the regional markets combined, Island was not asked 
        to directly participate in many post September 11 meetings. 
        Perhaps the SEC should consider basing future working groups on 
        relative market size rather than on regulatory designation.
    While contingency planning can always improve our response to 
unforeseen events, perhaps the best planning we can undertake is to 
foster competition between markets and the beneficial effects it 
produces. Though some commentators, such as the Wall Street Journal, 
wrote articles suggesting that centralized physical markets are out-
dated, Island does not believe that to be the case. While electronic 
markets may be less vulnerable to physical attacks, the extent to which 
centralized physical markets continue to attract orders demonstrates 
their continued necessity. Accordingly, Island would not support any 
initiative that would essentially dictate the structure of 
marketplaces. Instead, the future of the markets should be determined 
through competition. If all can agree that strong competition between 
markets will ultimately provide us with the most efficient market 
model, the question becomes ``what changes, if any, are necessary to 
ensure fair yet vibrant competition between markets.''
    In Island's view, we should eliminate any barriers that inhibit 
fair competition between electronic and traditional markets. Currently, 
there are two main market structure changes that must be immediately 
pursued to ensure such fair competition. First, ECNs must be permitted 
to freely disseminate their market data to investors without 
sacrificing the very qualities that make ECNs compelling alternatives 
to traditional markets. Second, since all markets are competing in the 
same securities for the same customers, all markets must be permitted 
to operate under the same ground rules in the same manner. Let me more 
fully explain each one of these recommendations.
    With respect to the first recommendation, many Sub-committee 
members are aware of the fact that while ECNs account for more than 50% 
of the transactions in Nasdaq listed securities, ECNs only account for 
approximately 5% of the transactions in listed securities. What 
accounts for this difference?
    With respect to Nasdaq listed securities, ECN market data is 
permitted to be included in the quotation data disseminated to 
investors through the multitude of market data vendors. For example, if 
Island has the highest bid price in Cisco, which it often does, any 
investor or broker looking at information on Bloomberg, Reuters, Yahoo! 
or any other vendor service will see the high bid on Island. This 
transparency increases the likelihood that the order represented on 
Island will be executed and serves the best interests of investors.
    In contrast, if Island has the highest bid or lowest offer price in 
the American Stock Exchange listed Nasdaq 100 tracking stock (known as 
``QQQ''), which Island has approximately 50% of the trading day, 
investors monitoring the same major vendor service will NOT see 
Island's best price. In fact, despite the fact that Island is regularly 
the largest market in the world for the QQQ, regularly matching more 
than 30% of the QQQ total shares traded on a given day, Island's market 
data is not included in the Consolidated Quote disseminated by vendor 
services. Island's exclusion from the Consolidated Quote prevents 
investors from receiving the best possible price.
    Ironically, the National Market System, that was created to ensure 
that investors have access to all relevant market data, now prevents 
Island's market data in QQQ, and all other exchange listed securities, 
from being disseminated to investors. Further, the National Market 
System that was created to promote competition between markets now 
serves to inhibit competition from all-electronic markets.
    Island's quotation data cannot be included in the Consolidated 
Quotation disseminated by market data vendors because only markets that 
participate in the Intermarket Trading System are permitted to have 
their quotation data disseminated in the official Consolidated Quote. 
Unfortunately, Island cannot participate in the Intermarket Trading 
System because such participation would undermine Island's advantages 
of speed and certainty of execution, destroying a whole segment of 
trading that has been created since Island began trading QQQ and 
preventing electronic markets from competing effectively in any 
exchange listed securities. The fact that Island has achieved this 
success with the severe handicap of not having its quotation data 
disseminated by market data vendors in the Consolidated Quote reflects 
the strong demand for a competitive alternative to traditional markets.
    When it was created more than 20 years ago, the Intermarket Trading 
System was designed to ensure that investors received the best price 
irrespective of what market received the investor's order. The 
Intermarket Trading System, however, never contemplated that all-
electronic agency markets would someday exist where users would demand 
responses within milliseconds of placing an order. Specifically, an 
Island subscriber utilizing the latest technology to implement a 
trading strategy that depends on millisecond responses should not be 
forced to send an order to a market that can respond up to 60 seconds 
later. Further, many market participants have reasonably concluded that 
the opportunity cost associated with waiting 60 seconds for the mere 
possibility of an execution exceeds the value of receiving an execution 
at a better price. If forced to always send the order to the best-
advertised price, this new liquidity would vanish or go overseas, 
harming the competitive position of our Nation's markets. Nasdaq CEO 
Wick Simmons made these same points in a December 4 letter to SEC 
Chairman Harvey Pitt. ``Because ITS orders require a minimum life of 60 
seconds it would greatly frustrate those investors and market 
professionals who wish to immediately lock in an execution. We are 
concerned that such a result would drive liquidity from U.S. markets, 
producing a loss for the nation's economy and its investors.''
    A way to conceptualize the issue raised by the Intermarket Trading 
System is through the following question: ``Would you take a guaranteed 
ticket to the World Series for $50 or take a chance on getting a ticket 
for $49 but not find out until it was too late to make other 
arrangements?'' Speaking for myself, I would take the guaranteed 
ticket. Similarly, market participants should not be precluded by the 
rules governing the Intermarket Trading System from making the same 
choice when trading securities. Indeed, market participants trading 
Nasdaq listed securities are not required to always try to interact 
with the best-advertised price and Island is unaware of any widespread 
investor harm. Why, then, do we continue with a structure that we know 
prevents competition from electronic markets in exchange listed 
securities?
    Island's second recommendation for promoting competition involves 
ensuring that all markets are able to compete on a level playing field. 
Currently, the Nasdaq market controls almost 100 percent of all 
transactions in securities listed on Nasdaq. Nasdaq is also the second 
largest market for exchange-listed securities. A key component of 
Nasdaq's monopoly in Nasdaq securities and success in listed securities 
is its unique regulatory structure that provides a regulatory advantage 
over other markets.
    Specifically, Nasdaq is the only market that is not required to 
maintain strict price time priority through a central limit order book. 
The absence of a central limit order book makes Nasdaq the only place 
that ECNs can operate autonomously and efficiently. Nasdaq's monopoly 
on this type of market structure, however, restricts competition 
between markets. For example, no market can effectively compete with 
Nasdaq for hosting ECN trading unless they are permitted to change 
their rules regarding a central book and operate to match the rules of 
Nasdaq. To that end, the Cincinnati Stock Exchange recently filed a 
rule making its central book and priority rules voluntary. In effect, 
Cincinnati filed a rule requesting to operate in the same manner as 
Nasdaq, a market that competes with them in the same securities for the 
same customers.
    Island believes that quick approval of the Cincinnati Stock 
Exchange's filing will promote competition between markets, 
strengthening our securities markets. Certainly, no market can continue 
to be permitted to use a regulatory inequity to maintain a monopoly 
over certain segments of market participants. I would hope that in the 
name of fostering fair competition that members of this Sub-committee 
would support Cincinnati's filing and urge expeditious review by the 
SEC.
                               conclusion
    In conclusion, Mr. Chairman, I appreciate the Subcommittee's 
interest in the Island's perspective on the events of September 11 and 
their implications for the market. I hope members of the Sub-committee 
agree that in the wake of these events we should redouble our efforts 
to create the strongest, most efficient market structure possible. This 
is done by ensuring fair and vibrant competition between markets, 
particularly competition between traditional markets and newer all-
electronic markets such as ECNs. I hope that we can work together in 
the future on implementing both of Island's recommendations for 
fostering competition, thereby strengthening our nation's equity 
markets.

    Mr. Stearns. We thank the gentleman.
    Ms. Kinney.

                STATEMENT OF CATHERINE R. KINNEY

    Ms. Kinney. Good morning, Chairman Stearns, Congressman 
Towns and members of the subcommittee. My name is Catherine 
Kinney, and I am the Group Executive Vice President at the New 
York Stock Exchange. I, and our Chairman Richard Grasso, as 
well would like to thank you all for the opportunity to testify 
this morning on the industry's recovery following the attacks 
of September 11 and also the lessons that we have learned for 
electronic communications networks.
    I wanted to cover a couple of specific areas this morning: 
First, as I said, thank you so much for having us here this 
morning and certainly to express the Exchange's sympathies for 
all who were involved in the attacks following September 11 and 
on September 11.
    I also wanted to talk a little bit this morning about re-
creating the environment, because I think some of the members 
of your committee started to do that this morning.
    The devastation in downtown New York was enormous. The 
facilities of many of our broker-dealers, the major firms who 
supply order flow to the Exchange and who connect with many of 
the customers, representing both individuals and individuals 
themselves, were completely destroyed or rendered 
uninhabitable; and many of those firms had to relocate to New 
Jersey or other locations that had already been preestablished 
by those firms.
    I think you all know and certainly have jurisdiction over 
telecommunications, so I know that you are very aware of 
Verizon's circumstances as well as Con Edison's circumstances. 
These were unprecedented for them. I think in our written 
testimony you will see we outlined that. But Verizon's central 
switching station was very heavily damaged, and actually they 
had no access to that building until September 14.
    Con Edison lost 5 of its 7 feeder cables, also 
unprecedented. And those of you who have visited downtown 
Manhattan recently know that they had to run those cables 
through the streets and then cover them with wood and now we 
have nice bumps that you have to crawl over getting from street 
to street. But these are high voltage cables that obviously 
made our life easier and certainly gave us the opportunity to 
reopen our markets successfully on the morning of September 17.
    But with the devastation and the infrastructure such as it 
was and the heroic effort of so many to reestablish the 
markets, I think it is very important to focus on what really 
happened following September 11.
    Certainly the New York Stock Exchange's facilities were 
unaffected. I think there have been numerous reports and 
articles written that we didn't have power, we didn't have lots 
of things. The New York Stock Exchange facilities were 
unaffected, as well as two data sites unaffected. So if it were 
simply a matter of the New York Stock Exchange showing up to 
trade, that would not have been a problem for the Exchange. But 
the problem really was, as you will hear today and have already 
heard, our modern market model depends on connectivity; and 
that is not just connectivity to the market centers, but it is 
the connectivity to the customers and the member firms.
    We described, and have described, our situation as a hub-
and-spoke model, the Exchange being the hub and the spokes 
being the firms and their customers. As I said, if it were the 
matter of the hub only, I think most of the people here could 
have assembled something to trade. But it really was about a 
much larger population in the financial services 
infrastructure, which included the member firms.
    Those member firms supply order flow to us, and the order 
flow is the lifeblood. It is the interaction of the buyers and 
the sellers each day which make the markets in our respective 
environments. But all of that order flow and getting that order 
flow to these respective models depends on connectivity. 
Without that, we are simply a hub with no spokes. The 
interruption of these connections meant that the buyers and 
sellers couldn't meet, whether it was on the New York Stock 
Exchange or any of these decentralized models or in cyberspace.
    And really the debate, in our view, should not be about 
these central hubs, but rather about the issue of connectivity, 
about what we need to do with respect to restoring that 
connectivity and ensuring that in the future all of the 
connectivity and the alternatives and contingencies are well 
planned for.
    I think that the two issues and two questions that faced 
all of us, and certainly those that participated in the variety 
of meetings that occurred following September 11 as we debated 
when to restart the markets, the two very important questions 
were the provision of liquidity and could we produce a fair and 
orderly pricing mechanism and pricing model that investors 
could rely on. And in doing that and in providing that 
liquidity, the two questions we asked, is it possible to engage 
in reliable price discovery if a significant source of order 
flow is cutoff, and is it fair to open those markets if a 
significant amount, or number of the buyers and sellers cannot 
reach the marketplace? So it is with those two questions that 
we began to look at restarting the markets following September 
11.
    As you know, meetings were conducted for 2 days by the SEC, 
or among the SEC, the Treasury, the Fed, the New York Stock 
Exchange, NASDAQ and all major market participants as well as 
the utilities. Clearly, the marketplaces and the member firms 
had issues in terms of this connectivity, but I can certainly 
say that in telecommunications, both Verizon and Con Ed played 
a major issue in terms of our ability to restart those markets, 
since they were not fully operational until at least Friday.
    I think then, at the Thursday meeting following September 
11, all of the participants were very concerned about a false 
start. I think it was said here this morning that everybody was 
very concerned about having orderly, reliable pricing and a 
market that would not start and fail again. I think that would 
have been something that both the American people and the 
financial services markets could not have withstood.
    There was--we felt an opportunity both on Friday and over 
the weekend to continue to test the connectivity which was 
being restored. If you can imagine the number of firms 
relocating, having to repath, even as was described for 
Instinet here, repathing all of their connectivity to their 
customers as well as to the markets, all of that had to be 
retested and restarted. And the time that it took gave us that 
opportunity, the weekend was used to test the connectivity.
    I think the results on Monday, September 17, spoke for 
themselves about the successful decisions that were made, that 
the work that went on for the days that followed September 11 
was really the right work, and the focus was very apparent in 
the success of September 17. We had a single record volume day 
of 2.3 billion shares. We had a record week, trading 10 billion 
shares. I don't think any of us who were at our respective 
sites on Wednesday, Thursday or Friday would have concluded or 
would have even thought we could have had that kind of volume.
    Mr. Stearns. Ms. Kinney, I will just have you sum up.
    Ms. Kinney. I think if we focus on lessons learned, every 
business is located somewhere. All of the trading platforms 
that will speak this morning are reliant on some physical 
plants but, as well, a very significant portion of us are 
reliant on our data processing equipment. We will have to 
continue to make significant investments to ensure that we have 
both the connectivity and reliable sites within a 24-hour basis 
in order to continue to trade. Thank you.
    [The prepared statement of Catherine R. Kinney follows:]
    Prepared Statement of Catherine R. Kinney, Group Executive Vice 
                President, New York Stock Exchange, Inc.
    Good morning Chairman Stearns, Congressman Towns, and members of 
the Subcommittee. My name is Catherine Kinney, and I am a Group 
Executive Vice President of the New York Stock Exchange (``NYSE''). I 
would like to thank the Committee for the opportunity to testify this 
morning on behalf of the NYSE, and our Chairman, Richard A. Grasso, on 
the industry's recovery from the attacks of September 11, and on the 
lessons from our experience for electronic communications networks 
(``ECN's'').
    Mr. Chairman as you know, the September 11th attacks devastated 
downtown New York City. Everyone in our industry lost a family member, 
a friend or a cherished coworker, and our thoughts and prayers remain 
with them.
    The destruction of the World Trade Center complex resulted in 
tremendous collateral damage to the infrastructure of the entire area. 
Adjacent office buildings were rendered uninhabitable. Electricity, 
water and telephone service to much of the area was destroyed or 
disrupted. Verizon's central switching station was heavily damaged, and 
rendered inaccessible until the following Friday evening.
    That the national securities markets were able to operate again 
just four business days later--at record volumes and without any 
systemic problems--is a tribute to an extraordinary partnership among 
the securities industry, the federal and local authorities, and the New 
York utilities. When the markets reopened, it was on an inclusive 
basis; every customer who wanted trade could access the market. The 
market did experience a 10% decline, but this adjustment was consistent 
with the European markets in the aftermath of the attacks. But the 
trading was fair and orderly, even in the face of record volume. During 
that first week of resumed trading, as the NYSE set new records for one 
day volume (over 2.3 billion shares on Monday September 17th) and first 
hour volume (660 million shares on Friday, September 21st), our market 
operated in a fair and orderly manner.
    Mr. Chairman, order flow creates price discovery, and in the modern 
marketplace, order flow is dependent on connectivity. I will discuss 
these two factors in some detail, and then close with a brief mention 
description of the lessons we learned from the attacks.
         ``connectivity'', order flow and the financial markets
    Thankfully, NYSE people, facilities (including its our two remote 
data-processing sites), heavy infrastructure, networks, and trading 
systems and--thanks to diverse routing--most of our voice lines, were 
unaffected. So we had no need to move to an alternative site. Indeed, 
if we could operate our business solely by convening 3000 people on our 
trading floor, trading could have resumed immediately.
    But today's markets, whether national exchanges, decentralized 
dealer markets, ECN's, or other alternative trading systems, depend on 
``connectivity'', i.e., continuous access to the telecommunication 
systems that simultaneously link all market participants and provide 
the conduit for orders to interact and create markets. We live in an 
electronic age that permits participants from around the world to 
access, enhance, and benefit from, the unrivaled liquidity and order 
competition that takes place on the floor of the New York Stock 
Exchange.
    Mr. Chairman, telecommunications connectivity, whether it be data 
or voice communication, is the lifeblood of our industry.
    The NYSE, and our member firms which introduce the orders of some 
85 million U.S. investors and millions of international investors, are 
linked through a complex, global communications and data delivery 
network. Through It is this electronic network, they place more than 
90% of the orders that the NYSE executes, representing over 50% of our 
volume. The NYSE owns and operates fully redundant networks with no 
dependence on a third-party carrier, and is thus better positioned than 
others.
    The hub (e.g. NYSE) and spokes (broker-dealers) of our securities 
markets represent a classic example of the ``network effect'' where 
connectivity is critical. Markets of all types deploy data networks to 
connect the broker-dealers transmitting orders to the markets. The 
broker-dealers, in turn, are dependent on networks for communications 
to their customers.
    It is as simple as this: it takes the interaction of buyers and 
sellers to make markets. If, as on September 11th, something interrupts 
the connections of the broker-dealers to their customers and to the 
markets' networks, as occurred on September 11, the orders of buyers 
and sellers cannot meet--on the NYSE, on the trading floors of Nasdaq 
market-makers, or in cyberspace.
    Although the market centers, (except for the American Stock 
Exchange) were intact, we soon knew that the industry had suffered a 
massive loss of connectivity. We and our government and industry 
partners understood that this loss of connectivity posed two questions 
that we had to answer in deciding when to reopen the markets.
    First, from the perspective of the U.S. capital markets, and 
indeed, of the world, we asked, ``Is it possible to engage in reliable 
price discovery if significant sources of order flow are cut off?'' 
Second, from the perspective of those buyers and sellers who, on 
Wednesday, September 12, could not reach their brokers and the markets, 
we asked, ``Is it fair to open the markets when a significant number of 
buyers and sellers are cut off?''
    As you know, we answered both questions, ``No.''
                         restarting the markets
    The events of September 11th devastated the infrastructure of 
downtown Manhattan. Many firms had to relocate. Those whose physical 
plants were unaffected were deprived of the comprehensive network of 
communications, and the flow of information, that permits informed 
decisions, the placing of trades and the creation of deep pools of 
liquidity.
    Nevertheless, four business days later, the equity markets were 
fully operational at record volumes and fair prices. Allow me to 
present a brief chronology of the events that made this possible.
    During the six days following the attack, the NYSE, the other 
markets and our member firms, along with the city, state, and federal 
officials, Con Edison, Verizon and our central technology provider, the 
Securities Industry Automation Corporation (SIAC), worked continuously 
to restore and test the telecommunications infrastructure that ensures 
the connectivity of market participants. The task of recreating and 
rerouting downtown New York's telecommunications infrastructure, and 
ensuring that industry participants and end-users could access our data 
systems, was daunting. Many firms were forced to relocate. 
Communications routing systems had to be redirected or changed 
completely. Our staff assisted in this massive rerouting effort, 
testing every newly fashioned linkage. Virtually every aspect of that 
interconnected network--markets to firms and firms to customers, from 
the introduction of a trade to comparison and settlement--was verified.
    Against the backdrop of the enormous task of relocating, rewiring 
and rerouting, on Wednesday, September 12, representatives of the SEC, 
Treasury and the Federal Reserve System, as well as of the three 
principal equities markets, met with the senior management of the major 
financial institutions. It was clear to all participants at that 
Wednesday's meeting that the physical devastation in downtown New York 
City precluded opening the next day.
    It is hard to describe the extent of the damage to downtown New 
York's infrastructure. Verizon's switching station had been flooded, 
and was to remain completely inaccessible until Friday night. Five of 
Con Edison's seven feeder cables that run the downtown power grid were 
destroyed. Con Edison was forced to recreate this grid above ground, 
and run 135,000 volt cables down the street. Even those firms that had 
not suffered physical damage had no long-distance service, so they 
could not reach their customers.
    At this Wednesday meeting, we agreed to reconvene in 24 hours to 
review the situation with a clearer understanding of when connectivity 
could be reestablished with the broker-dealer community and with 
customers. The decision to resume trading on Monday was made during a 
Thursday, September 13th, meeting of essentially the same group. We all 
knew that opening the equities markets without assuring connectivity 
could result in illiquid markets if buyers, sellers and their brokers 
could not access the market centers. We concluded that the resulting 
lack of liquidity would produce unprecedented volatility and suspect 
prices, leading to a crisis in investor confidence. We further 
determined that a premature or false start would do greater damage than 
delaying the opening of our markets until the next business day.
    So we determined it was prudent to resume trading on Monday, 
September 17th. This gave the utilities a chance to restore services to 
broker-dealers and the 85 million American investors they serve. It 
permitted our member firms to complete their reconnection of data and 
voice communications to their customers and to us, and for us to test 
to ensure they had succeeded in reconnecting. The best evidence of our 
success in this impressive collective effort was the seamless 
resumption of trading on Monday, September 17--the most active day in 
our history. The NYSE handled a record 2.3 billion shares, twice our 
average volume. Our market was liquid. Every system worked. Every buyer 
and every seller had a way to reach our auction. No one was left out.
    Indeed, thanks to the ubiquity of our fiber optics network, we even 
managed to establish the American Stock Exchange's equities market on 
our floor.
                            lessons learned
    What lessons have we taken from meeting this extraordinary 
challenge? What are we doing to be even better prepared in the future?
    Planning for contingencies that would have seemed farfetched a year 
ago now seems prudent. As an initial response, we have made the 
investments necessary to make ready on shorter notice a fully equipped 
alternative-trading floor. This alternative facility could be 
operational within 24 hours if any future attack rendered our trading 
floor unusable.
    Our constituent board of directors--CEO's of member firms, issuers 
and institutional investors, as well as leaders drawn from the public 
sector--has met twice since September 11. Each meeting has included a 
discussion of the nature of the threats that September 11, made so 
apparent and of how we should respond. My colleagues and I are engaged 
in a contingency planning process that looks beyond our current 
alternative floor, and takes into account the opportunity presented by 
our planned new trading facility across Broad Street, as well as by 
other possible sites.
    Mr. Chairman, let me close by saying that, ``Every business is 
located somewhere.'' Every market center, be it a floor-based exchange, 
a decentralized dealer market or an ECN, relies on physical locations 
for personnel and data processing equipment.
    Again, I want to thank you, Mr. Chairman, for the opportunity to 
appear before you today.

    Mr. Stearns. I thank you.
    Just to remind the panel of witnesses, generally the 
opening statements are about 5 minutes. We are allowing you to 
go over 5 minutes, but certainly want to keep it below 10 
minutes. So we would appreciate it as close to 5--that would be 
very helpful.
    Mr. Bang.

                      STATEMENT OF KIM BANG

    Mr. Bang. Mr. Chairman and members of the subcommittee, my 
name is Kim Bang.
    Mr. Stearns. Mr. Bang, just move that a little closer to 
your mouth.
    Mr. Bang. I am President of Bloomberg Tradebook. I am 
pleased to testify on behalf of Bloomberg Tradebook regarding 
ECNs in the wake of September 11.
    Bloomberg Tradebook is an electronic agency broker. We 
count among our clients many of the Nation's largest 
institutional investors, who themselves represents millions of 
individual investors. Bloomberg Tradebook specializes in 
providing innovative tools that enable our clients to step 
unobtrusively into the electronic crowd of the national market 
system to find liquidity for themselves and, in the process 
thereby, also providing liquidity for others. Our clients have 
rewarded our creativity and our service by entrusting us with 
their business, allowing us to regularly execute 200 million 
shares a day.
    The reason ECNs now account for more than 46 percent of the 
reported share volume on Nasdaq is simple. ECNs are a market 
solution to investor demand. By providing a combination of 
neutrality, transparency, fairness and innovation, investors 
are now empowered with the direct access to liquidity in the 
national market system.
    By definition, we are agency brokers. We take no position 
for our own accounts, and thus, we are neutral in the 
marketplace. We exist to service our customers' execution needs 
who want to buy and sell shares.
    Over the past year, we estimate that we have saved our 
clients in excess of $1 billion dollars in transactional costs 
alone. Like market-makers, we maintain an electronic book of 
our customers' bids and offers. But unlike market-makers, we 
publish our entire book of quoted prices electronically for our 
customers to see. Indeed, unlike some of the ECN competitors, 
we employ an open architectural platform designed to route our 
customer orders to the best available price even when that 
means the price does not exist in the Bloomberg Tradebook 
system.
    Without a government-sponsored monopoly to rely on, the 
market commands that ECNs compete and innovate. For example, at 
our inception in 1996, Bloomberg Tradebook instituted the 
concept of a reserve. A reserve is a process that controls the 
release of an order into the marketplace, enabling clients to 
trade large orders more efficiently. Like all innovations, the 
reserve gave us a leg up initially on our competitors, but only 
for a brief period of time. It has since become an industry 
standard, and today nobody would introduce a system without it. 
Any edge that we gain is a momentary one, and we are forced to 
continue to innovate, and we have done so continuously over the 
past 5 years.
    When the Senate Banking Committee held a hearing in the 
last Congress, exploring the role of ECNs, Frank Zarb, then 
chairman of the National Association of Security Dealers, 
stated that, ``I guess I sum up the answer as to why we have 
ECNs as the fact that the national stock exchanges, and I am 
not only talking about ours, but the exchanges around the world 
haven't been keeping pace with the needs of the market.''
    Mr. Chairman, it is worth pondering why the stock exchanges 
didn't keep pace with investor demands, as Mr. Zarb stated. We 
would submit that a government-sponsored monopoly ultimately 
cannot provide those innovative ideas and customer solutions of 
the best ECNs precisely because they are government-sponsored 
monopolies.
    At present, most SROs are nonprofit organizations. The 
Nasdaq, however--the NASD, however, has largely completed its 
privatization of Nasdaq, and it may well be that other 
privatizations are going to follow. For-profit exchanges will 
have powerful incentives to leverage their existing government-
sponsored advantages to gain an unfair advantage in current 
competitive markets. They will have incentive to keep pace with 
market innovators not by moving forward themselves, but by 
slowing down other market participants that tend to centralize 
order flow.
    As to the specific tragedy of September 11, the financial 
service industry was Ground Zero of the attack on America. All 
of us in this industry have suffered enormous losses. At 
Bloomberg, the steps we have taken include the immediate 
allocation of substantial sums of money to provide free office 
space and support for our clients, including phones, computers, 
Bloomberg terminals and other necessities needed, in fact, more 
than 1,200 displaced financial workers since the tragedy.
    Many of them have lost friends and colleagues, and we at 
Bloomberg, ourselves, have lost three people. Yet our clients 
and everyone involved inspire us with their commitments to get 
back to work and their display of the extraordinary strength in 
the human spirit.
    As a technological matter, Bloomberg could have traded on 
the afternoon of September 11. That statement does not, 
however, imply any criticism of the collective and difficult 
decision to close the markets during this unprecedented crisis. 
As to the long-term public policy lessons to be gleaned from 
this tragedy, I have observed there has been a debate over the 
past few years over whether public policy should favor a more 
decentralized market structure or whether public policy should 
encourage a more centralized market structure as often 
advocated by the exchanges. I believe, if there is anything 
approximating a level playing field, market forces will drive 
toward decentralization. Clearly, September 11 underscored the 
wisdom of moving in that direction.
    In conclusion, billions of transaction costs have been 
saved by ECNs in the Nasdaq marketplace. Investors in the New 
York Stock Exchange's listed market should be permitted an 
opportunity to enjoy the same benefits. As the exchanges that 
have traditionally functioned as public utilities become for-
profit entities, investors will suffer if the exchanges succeed 
in leveraging their existing government-sponsored monopolies 
into currently competitive arenas. We should opt instead for a 
continuation of tremendous progress that has been made over the 
past 5 years in the Nasdaq marketplace. We should attempt to 
allow similar competition and innovation to flourish in the 
listed market, thus preserving America's status as the world's 
premier capital market.
    Thank you.
    [The prepared statement of Kim Bang follows:]
   Prepared Statement of Kim Bang, President, Bloomberg Tradebook LLC
    Introduction. Mr. Chairman and Members of the Subcommittee. My name 
is Kim Bang, and I am pleased to testify on behalf of Bloomberg 
Tradebook regarding ECNs in the wake of September 11th.
    Bloomberg Tradebook is owned by Bloomberg L.P. and is located in 
New York City. Bloomberg L.P. provides multimedia, analytical and news 
services to more than 150,000 terminals used by 350,000 financial 
professionals in 100 countries worldwide. Bloomberg tracks more than 
135,000 equity securities in 85 countries, more than 50,000 companies 
trading on 82 exchanges and more than 406,000 corporate bonds. 
Bloomberg News is syndicated in over 350 newspapers, and on 550 radio 
and television stations worldwide. Bloomberg publishes seven magazines, 
as well as books on financial subjects for the investment professional 
and non-professional reader.
    Bloomberg Tradebook is an electronic agency broker serving 
institutions and other broker-dealers. We count among our clients many 
of the nation's largest institutional investors. Bloomberg Tradebook 
specializes in providing innovative tools that allow our clients to 
step unobtrusively into the electronic ``crowd'' of the new national 
market system to find liquidity for themselves and, in the process, 
provide it for others. Our clients have rewarded our creativity and our 
service by trusting us with their business, allowing us to regularly 
match in excess of 200 million shares a day.
    What are ECNs? Before analyzing the effects of September 11th on 
ECNs, we must first explore what ECNs are and how they came into 
existence. There has been an enormous growth in ECNs over the past five 
years. That growth has been made possible by the issuance in 1996 of 
the SEC's Order Handling Rules. These rules--aimed primarily at 
exchange specialists and Over-the-Counter market makers--were designed 
to promote market transparency.
    A few years ago, the SEC took a number of steps to reform the 
markets--starting with directing the reorganization of the governance 
structure of the NASD. On a limited number of critical committees, the 
NASD was directed to provide for significantly greater involvement by 
representatives of the public and NASD constituencies other than market 
makers. I am privileged to serve on one of the key committees cited in 
the order--the Quality of Markets Committee. The express purpose of the 
SEC in directing these changes was to alter the perspectives of the 
NASD and infuse the NASD with a greater sense of objectivity and 
impartiality.
    It is often remarked that sunlight is the best disinfectant, and, 
indeed, the increased transparency promoted by the SEC's Order Handling 
Rules and the subsequent integration of ECNs into the national 
quotation montage narrowed Nasdaq spreads by nearly 30% in a year. 
While the complete list of reforms ordered by the SEC to promote 
transparency is long and varied, all of these changes, including the 
promulgation of the Order Handling Rules, were animated by the same 
underlying principle--namely that the sunlight produces the most honest 
and efficient markets.
    ECNs--A Market Solution to a Market Problem. A regulatory regime 
that encourages transparency was a necessary, but not sufficient, 
precondition to the growth of ECNs. The reason ECNs account now for 
more than 46% of the reported share volume of Nasdaq is simple--ECNs 
are a market solution to a market problem.
    ECNs are distinguished by four characteristics--neutrality, 
transparency, fairness and innovation.
    Neutrality? By definition we are agency brokers and take no 
position for our own accounts. Thus we are neutral in the marketplace 
and exist only to serve our customers' need to buy or sell shares.
    Transparency? Like market makers, we maintain an electronic book of 
our customers' bids and offers. But unlike market makers we publish our 
entire book of quoted prices electronically for all our customers to 
see. Indeed, unlike some of our ECN competitors, we take advantage of 
this transparency to route our customers to the best available price, 
even if it is outside of Bloomberg Tradebook.
    Fairness? ECNs are required by SEC rules to respond immediately--
and I mean immediately--to orders in the order they are received, 
whether they come from our best customers or from our competitors. 
That's probably the highest standard of fairness in the industry.
    Innovation? Without a government-sponsored monopoly to rely on, the 
market demands that ECNs innovate. For example, at its inception in 
1996, Bloomberg Tradebook introduced the concept of ``Reserve'' to the 
U.S. equity markets. ``Reserve'' is a process that controls the release 
of orders into the market, enabling clients to trade large orders more 
efficiently. Like all innovations, the ``Reserve'' gave us a leg up on 
our competitors for a brief period of time. It has since become the 
industry standard. Today no one would introduce a system without it. 
Any edge we gain is a momentary one--and we are forced to continue to 
innovate. We have done so continuously in the past five years.
    Along with neutrality, transparency, fairness and innovation, add 
lots of enthusiasm and creativity from people passionately devoted to 
serving their customers and you have a picture of who we are and why we 
exist.
    When the Senate Banking Committee held a hearing in the last 
Congress exploring the role of ECNs, Frank Zarb, then-Chairman of the 
National Association of Securities Dealers, stated that ``. . . I guess 
I sum up the answer as to why we have ECNs as the fact that the 
national stock exchanges, and I'm not only talking about ours, but the 
exchanges around the world haven't been keeping pace with the needs of 
the market.''
    Mr. Zarb is an accomplished leader in business and public service. 
Investors are fortunate to have had the benefit of his leadership, but 
I respectfully submit that the reason ECNs exist is not only because of 
what national stock exchanges failed to do, but also because of what we 
innovating broker-dealers have done, in the heat of competition. Mr. 
Chairman, it's worth pondering why the stock exchanges didn't keep 
pace, as Mr. Zarb stated. We would submit that a government-sponsored 
monopoly ultimately cannot provide the innovative ideas and customer 
service of the best ECNs precisely because they are a government-
sponsored monopoly. To spur future innovation, I'd rather place my 
faith in the NASD's members--the marketplace of competing broker-
dealers.
    The Current Challenge. At present, most SROs are non-profit 
organizations. The NASD, however, has largely completed its 
privatization of Nasdaq and it may well be that other privatizations 
will follow. Under the cover of a non-transparent bureaucracy, non-
profit SROs have exploited the opportunity to subsidize their other 
costs (e.g. costs of market operation, market regulation, market 
surveillance, member regulation) through market information fees. For 
all SROs, the incentive will be strong to exploit this government-
sponsored monopoly over market data by charging excessive rates for 
market data and using those monopoly rents to subsidize their 
competitive businesses. Indeed, shareholders of these now for-profit 
entities will effectively demand that market data charges remain 
excessive.
    Along with its market data monopoly, Nasdaq will also have a 
powerful incentive to leverage its trade execution monopoly to the 
detriment of consumers, investors and the markets. Currently, there is 
no real alternative to Nasdaq's monopoly with respect to the execution 
of market-maker quotations/orders in securities traded via Nasdaq. 
Through a series of developments, starting with the inauguration of the 
Small Order Execution System (``SOES'') in the 1980's and progressing 
through the development of SuperSOES and SuperMontage, Nasdaq has 
evolved from a decentralized, quotation and telephone-based system into 
a screen-based, electronic communications network embodying an 
electronic limit order book.
    In theory, NASD members can bypass SuperSOES through private wire 
connections between a market maker and a customer or dealer. In 
reality, however, that means of avoiding SuperSOES is not on an equal 
competitive footing with the use of SuperSOES. Orders transmitted 
through SuperSOES impose obligations on the market maker to execute 
against its published quotation. Those obligations are not replicated 
by private wire connections.
    Only Nasdaq has the monopolistic power to execute transactions 
against market makers quotations. Individual market participants do not 
have the market power to replicate that obligation through private 
contractual arrangements or other private ordering.
    The same issue is raised by the recent approval by the Nasdaq Board 
of a pricing proposal that will charge excessive connectivity fees for 
routing trades outside of Nasdaq. This proposal was approved by the 
Nasdaq Board despite having been rejected by the Quality of Markets 
Committee by a 14 to 6 vote. If the best price for a stock exists 
outside of Nasdaq, consumers should be able to avail themselves of that 
price without the obstacle of a connectivity fee that bears no 
relationship to actual costs incurred in consummating the transaction.
    The NASD currently is putting together a proposal for a new 
Alternative Display Facility (``ADF''). The ADF is intended to provide 
a competitive alternative to the Nasdaq SuperMontage/SuperSOES 
facility. It remains to be seen, however, how effective an alternative 
the ADF will be and whether it will be adequately funded. As it is, 
Nasdaq has taken unto itself the enterprise value of its market system, 
which the NASD developed over 30 years. Nasdaq embodies both a 
quotation facility and an execution/clearance facility, which the ADF 
is not intended to provide. It may be that the ADF will nevertheless be 
a preferred venue, but that will eventuate only if it is allowed to 
compete on an equal footing with Nasdaq. Exclusionary and anti-
competitive elements in the SuperMontage/SuperSOES combination should 
be revised to provide that equal footing.
    Currently, there is no ``glue'' in the proposed ADF. In the absence 
of mandated intermarket connections between Nasdaq and the ADF, the ADF 
may become a ghost town.
    For-profit exchanges will have powerful incentives to leverage 
their existing government-sponsored monopolies to gain an unfair 
advantage in currently competitive markets. They'll have incentives to 
``keep pace'' with market innovators not by moving forward themselves, 
but by slowing down all market participants and centralizing order 
flow.
    If that occurs, consumers, investors and the markets themselves 
will be denied the benefits of competition. Everyone loses if 
exchanges--comfortable as government-sponsored monopolies--fail to 
innovate, leaving American markets vulnerable to offshore competitions.
    ECNs--Consumers and Investors Benefit. So who has benefited from 
the existence of ECNs? For one, small retail customers who, for the 
first time, have gained direct unfettered access to the liquidity of 
institutional order flow represented directly in the market. 
Institutional investors who, for the first time, are able to find 
liquidity for their orders by interacting directly with small order 
flow. All investors who have seen the speed and fairness of their 
executions improve, as ECNs have raised the standard for all broker-
dealers. Even traders not participating in ECNs benefit from our depth, 
liquidity and immediacy each time they hit an ECN bid or take an ECN 
offer.
    Who Hasn't Benefited from ECNs? Useful linkages have yet to be 
developed for the New York Stock Exchange listed market. As a result, 
investors in that market have yet to reap the full benefits of the 
competition provided by ECNs. While the SEC has allowed ECNs access to 
the Intermarket Trading System (ITS) through Nasdaq, this is not 
sufficient. ITS remains crippled both by its technological 
ineffectiveness and an unworkable governance structure that makes any 
movement nearly impossible. As stated above, the same issue will arise 
if there is not an effective linkage between Nasdaq and the proposed 
ADF, without which a viable third market in Nasdaq securities likely 
will be impossible.
    Government-sponsored market centers like the Nasdaq Stock Market 
and the New York Stock Exchange can either make ECN transparency 
available to the entire national market system or reduce transparency 
by seeking to block ECN display linkages. Clearly the NYSE has 
historically had no interest in encouraging linkages that would make 
ECNs players in the listed market.
    ECNs in the Wake of September 11th. The financial services industry 
was ground zero of the attack on America. All of us in this industry 
have suffered enormous loss. At Bloomberg, we have been privileged to 
provide free office space and support--phones, computers, Bloomberg 
terminals, and whatever else is needed--to more than 1,200 displaced 
financial workers since the tragedy. Many of them have lost friends and 
colleagues--as we at Bloomberg did. Yet they inspire us with their 
commitment to getting back to work and their display of the 
extraordinary strength of the human spirit. They convince us that, 
although the terrorists have inflicted profound losses, they have not 
diminished our resolve. That resolution, that spirit of cooperation and 
sacrifice has animated the incredible ongoing efforts by so many in 
both the public and private sectors to resurrect our securities 
markets.
    It is very difficult to think of September 11th in terms of its 
policy ramifications. It is clear, however, that all industries must go 
through the painful process of analyzing whether there are applicable 
lessons to be gleaned from this tragedy. We believe there are.
    While I've described how the Order Handling Rules and the market's 
demand for these services made the growth of ECNs in the Nasdaq market 
possible, the third critical component is, of course, the advent of 
modern telecommunications and computing technology. This technology has 
facilitated a volume and speed of trading that would have been 
unimaginable not so long ago.
    Technology makes possible a market structure that wouldn't have 
previously been possible. That has spawned a debate over the past few 
years over whether public policy should favor a more decentralized 
market structure, or whether public policy should encourage 
centralization as advocated often by the exchanges.
    This argument has manifested itself in a number of different ways. 
A few years ago, proponents of centralization urged support for a time 
priority Central Limit Order Book (CLOB) to deal with the alleged 
``problem'' of market fragmentation. The notion behind the CLOB was 
that, by centralizing orders in one place, a single ``black box'', 
maximum order interaction and perhaps better prices might be achieved.
    While the CLOB was ultimately rejected, the previously described 
interaction of SuperSOES and SuperMontage within Nasdaq represent the 
same effort to centralize. The recent Nasdaq pricing proposal, which 
would clearly discourage execution of trades outside of Nasdaq--even if 
the best price for a stock were being offered outside of Nasdaq--is 
simply the latest manifestation of this urge towards centralization. As 
exchanges contemplate for-profit futures, this urge to centralize order 
flow and execution will grow more pronounced. This emphasizes the need 
for a functional, fully competitive ADF as a means to mitigate the 
anti-competitive effects of Nasdaq's market scheme. It may well be that 
additional remedial measures will be needed. The continued vigilance of 
the Congress and the SEC will be essential as these developments 
unfold.
    As the growth of ECNs illustrates, modern technology allows the 
advantages of maximum order interaction without the downside of 
centralization. State-of-the-art telecommunications systems like the 
Internet don't rely on a single monopoly channel--rather they rely on 
networked webs of multiple competing and redundant linkages. Why should 
the securities markets work differently?
    In addition, centralized systems are resistant to change. The 
innovations that ECNs have brought to the market would not have 
occurred under more centralized systems.
    A centralized system also provides the significant downside of a 
central point of failure. Those of us who deal regularly with Nasdaq's 
SelectNet system know only too well how cumbersome and inefficient a 
centralized system can be. Like SelectNet, the ITS system is conceded 
even by the sympathetic to be technologically outmoded, with a 
bureaucracy that thwarts change. Why make those failed systems the 
model?
    Bloomberg Tradebook, as well as others in our industry, has 
expressed concerns for years about the problem of a single point of 
failure posed by a centralized system. The tragedy of September 11th 
underscores that concern.
    Conclusion. I thank the Committee for the opportunity to describe 
the regulatory structure, investor demand and the technological 
advances that have made possible the enormous growth of ECNs in the 
Nasdaq market. The neutrality, transparency, fairness and innovation we 
collectively bring to the Nasdaq market have dramatically increased 
efficiency on Wall Street, redounding to the benefit of Main Street and 
the economy. Investors in the New York Stock Exchange listed market 
should be permitted an opportunity to enjoy the same benefits.
    Historically not-for-profit exchanges are contemplating a for-
profit future. As market players that have traditionally functioned as 
public utilities become for-profit entities, their goals, incentives 
and agendas radically change as well. Consumers and investors will 
suffer if exchanges succeed in leveraging their existing government-
sponsored monopolies into currently competitive arenas. These efforts 
will increase centralization in a manner that is not only unnecessary 
given modern technology, but also economically ill advised and 
potentially perilous.

    Mr. Stearns. Thank you, Mr. Bang.
    Mr. O'Hara.

                 STATEMENT OF KEVIN J.P. O'HARA

    Mr. O'Hara. Good morning, Chairman Stearns, Congressman 
Towns and other distinguished members of the subcommittee. On 
behalf of Archipelago, I am pleased and honored to be with you 
this morning and thank the subcommittee for holding this 
hearing.
    Archipelago was co-founded by Jerry Putnam, our Chairman 
and CEO, and software developers MarrGwen and Stuart Townsend 
in late 1996. From January 20, 1997, the day Archipelago 
executed its first order as 1 of the 4 original ``qualified'' 
ECNs, its operating business has grown to average over 200 
million shares per day, or roughly 10 percent of Nasdaq's 
overall volume, and 25 million shares per day of NYSE- and 
AMEX-listed volume.
    In October of this year Archipelago was approved by the 
Securities and Exchange Commission to become the first fully 
open electronic national stock exchange. Through its business 
arrangement with the Pacific Stock Exchange, the Archipelago 
Exchange will launch early next year with its ``best 
execution'' business model at its core. The Archipelago 
Exchange, like its younger brother the Archipelago ECN, will 
route orders to superior prices if they exist outside the 
Archipelago system.
    Further, only 3 weeks ago Archipelago and REDIBook, the two 
fastest growing ECNs, announced their intention to combine 
businesses. This merger of equals brings together two deep 
pools of liquidity into one fully integrated and innovative 
trading platform. The combined owners of Archipelago and 
REDIBook represent diverse investors from all walks of life, 
including institutional and retail brokers as well as 
professional trading houses and established Wall Street firms.
    September 11 has compelled our Nation to fundamentally 
rethink risk--the risk of future attacks, the risk of providing 
global leadership and even the risk of an open society. In 
terms of our capital markets, the extreme concentration in 
lower Manhattan appears now to pose unsustainable geographic 
and economic risk. Indeed, the Wall Street Journal and the 
Washington Post both editorialize that the week-long trading 
hiatus from September 11 to September 17 was far too long, 
given our 21st century resources and wherewithal.
    How do we manage the glaring risk exposed by September 11, 
and what does the future portend for our capital markets? An 
educated guess envisions a network of multiple competitive 
market centers linked by robust linkages which compete for 
business on the basis of price, product and service. A system 
of linked competitors is identical to the Internet model 
designed to provide redundancy and avert a single point of 
failure. It was precisely this decentralized model that proved 
unconditionally successful as a means of communication on 
September 11.
    This notion is not new to the financial markets. In 1975, 
Congress laid out the road map for a national market system of 
informationally linked competing exchanges. The question, 
therefore, is not whether linkages exist or if electronic 
facilities such as ECNs and regional exchanges located outside 
lower Manhattan could have shouldered the burden of trading on 
September 12, 13 or 14. If called upon, we believe we could 
have answered the bell. Rather, the query is whether our 
industry is prepared to move to embrace a less centralized 
model and thereby eliminate the risk of shutting our markets 
down in the face of the unthinkable.
    In our quest to manage risk of the unthinkable, perhaps we 
can draw lessons from the thinkable. An overused criticism of 
alternative markets such as ECNs disputes that their 
efficiencies are only available when times are good and the 
market is going up but are nowhere to be found when markets are 
stressed or, in industry parlance, are ``cratering.'' The 
argument continues that only the anointed specialists or 
market-makers would be there to ``catch the falling knife'' by 
buying in the face of extreme selling.
    However, empirical evidence to date erodes the ``falling 
knife'' critique. This is evidenced by data reflected in the 
display chart off to your right there, Enron trading from 
November 28, 2001, which plots the price action of Enron, the 
beleaguered energy giant, on November 28, 2001.
    On that day, Standard & Poors announced a downgrade of 
Enron's debt to junk status, which sent the stock into another 
leg down in its free-fall. Minutes before the announcement, the 
New York Stock Exchange halted trading at 10:58 a.m. Due to a, 
quote, order imbalance. In other words, there were more sellers 
of Enron than buyers, and the ``knife'' was too sharp for the 
specialist to catch. Note that unlike a regulatory halt, which 
is marketwide, a halt for an order imbalance or operational 
failure does not impact the ability of other markets to trade.
    While the New York Stock Exchange specialist responsible 
for trading Enron shut down his post over the next half hour, 
ECNs and other alternative venues traded over 10 million shares 
of Enron as the stock went from $2.60 to $1.10. At 11:27 a.m., 
the New York Stock Exchange specialist resumed trading in Enron 
at prices discovered by these alternative markets.
    The upshot: No single entity, be it exchange, specialist or 
market-maker, can go it alone to catch a falling knife. 
Efficient price discovery is the product of the entire 
marketplace, including ECNs and alternative exchanges.
    Finally, before I conclude, I would be remiss in not 
commending Congress, the SEC, and public advocates for 
supporting the conversion of our equity markets to decimal 
pricing. In particular, the Commerce Committee was a critical 
catalyst for this positive change that, to date, has narrowed 
effective spreads in the most liquid stocks on Nasdaq and the 
New York Stock Exchange by an average of 50 percent and 15 
percent respectively. This fundamental change has directly led 
to enormous reductions in trading costs and, importantly, puts 
tens of millions of dollars back in the pockets of investors.
    Thank you for your steadfast perseverance.
    [The prepared statement of Kevin J.P. O'Hara follows:]
 Prepared Statement of Kevin J.P. O'Hara, General Counsel, Archipelago 
                            Holdings, L.L.C.
                            i. introduction
    Good morning Chairman Stearns, Congressman Towns and other 
distinguished members of the Subcommittee. On behalf of Archipelago 
Holdings, L.L.C. (``Archipelago''), I am pleased and honored to be with 
you this morning, and commend the Subcommittee for holding this hearing 
in the wake of the September 11 attacks.
    Archipelago was co-founded by Jerry Putnam, our Chairman and CEO, 
in late 1996, and software developers MarrGwen and Stuart Townsend. 
From January 20, 1997, the day Archipelago executed its first order as 
one of the four original ``qualified'' Electronic Communication 
Networks (``ECN''), its current operating business has grown to average 
over 200 million shares per day, or roughly 10% of Nasdaq's overall 
volume, and 25 million shares per day of NYSE- and Amex-listed volume. 
Today, Archipelago is the only ECN to reflect a quote in the National 
Market System for listed securities, such as AOL and IBM.
    In October of this year, after working side-by-side with the 
dedicated staff of the Securities and Exchange Commission (``SEC'' or 
``Commission''), Archipelago was approved by the Commission to become 
the first fully open electronic national stock exchange. Through its 
business arrangement with the Pacific Stock Exchange, who will serve as 
its regulator, the Archipelago Exchange will launch early next year 
with its ``best execution'' business model at its core. The Archipelago 
Exchange--like its younger brother the Archipelago ECN--will route 
orders to superior prices if they exist outside of the Archipelago 
system. The Archipelago Exchange will be fully integrated into the 
National Market System and will compete toe-to-toe with the NYSE, 
Nasdaq, and Amex.
    Further, only three weeks ago, Archipelago and REDIBook, the two 
fastest growing ECNs, announced their intention to combine businesses. 
This merger of equals brings together two deep pools of liquidity into 
one fully integrated and innovative trading platform. The combined 
owners of Archipelago and REDIBook represent diverse investors from all 
walks of life, including institutional and retail brokers as well as 
professional trading houses and established Wall Street firms. They 
include American Century Funds, Charles Schwab, Goldman Sachs, Credit 
Suisse First Boston, E*Trade, Fidelity Investments, BNP Cooper Neff, 
J.P. Morgan Chase, Lehman Brothers, Merrill Lynch, Fleet Securities, 
Pershing, Spear Leeds & Kellogg, TD Waterhouse and CNBC. Archipelago 
and REDIBook look forward to closing their transaction and are excited 
to getting down to work in delivering value to investors and competing 
effectively against traditional exchanges and marketplaces.
                ii. the unthinkable: september 11, 2001
    In preparing for this hearing, I had the opportunity to peruse the 
statements of many distinguished administration officials, regulators, 
and industry representatives who have testified before congressional 
committees. I will not attempt to match their perspective or ability to 
articulate the unthinkable events and repercussions of September 11, 
but will only highlight the recent words of SEC Chairman Harvey Pitt: 
``The events surrounding this meeting are both a cause for grieving and 
a cause for giving thanks.'' At Archipelago, we were blessed by good 
fortune unlike some of friends and neighbors in the industry. While 
shaken, none of our employees or their families were killed or injured 
in the attacks. Although headquartered in Chicago, Archipelago 
maintains its second largest office, complete with a backup data 
center, just a stone's throw from the NYSE. After assuring the safety 
of our New York employees, we began the process of restoring power to 
our New York office with round-the-clock help by the NYPD, the NYFD, 
ConEd, the Army Corps of Engineers, and FEMA. Like other marketplaces, 
the SEC asked us whether we would be ready to go in the immediate days 
following September 11. And, we responded, ``we are,'' though we 
deferred to the SEC, Congress and the Administration as to when we 
should begin trading again. On Monday, September 17, I am happy to 
report that Archipelago joined other securities markets in a fully 
successful reopening. I might add that we, like the rest of the 
financial industry, owe a particular debt of gratitude to, among 
others, Mayor Guliani, SEC Chairman Harvey Pitt, Congressman Fossella, 
Senator Schumer, Congressman Towns and the staff of the Nasdaq and NYSE 
for successfully reopening our markets on that Monday.
    Yet, despite the Herculean efforts and heroic actions, September 11 
has compelled our nation to fundamentally rethink ``risk'': the risk of 
future attacks, the risk of providing global leadership and, even, the 
risk of an open society. Once assessed, the rational response is how 
best to manage these risks. In terms of our capital markets, the 
extreme concentration in Lower Manhattan appears now to pose 
unsustainable geographic and economic risk. Indeed, The Wall Street 
Journal and Washington Post both editorialized that the weeklong hiatus 
was far too long for our markets to be closed, given our 21st century 
resources and wherewithal.
       iii. the risk management challenge: a competitive response
    In the face of adversity, our nation is nothing if not resourceful 
and flexible and innovative. We quickly learn from our mistakes, and 
our robust financial system is no exception.
    Archipelago has spent the last two years evolving from an ECN to a 
fully electronic national securities exchange. Others, such as many of 
my colleagues on the panel today, have blazed the same or similar 
trails. Though not yet complete, the aggregate effect of our 
innovations has been the metamorphosis from a floor-based, utility 
stock-trading model to an electronic, for-profit one.
    How do we manage the glaring risks exposed by September 11, and 
what does the future portend for our capital markets? An educated guess 
envisions a network of multiple competitive market centers, linked by 
robust linkages, which compete for business on the basis of price, 
product, and service. A feature of ``service'' is certainly 
accessibility: some markets will offer a floor-based solution, with the 
advantages of ``high touch'' order handling, while others will offer 
screen-based and anonymous access, perhaps as a means to mitigate 
geographic risk. A system of linked competitors is identical to the 
Internet model, originally designed to provide redundancy and avert a 
single point of failure. It was precisely this decentralized model that 
proved unconditionally successful as a means of communication on 
September 11.
    This notion is not new to financial markets. In 1975, for instance, 
Congress laid out the roadmap for a National Market System of 
informationally-linked competing exchanges, including the now-outdated 
Intermarket Trading System completed in 1980. The question, therefore, 
is not whether linkages exist, or if electronic facilities such as ECNs 
and regional exchanges located outside Lower Manhattan could have 
shouldered the burden of trading on September 12 or 13. If called upon, 
we believe we could have answered the bell. Rather, the proper query is 
whether our industry is prepared to move to embrace a less centralized 
model, and thereby eliminate the risk of shutting our markets down in 
the face of the unthinkable.
           iv. one of the ``thinkable'': enron on november 28
    In our quest to manage risk of the unthinkable, perhaps we can draw 
lessons from the thinkable. An overused criticism of alternative 
markets (e.g., ECNs, ATSs) disputes that their efficiencies are only 
available when times are good and the market is going up, but are no 
where to be found when markets are stressed or, in industry parlance, 
``cratering.'' The argument continues that only the anointed specialist 
or market makers would be there to ``catch the falling knife'' by 
buying in the face of extreme selling. This criticism speaks to the 
core hesitancy that some have with safeguarding our financial markets 
to those of us without 209-year operating histories. It goes something 
like this: ``Newcomers can't be trusted in stressful times.''
    However, empirical evidence to date clearly erodes the ``falling 
knife'' critique. And, with the growth of alternative markets and 
continued technological progress, the ``falling knife'' critique loses 
credibility with each passing day. This is evidenced by the data 
reflected in Exhibit A (a copy of which is attached hereto), which 
plots the price action of Enron, the beleaguered energy giant, on 
November 28, 2001.
    On that day, Standard & Poor's announced a downgrade of Enron's 
debt to junk status, which sent the stock into another leg down in its 
freefall. Minutes before the announcement, the NYSE halted trading at 
10:58 a.m. (EST) due to an ``order imbalance''--in other words, there 
were more sellers of Enron than buyers, and the ``knife'' was too sharp 
for the specialist to catch. Note that unlike a regulatory halt, which 
is market-wide, a halt for an ``order imbalance'' or operational 
failure doe not impact the ability of other markets to trade.
    Which is exactly what happened . . .
    While the NYSE specialist responsible for trading Enron shut down 
his post over the next half-hour, ECNs and other alternative venues 
traded over 10 million shares of Enron (NYSE Symbol: ENE), as the stock 
went from $2.60 to $1.10. At 11:27 a.m., the NYSE specialist resumed 
trading in Enron at prices discovered by these alternative markets.
    The upshot: no single entity--be it exchange, specialist, or market 
maker--can go it alone when asked to ``catch a falling knife.'' 
Efficient price discovery is the product of the entire marketplace. 
Provided that competing venues are informationally linked and 
accessible, efficient price discovery will occur at all available and 
open trading venues, including ECNs and alternative 
exchanges.1
---------------------------------------------------------------------------
    \1\ A similar example of the ``Enron'' phenomenon, as evidenced in 
Exhibit B, occurred at the NYSE on December 12, 2001, in the stock of 
Calpine Corporation.
---------------------------------------------------------------------------
                         v. pennies from heaven
    Finally, before concluding, I would be remiss in not commending 
Congress, the SEC, and public advocates for supporting the conversion 
of our equity markets to decimal pricing. In particular, the Commerce 
Committee was one of the critical catalysts for this positive change 
that, to date, has narrowed effective spreads in the most liquid stocks 
on Nasdaq and the NYSE by an average of 50% and 15%, respectively. This 
fundamental change has directly lead to enormous reductions in trading 
costs and put tens of millions of dollars back in the pockets of 
investors. Thank you for your steadfast perseverance.
                             vi. conclusion
    The dark events of September 11 continue to loom large in the 
collective consciousness of the world, our nation, and our financial 
industry. Since that day, many have called into question the wisdom of 
a Ptolemaic unitary model, in which our financial universe revolves 
around a single building at the corner of Wall and Broad Streets. The 
task before us is to manage risks, so that a single act of terrorism, 
however severe, does not endanger our system of financial markets.
    Alternative markets continue to evolve toward a goal of equal 
standing with their more storied and traditional brethren. As Congress 
found in its analysis of decimalization, and as traders in Enron found 
in the tempest's eye of the largest corporate failure in U.S. history, 
it is time to set aside parochial biases. The risk of single points of 
failure is much too great.
    I wish to thank the Subcommittee for permitting Archipelago to 
testify on these important matters. I would be pleased to answer your 
questions at the appropriate time.
[GRAPHIC] [TIFF OMITTED] T7119.001

[GRAPHIC] [TIFF OMITTED] T7119.002

    Mr. Stearns. Thank you, Mr. O'Hara.
    Mr. Randich.

                 STATEMENT OF STEVEN J. RANDICH

    Mr. Randich. Thank you, Mr. Chairman, members of the 
subcommittee for inviting me to testify today. I welcome the 
opportunity to discuss Nasdaq's response to the horrendous acts 
of September 11 and the role of ECNs in our market.
    I am Steve Randich, and I am responsible for the operations 
and technology of the Nasdaq stock market.
    The tragic events of September 11 compelled us immediately 
to begin a process of evaluating the extent of any damage to 
Nasdaq and our market participants and determining the 
necessary steps to reopen the market. In doing so, we were 
guided by several principals. First, we would do nothing that 
impeded the rescue effort. Second, we would closely coordinate 
all of our activities with the SEC. Third, we would open our 
market only when major market participants were fully prepared 
and preferably simultaneously with the other markets. Finally, 
we would be as open and transparent in reaching out to 
assisting our members and issuing companies in a crisis as we 
were in everyday operations.
    Because our primary backup technology centers are outside 
of Manhattan, our primary concern related to our ability to 
connect with the firms that are active in our marketplace and 
bring liquidity and order flow. It is critical to understand 
that disasters such as these are not averted by hardening any 
single point of failure. Rather, they are avoided by having 
resilience built into the network through backup connections 
and backup vendors. This is the key lesson from this tragedy.
    In our view, the decision process to reopen the markets was 
a textbook example of effective cooperation among the 
government markets and private industry. Telecommunication, 
power and employee access problems created enormous 
complications and risks in reopening the market. In addition, 
there was total unanimous agreement among all participants that 
the equity markets should open as quickly as possible but only 
when we could ensure that they could operate efficiently with 
proper liquidity available, without additional constraints and 
with universal access for investors. We also believed that, 
given the uncertainties, it was important for investor 
confidence that all equity markets and their market 
participants begin trading simultaneously.
    To achieve the successful reopening of the markets, the 
Nasdaq, the government and financial services industry all 
worked in concert.
    I believe SEC Chairman Harvey Pitt said it best during his 
testimony before the Senate Banking Committee on September 20. 
``We can be justifiably proud of our market participants and 
the way they performed. Everyone pulled together to overcome 
this disaster to successfully reopen the U.S. Equities and 
options markets. Americans demonstrated continued confidence in 
our markets. With the momentum built from this experience, we 
will move forward to make our markets even stronger, more 
transparent and more vibrant.''
    It might be helpful to review Nasdaq's current market 
structure as the subcommittee looks at the role of ECNs. As the 
worlds' largest electronic stock market, Nasdaq is not limited 
to one central trading location. Rather, trading is executed 
through Nasdaq's sophisticated computer and telecommunication 
network, which transmits real-time quote and trade data to more 
than 2 million users in 83 countries. Last month, InfoWorld 
named Nasdaq 36th among the top 100 companies for information 
technology achievements and 5th among financial services 
companies.
    Today, Nasdaq lists the securities of nearly 4,200 of the 
world's leading companies. Nasdaq's ``open architecture'' 
market structure places virtually no limit on the number of 
market participants that can provide liquidity on Nasdaq and 
places no geographical restrictions on those market 
participants. Indeed, Nasdaq, unlike its physical floor-based 
competitors, made the decision to include ECNs within its 
quotation and transaction systems.
    At the core of Nasdaq's market structure are a group of 
financial firms called market-makers. More than 340 of these 
market-maker firms actively trade on Nasdaq, acting as 
liquidity providers for Nasdaq-listed securities. Also known as 
dealers, market-makers are unique in that they commit their own 
capital to Nasdaq-listed securities. Each market-maker is 
required at all times to maintain a bid and an offer at each of 
the securities in which they are registered as a market-maker.
    ECNs are electronic systems that widely disseminate to 
third parties orders entered into the system by market-makers 
and permit those orders to be executed.
    Mr. Stearns. Let me have you sum up, if you could.
    Mr. Randich. It is important to recognize ECNs, with one 
exception, have chosen to be brokers and, therefore, are not 
required to provide broad-based regulatory oversight and self-
regulatory organizations.
    In response to September 11, our primary focus was to 
ensure that our market participants were able to access our 
market. We believe we have the responsibility to keep up with 
the changing needs of the investing public to ensure that 
investors can buy and sell stocks quickly, efficiently and 
affordably, all in a fair, well-regulated market.
    Mr. Chairman, we welcome this subcommittee's interest in 
this important topic; and I look forward to any questions that 
you and the other members may have.
    [The prepared statement of Steven J. Randich follows:]
 Prepared Statement of Steven J. Randich, Executive Vice President of 
Operations & Technology and Chief Information Officer, The Nasdaq Stock 
                                 Market
    Thank you Mr. Chairman and Members of the Subcommittee for inviting 
me to testify before you today. On behalf of the more than 1,200 
employees of the Nasdaq Stock Market', I welcome the 
opportunity to discuss Nasdaq's response to the horrendous acts of 
September 11, 2001, and the role of our various market participants, 
particularly electronic communications networks (ECNs).
                  i. nasdaq response to events of 9/11
    The tragic events of 9/11 compelled us to immediately begin a 
process of evaluating the extent of any damage to Nasdaq and our market 
participants and determining the necessary steps to reopen the market. 
In doing so, we were guided by several principles: First, we would do 
nothing that impeded the rescue effort. Second, we would closely 
coordinate all our activities with the SEC. Third, we would open our 
market only when major market participants were fully prepared and, 
preferably, simultaneously with other markets. Finally, we would be as 
open and transparent in reaching out to and assisting our members and 
issuers in crisis as we are in our every day operations. A number of 
our participants were unable to access the network due to telephone 
failures. Our system could have been open on the 11th and on every day 
between the 11th and 17th, however we believed then, and continue to 
believe now, that investor protection and market integrity 
considerations dictated that the markets be closed. This was 
particularly true because of the terrible impact of the events of 9/11 
on the trading facilities in lower Manhattan, including the New York 
Stock Exchange, the American Stock Exchange, and many Nasdaq market 
participants.
    As to Nasdaq's technology, at no time during this disaster were 
Nasdaq's systems inoperative. At the time of the attacks, trading was 
suspended but Nasdaq's systems and network continued to operate. 
Because our primary and backup technology centers are outside 
Manhattan, our primary concern related to our ability to connect with 
the firms that are active in our marketplace and bring liquidity and 
order flow. In fact, Nasdaq continued to operate systems later than 
normal on Tuesday to allow firms manual access for reconciliation and 
mutual fund pricing and related activities. Nasdaq's systems operated 
virtually continuously throughout the rest of the week to allow firms 
to test connectivity.
    Nasdaq's geographically decentralized network has several levels of 
redundancies, which are specifically designed to withstand these types 
of catastrophic events. Virtually all firms are connected to Nasdaq 
through a set of several Nasdaq servers on their sites and in their 
backup centers. Each of the servers in the Nasdaq network is connected 
to two distinct Nasdaq network centers using diverse telecommunications 
providers.
    There are more than twenty Nasdaq network centers located 
throughout the United States--including four in the NY metropolitan 
area. Each of these centers is connected to both our Primary and Backup 
data centers. Additionally, while MCI WorldCom provides the overall 
management of our network, each of our critical connections is backed 
up by another telecommunications vendor so as to offer resiliency 
against a systemic provider failure.
    While this may be a lengthy description, it is critical to 
understand that disasters such as these are not averted by hardening 
any single point of failure, rather they are avoided by having 
resilience built into the network through backup connections and backup 
vendors. This is a key lesson from this tragedy.1 Therefore, 
one early priority was to reach out to the 344 market makers, and the 8 
electronic communications networks (ECNs), that are part of the Nasdaq 
market. We spoke to each of these firms. We asked: Can you connect with 
our network? Can your employees get to their trading workstations? What 
problems do you foresee?
---------------------------------------------------------------------------
    \1\ See, e.g., ``Key Lessons learned in attack on New York,'' 
Financial Times, December 5, 2001, ``Another aspect of business 
continuity planning is examining how much of the organisation can be 
physically distributed. For example, although the headquarters of 
Nasdaq, the electronic stock exchange, were damaged in the September 11 
attack, its distributed organisation helped it tremendously. Its two 
main data centers were in Connecticut and Maryland, many miles away. 
And its trading partners were on a network with a high degree of 
redundancy and only a relatively small number were unable to trade 
immediately after the attack. More importantly, its key people were 
also distributed.''
---------------------------------------------------------------------------
    While many of our firms were not physically impacted by the 
disaster, many others, both market makers and ECNs, faced great 
challenges, in terms of personnel, technology and connectivity. Nasdaq 
staff worked around the clock to provide whatever support we could. 
This included providing alternative trading facilities, provisioning 
backup facilities with new equipment, testing backup and new network 
connections, providing assistance in acquiring emergency resources and 
gaining access to critical facilities in lower Manhattan.
    We also reached out to the 4,190 companies that list their shares 
on Nasdaq. To enhance prospective liquidity, we recommended they look 
at buy back programs, as authorized by the SEC on an emergency basis, 
and get board approval if necessary.
    We reached out to the SEC and other government agencies, as they 
reached out to us. And, we cooperated closely with each of the equity 
and options exchanges. The unprecedented cooperation between all market 
centers and with local and national governmental authorities was 
continuous and excellent.
    I want to reiterate our appreciation of the Federal, state and 
local governments for their willingness to use their vast resources and 
regulatory powers to assist the markets in this time of crisis. The SEC 
and the City of New York were particularly instrumental in helping us 
open the markets as quickly and as smoothly as we did.
    In our view, the decision process to reopen the markets was a 
textbook example of effective cooperation among the government, markets 
and private industry. Telecommunication, power and employee access 
problems created enormous complications and risks in reopening the 
market. In addition, there was total unanimity among all participants 
that the equity markets should open as quickly as possible, but only 
when we could ensure that they could operate efficiently with proper 
liquidity available, without additional constraints, and with universal 
access for investors. We also believed that, given the uncertainties, 
it was important for investor confidence that all equity markets--and 
their market participants--begin trading simultaneously.
    After two all hands meetings, and with the strong leadership of 
Chairman Pitt and the full support of the SEC, Department of Treasury 
and Federal Reserve Board, the decision was made that trading should 
resume no later than Monday, September 17th. This decision was based on 
three primary factors. First, through the efforts of Verizon, MCI 
Worldcom and the affected financial firms and markets, there was a 
geometric improvement of telecommunications connectivity each day 
following 9/11. Second, the critical importance of the continuing 
rescue operation at the World Trade Center site made provisions for 
widespread physical access to financial firms and the New York Stock 
Exchange floor and an earlier start-up inappropriate. Third, there was 
complete consensus that the markets should not resume without 
widespread system connectivity testing that could most effectively 
occur over the weekend. The successful resumption of trading on Monday 
would be an important signal to our citizens and the world. It was 
accomplished by the extraordinary efforts of thousands of financial 
market and brokerage firm employees who collectively are owed an 
enormous debt of gratitude.
    The SEC reassured the markets, indicated appropriate relaxation of 
regulatory constraints, and focused the markets on critical systems. 
The SEC's speedy action to ease the rules governing corporate stock 
repurchases was especially helpful and responsive to the needs of 
Nasdaq-listed companies with which we were working.
    Nasdaq employees provided technological support to over 800 Nasdaq 
and non-Nasdaq participants including market makers, order entry firms, 
ECNs, other markets, and even some foreign markets seeking to re-
establish their local connectivity. Many firms had to activate disaster 
recovery sites, which presented special technological needs.
    To achieve the successful reopening of the markets, Nasdaq, the 
government and the financial services industry all worked in concert. 
The strength of the U.S. financial markets today reflects the 
cumulative efforts of far-sighted leadership many years ago. Of course, 
Congress laid the foundation with the passage and careful oversight of 
the U.S. securities laws.
    The U.S. financial industry has demonstrated its resilience and 
resolve to maintain the most liquid and stable markets in the face of 
terrible challenges, and clearly Nasdaq's trading network has 
demonstrated its unique value as a part of this infrastructure.
    I believe SEC Chairman Harvey Pitt said it best during his 
testimony before the Senate Banking Committee on September 20, 2001: 
``We can be justifiably proud of our market participants and the way 
they have performed. Everyone pulled together to overcome this disaster 
and successfully reopen the U.S. equities and options markets. 
Americans demonstrated continued confidence in our markets. With the 
momentum built from this experience, we will move forward to make our 
markets even stronger, more transparent and more vibrant.''
                      ii. nasdaq market structure
A. Overview
    It might be helpful to review Nasdaq's current market structure as 
the Subcommittee looks at the role of ECNs. As the world's largest 
electronic stock market, Nasdaq is not limited to one central trading 
location. Rather, trading is executed through Nasdaq's sophisticated 
computer and telecommunications network, which transmits real-time 
quote and trade data to more than 2 million users in 83 countries. Last 
month, InfoWorld named Nasdaq as 36th among the top 100 companies for 
information technology achievements, and 5th among financial services 
companies.
    Today, Nasdaq lists the securities of nearly 4,200 of the world's 
leading companies, representing the entire spectrum of the U.S. 
economy--from information technology and telecommunications to 
agriculture, manufacturing and finance. Nasdaq's ``open architecture'' 
market structure places virtually no limit on the number of market 
participants that can provide liquidity on Nasdaq and places virtually 
no geographical restrictions on those market participants. Indeed, 
Nasdaq, unlike its physical floor-based competitors, made the decision 
to include ECNs within its quotation and transaction systems.
B. Nasdaq's Market Participants
    At the core of Nasdaq's market structure are a group of financial 
firms called ``market makers.'' More than 340 market making firms 
actively trade on Nasdaq, acting as liquidity providers for Nasdaq-
listed securities. Also known as ``dealers,'' market makers are unique 
in that they commit their own capital to Nasdaq-listed securities. Each 
market maker is required at all times to maintain a bid and an offer in 
each of the securities in which it is registered as a market maker. By 
being willing to buy and sell stock--using their own funds--market 
makers add liquidity to Nasdaq's market, ensure that there are always 
buyers and sellers for Nasdaq-listed securities, and enable invertors' 
trades to be filled quickly and efficiently. Market makers adhere to 
strict trading regulations and are required to:

 Disclose their buy and sell interest by displaying continuous 
        two-sided quotes in all stocks in which they choose to make a 
        market.
 Display customer orders in their quotes in Nasdaq or in the 
        quotes of ECNs, in compliance with SEC Order Handling Rules.
 Honor their quoted prices and report trading in a timely 
        manner. Failure to do so can lead to disciplinary action.
    In addition to market makers, the Nasdaq network also connects 
alternative trading systems into the market, such as ECNs. ECNs are 
electronic systems that widely disseminate to third parties orders 
entered into the system by market makers and permit those orders to be 
executed against. Preliminarily, it is important to recognize that 
ECNs, with one exception, have chosen to be brokers and, therefore, are 
not required to provide broad based regulatory oversight as are self-
regulatory organizations.
    The largest ECNs are: (1) Instinet, which is majority owned by the 
British firm Reuters, and (2) Island. Other ECNs include Bloomberg's 
Tradebook, Archipelago (which recently merged with the Pacific Stock 
Exchange), and Redibook (which recently agreed to merge with 
Archipelago). With the exception of Archipelago, which will operate in 
part as an affiliate of a regulated exchange, the ECNs are regulated 
just like other broker-dealers.
    These ECNs provide electronic facilities that investors can use to 
trade directly with each other. Additionally, they provide investors 
with an anonymous way to enter orders into the marketplace. ECNs 
operate as order-matching mechanisms and do not maintain inventories of 
their own or risk their own capital. ECNs are not required to maintain 
continuous two-sided quotations in the securities that they trade.
    Nasdaq recognizes the unique role that ECNs play as part of an 
integrated Nasdaq Stock Market. In 1997, the SEC required ECNs to allow 
access to their systems by non-subscribers. As a result, ECNs are 
integrated into the National Market System and investors have benefited 
through enhanced liquidity.
                            iii. conclusion
    In response to 9/11, our primary focus was to ensure that our major 
market participants were able to access our market; each of them has an 
important role to play. At Nasdaq, we believe that we have a 
responsibility to keep up with the changing needs of the investing 
public to ensure that investors can buy and sell stocks quickly, 
efficiently, and affordably, all in a fair, well-regulated market.
    As we move forward, all of Nasdaq's efforts to improve its market 
structure, including SuperSOES (small order execution system) and 
SuperMontage, will impact the quality and depth of information that we 
can provide to investors. Today, investors in Nasdaq securities can 
only see the aggregate trading interest at the best prices to buy and 
sell. When implemented next year, SuperMontage will display the total 
amount of trading interest in Nasdaq at the best bid price and at the 
best offer price, as well as two trading increments away from those 
prices. This expanded display will increase transparency by allowing 
customers and other market participants to see greater depth of market. 
As a result, investors will have more information on which to make 
better-informed trading decisions.
    Nasdaq's open architecture market structure fosters innovation in 
the creation of new products and services, new market participants--
such as ECNs--and new business models for the ultimate benefit of 
investors.
    Mr. Chairman, we welcome the Subcommittee's interest in these 
important issues, and I look forward to any questions you and the other 
Members may have.

    Mr. Stearns. I thank the gentleman.
    Mr. Jamaitis, we welcome your opening statement. Roughly 
about 5 minutes.

                 STATEMENT OF KEITH R. JAMAITIS

    Mr. Jamaitis. Good morning, Chairman Stearns, members of 
the subcommittee. I am Keith Jamaitis, Chief Operating Officer 
of NYFIX. I appreciate the opportunity to testify on behalf of 
NYFIX Millennium regarding the important role that electronic 
communication networks, ECNs, and alternative trading systems, 
ATSs, played in the wake of September 11.
    It is our view that the SEC's vision of fostering 
competition among execution centers such as ECNs, ATSs and 
exchanges contributed directly to the swift recovery of our 
markets after the September 11 attacks. We are pleased to offer 
the following remarks which will touch upon NYFIX's activities 
and role in helping the equity markets reopen following the 
tragic events of September 11.
    NYFIX Millennium is a registered NASD broker-dealer that 
operates an ATS. The NYFIX Millennium ATS is an electronic 
execution venue focusing specifically on exchange-listed 
securities. The company was founded in order to provide a 
superior execution platform by leveraging the technological 
infrastructure and order routing volume of the NYFIX network. 
Our mission is to provide high-quality executions in the 
listing trading arena through anonymous and efficient matching 
of pass-through and conditional order flow.
    The NYFIX financial technology infrastructure delivers 
approximately 500 to 600 million shares of listed trading 
volume to the New York Stock exchange each day. This order flow 
represents a substantial portion of the block trading volume 
delivered to the New York Stock Exchange electronically and 
executed in the crowd.
    NYFIX Millennium was a victim of the September 11 attacks 
along with the rest of the financial services community and the 
rest of the world. Our sympathies are with our professional 
peers and all the people and families affected by these events.
    During and after the World Trade Center attacks, the NYFIX 
service bureau staff kept focused on helping our customers and 
industry recover from these disastrous events. NYFIX is 
uniquely positioned with offices in Stamford, Connecticut, as 
well as New York City. The corporate headquarters and the help 
desk are located in Connecticut. The help desk, while normally 
servicing trading systems and issues with our customers, 
quickly became an industry information hub in the wake of 
attacks.
    NYFIX maintains many critical communication links that 
cross-connect the electronic trading systems that service our 
equity markets. These connections are very comprehensive and 
allow trade data to flow from buy-site institutions to sell-
site institutions to execution destinations such as the New 
York Stock Exchange, third party market destinations, and ECNs 
and ATSs.
    NYFIX Millennium's connectivity with the financial services 
industry allowed us to share information among the financial 
institutions. Most importantly it gave our operations staff a 
clear assessment of the technological impact of the World Trade 
Center disaster. NYFIX immediately undertook an inventory of 
all internal systems that were affected. The data centers have 
dual locations in Carlstadt and North Bergen, New Jersey, so 
the effect to core systems was minimal. The major problem was 
telecommunication outages. The NYFIX network lost over 60 
percent of its telecommunications data services into New York 
City. Immediately after the disaster, our data network into New 
York Stock Exchange was reduced by approximately 80 percent.
    System recovery operations began immediately from the 
Stamford, Connecticut, office. Our telecommunications carriers 
were notified, and specialized task teams were deployed to 
resolve system issues. Once in-house issues were under control, 
the help desk and account management staff attempted to contact 
each of our over 100 broker-dealers in our network.
    The primary problem remained telecommunications data 
circuits. As a true business partner, we began to address the 
secondary issues of relocating customers who have been 
displaced from the World Trade Center and other downtown 
locations. The specific steps taken included shipping multiple 
systems to newly established customer disaster recovery sites, 
assembling over 100 additional systems into inventory, 
deploying our application engineer staff to alternate sites to 
work on network configurations and new trading system 
installations, reconnecting several customer systems via the 
Internet, providing Internet access through the NYFIX 
Millennium network out to our customers, making our office 
space in New York available for temporarily displaced customer 
users, reengineering some trades clearing processes that our 
customers use on the New York Stock Exchange.
    It is important to note that our service bureau is a 
significant investment. It is a dual data center model with 
multiple redundant telecommunications circuits that allow for 
maximum reliability and flexibility. Our commitment to 
providing the highest level of data services made the systems 
recovery effort possible. It is difficult to measure the value 
of the substantial investment in multiple backup systems and 
facilities. The best technology is good only to the extent that 
it is available.
    We understand our role in the industry and the 
responsibility associated with it. We understand our 
responsibility to our over 1,700 users on institutional trading 
desks. We understand our responsibility to the over 180 broker-
dealer clients on the floor of the New York Stock Exchange. We 
fulfill these responsibilities on a daily basis.
    We will continue to invest in reenforcing our technology 
platform to deliver the best service possible to the investing 
public. NYFIX Millennium's disaster relief procedures and 
systems performed well under the extremely adverse conditions 
of September 11. We are consulting with the financial services 
industry on adopting and implementing similar best practices, 
including dual mirrored data centers on dual power grids 
located at different geographic locations; adopting formal 
procedures to require regular system recovery testing; and 
adopting NYFIX disaster recovery policies and procedures to be 
applied to our clients' proprietary systems.
    The events of September 11 demonstrated the value and 
strength of our technology. Our NYFIX network remained online 
during the terrorist attacks and were 100 percent prepared for 
markets reopening. In fact, we experienced our greatest share 
volume on September 17, routing approximately 1.2 billion 
shares to the floor of the New York Stock Exchange through our 
systems.
    In conclusion, upon the approval and coordination of the 
regulatory community, our equity markets were prepared to open 
on September 17. We are proud to have been a significant 
contributor to their successful opening and operations on that 
day. Our efforts have continued through to the present to 
improve and refine our disaster recovery capabilities. We are 
particularly pleased with our service to the investing public 
and our clients as coordinated through the New York Stock 
Exchange, its member firms, and other industry leaders 
participating on this panel today. Thank you.
    [The prepared statement of Keith R. Jamaitis follows:]
 Prepared Statement of Keith R. Jamaitis, Senior Vice President, Chief 
                     Operating Officer, NYFIX, Inc.
    Chairman Stearns, members of the Subcommittee: I appreciate the 
opportunity to testify on behalf of NYFIX Millennium, Inc. (``NYFIX 
Millennium'') regarding the important role that electronic 
communication networks (``ECNs'') and alternative trading systems 
(``ATSs''), played in the wake of September 11.
    It is our view that the SEC's vision of fostering competition among 
execution centers such as ECNs, ATSs and exchanges contributed directly 
to the swift recovery of our markets after the September 11 attacks. We 
are pleased to offer the following remarks, which will touch upon 
NYFIX's activities and its role in helping the equity markets reopen 
following the tragic events of September 11.
                       i. about nyfix millennium
    NYFIX Millennium is a registered NASD broker-dealer that operates 
an ATS. The NYFIX Millennium ATS is an electronic execution venue 
focusing specifically on exchange-listed securities. The Company was 
founded in order to provide a superior execution platform by leveraging 
the technological infrastructure and order routing volume of the NYFIX 
Network. Our mission is to provide high quality executions in the 
listed trading arena through anonymous and efficient matching of pass-
through and conditional order flow.
    The NYFIX financial technology infrastructure delivers 
approximately 500-600 million shares of listed trading volume to the 
New York Stock Exchange each day. This order flow represents a 
substantial portion of the block trading volume delivered to New York 
Stock Exchange electronically, and executed in the crowd.
                            ii. september 11
    NYFIX Millennium was a victim of the September 11 attacks along 
with the rest of the financial services community, and the rest of the 
world. Our sympathies are with our professional peers and all the 
people and families affected by these events.
    During and after the World Trade Center attacks the NYFIX service 
bureau staff kept focused on helping our customers and the industry 
recover from these disastrous events.
    NYFIX is uniquely positioned with offices in Stamford, Connecticut 
as well as New York City. The corporate headquarters and the Help Desk 
are located in Connecticut. The Help Desk, while normally servicing 
trading and systems issues for our customers, quickly became an 
industry information hub in the wake of the attacks.
    NYFIX maintains many critical communications links that cross-
connect the electronic trading systems that service our equities 
markets. These connections are very comprehensive and allow trade data 
to flow from buy-side institutions to sell-side institutions to 
execution destinations such as the New York Stock Exchange, third 
market destinations, ECNs and ATSs.
    NYFIX Millennium's connectivity with the financial services 
industry allowed us to share information among the financial 
institutions. Most importantly, it gave our operations staff a clear 
assessment of the technological impact of the World Trade Center 
disaster.
    NYFIX immediately undertook an inventory of all internal systems 
that were affected. The data centers have dual locations in Carlstadt 
and North Bergen, New Jersey, so the effect to core systems was 
minimal. The major problem was telecommunication outages. The NYFIX 
network lost over 60% of its telecommunication data services into New 
York City. Immediately after the disaster, our data network into the 
New York Stock Exchange was reduced by approximately 80%.
    System recovery operations began immediately from the Stamford, 
Connecticut office. All telecommunications carriers were notified and 
specialized task teams were deployed to resolve systems issues. Once 
in-house issues were under control, the Help Desk and account 
management staff attempted to contact each of the over 100 broker-
dealers in our network.
    The primary problem remained telecommunication data circuits. As a 
true business partner, we began to address the secondary issues of 
relocating customers who were displaced from the World Trade Center and 
other downtown locations. Specific steps taken included:

 Shipping multiple systems to newly established customer 
        disaster recovery sites for immediate use;
 Assembling over 100 additional trading systems into inventory;
 Deploying application engineers to alternate customer sites to 
        work on network configuration and new trading systems 
        installations;
 Reconnecting several customer trading systems via the 
        Internet;
 Providing Internet access through the Millennium network to 
        our customers;
 Making office space available in both of our New York office 
        locations to temporarily house displaced users; and
 Reengineering several trades clearing processes associated 
        with our New York Stock Exchange customers.
    It is important to note that our service bureau is a significant 
investment. It is a dual data center model with multiple redundant 
telecommunications circuits that allow for maximum reliability and 
flexibility. Our commitment to providing the highest level of data 
services made the systems recovery effort possible. It is difficult to 
measure the value of the substantial investment in multiple backup 
systems and facilities. The best technology is good only to the extent 
that it is available and reliable. We understand our role in the 
industry and the responsibility associated with it. We understand our 
responsibility to our 1700 users on institutional trading desks. We 
understand our responsibility to the over 180 broker-dealer clients on 
the floor of the New York Stock Exchange. We fulfill these 
responsibilities on a daily basis.
    We will continue to invest in reinforcing our technology platform 
to deliver the best service possible to the investing public.
    NYFIX Millennium's disaster relief procedures and systems performed 
well under extremely adverse conditions. We are consulting with the 
financial services industry on adopting and implementing similar best 
practices, including:

 Dual mirrored data centers with dual power grids, located at 
        different geographic sites;
 Maintaining multi-carrier WAN infrastructure of data circuits;
 Adopting formal procedures requiring regular systems recovery 
        testing; and
 Adopting NYFIX disaster relief policies and procedures to be 
        applied to our clients' proprietary systems.
    The events of September 11 demonstrated the value and strength of 
our technology. Our NYFIX network remained online during the terrorist 
attacks and were 100% prepared for the market's reopening. In fact, we 
experienced our greatest share volume on September 17, routing 
approximately 1.2 billion shares to the floor of the New York Stock 
Exchange through our systems.
                            iii. conclusion
    Upon the approval and coordination of the regulatory community, our 
equity markets were prepared to open on September 17. We are proud to 
have been a significant contributor to their successful opening and 
operation on that day. Our efforts have continued through the present, 
to improve and refine our disaster relief capabilities. We are 
particularly pleased with our service to the investing public and our 
clients as we coordinated with the New York Stock Exchange, its member 
firms and the other industry leaders participating on this panel in 
ensuring that our equity markets got back to business.

    Mr. Stearns. I thank the panel very much. Let me first of 
all say congratulations on how quick that you did get back to 
operation. And it shows the ingenuity and the entrepreneurship 
for all of you to get back so quickly. Mr. Shimkus and I, as he 
mentioned, were able to go up to Ground Zero shortly after 
September 11, and we are so impressed with Verizon, how quickly 
not only they got the cell phones back, but the land lease 
lines, considering the flooding and all the damage there.
    The first thing I wanted to speak to is the ECNs. Lots of 
them are located in New York City, and, I mean, is there a 
reason why you would have to be located in New York City 
considering that?
    Mr. Towns. I will answer that, Mr. Chairman.
    Mr. Stearns. Mr. Towns is a little sensitive about that.
    Mr. Andresen. Certainly in any business there is an 
advantage to geographic proximity to your customers from a 
relationship standpoint and everything else, but there is 
certainly no direct need from a technological standpoint to 
have our one and only business in New York. Island has a data 
center at 50 Broad Street right down from our distinguished 
colleagues at the New York Stock Exchange. We also have a site 
out in Secaucus, New Jersey.
    Mr. Stearns. It looks like your--some of them are located 
at Times Square and also Broad Street. Mr. Jamaitis has 
mentioned that he has something out in Stamford, Connecticut.
    Mr. Jamaitis. Our headquarters and operations are based out 
of Stamford, Connecticut.
    Mr. Stearns. So that if we had another calamitous event in 
New York City down near the World Trade Center, the question 
is, is there enough redundancy that the ECNs would be affected 
or not?
    Mr. Jamaitis. The policy of our network and our systems, we 
have our core data centers located in two locations in New 
Jersey, both Carlstadt and North Bergen; then that tertiary 
fail over capability on Wall Street, and we can also fail over 
back to our Stamford offices. So we feel being geographically 
remote and diverse has been a great advantage, especially 
weathering, you know, the disasters we saw.
    Mr. Stearns. Mr. Andresen, you mentioned that--I think you 
said you do 460 million shares a day.
    Mr. Andresen. That is correct.
    Mr. Stearns. How many employees do you have?
    Mr. Andresen. We have 138 employees.
    Mr. Stearns. Okay. Am I free to ask what your revenue is a 
year? Not the revenue of the trade--you don't have to give 
this, but if you feel comfortable.
    Mr. Andresen. We are a private company, so our investors 
will come find me after the meeting if I disclose too much.
    Mr. Stearns. Mr. Steinmetz, you said in your testimony that 
the bond markets and currency markets suffered greater 
devastation on September 11 than the stock market, and I don't 
think most people realize that fact, but were able to resume 
trading more quickly. Can you perhaps give us more detail on 
those markets and why they were able to resume trading quicker, 
more quickly?
    Mr. Steinmetz. The bond markets and the currency markets 
have very different market structure particularly as it relates 
to the networking versus the standard mainframe communications, 
if you will. There are approximately 49, I believe, trading 
platforms and fixed income that people trade on. There are 
numerous amounts of instruments, a lot more instruments than 
equity instruments, and they trade all over through different 
networks. So, therefore, even though we had such terrible 
devastation to some of the bigger companies that trade in those 
markets, they were able to get up and running on alternative 
systems.
    Mr. Stearns. Okay. Mr. Bang, you had mentioned that--you 
used the word ``government-sponsored monopoly,'' and you talked 
about decentralizing versus centralizing. Yet as I understand, 
the New York Stock Exchange has allowed ECNs to access the 
intermarket trading system through NASDAQ. Why is this access 
insufficient for ECNs, and why would this not show that, you 
know, there is this accessibility?
    Mr. Bang. Mr. Chairman, the access into NASDAQ's 
intermarket trading is a partial solution. It would give us the 
ability to display our quotes in the consolidated quotes system 
for listed securities. However, we would also be subject to the 
ITS rules that Matt Andresen pointed out and described as 
somewhat incumbent or problematic for extending the services 
out to our clients with the features that they are accustomed 
to, which is one of immediacy, which is one of the ability to 
access liquidity where liquidity is to be had. And the problem 
of being subject to trade through rules and such, where you 
have to go outside and access liquidity over the ITS systems 
against other market centers, that can take up to a minute to 
respond to those outbound orders.
    Mr. Stearns. Mr. O'Hara shows this graph of Enron trading 
and showing how ECNs stepped up to the plate. And then actually 
when the markets came on board, they used as a reference plane 
the actual trading values of Enron to establish a base from 
which to work. So, would the market take care of itself? Are 
you saying to us, Mr. Bang, that you expect to let the market 
eventually decentralize this, or are you looking toward some 
kind of outside influence, either policy from the government or 
policy de facto, but never regulated by the SEC or somebody, to 
provide what you have indicated is a monopoly--to open it up to 
more competition, which in the end would mean if we had a 
calamitous September 11 again, there would be more redundancy?
    Mr. Bang. Yes, I believe that is an accurate statement. You 
know, just as the rule 390 was done away with, it gave--opened 
up a certain element of competition for printing the New York 
Stock Exchange list of securities off other exchanges, and that 
was a good development, likewise I would say if ECNs have the 
ability to represent their investors' and clients' interest in 
the national, quote montage, that additional transparency would 
create, you know, liquidity to the national market system and 
would provide alternative venues to trade away from, which Ms. 
Kinney talked about, a central hub.
    Currently we have, you know, very high centralization for 
the New York Stock Exchange list of securities on the exchange, 
that central hub. I think it would behoove the industry to have 
more than one hub or alternative hubs with subsequent spokes 
into them. And ECN certainly is a venue that is well suited to 
fulfill that.
    Mr. Stearns. I think my time has expired.
    The gentleman from New York.
    Mr. Towns. Thank you, Mr. Chairman.
    Ms. Kinney, would you please respond to the points that Mr. 
Bang made about access to the New York Stock Exchange system?
    Ms. Kinney. Well, I think he pointed out that he has access 
to our systems through the NASDAQ intermarket system, but he 
also pointed out that the ECNs are unwilling to conform to one 
of the principles of ITS, which is price protection for 
customers' orders, and as such, they have been precluded from 
participating.
    We think that price protection is one of the foundations 
and hallmarks of the national market system, that a customer is 
entitled to the best price wherever it exists, and if an order 
arrives in a certain venue, any one of these, including our 
own, and there is a better price elsewhere, the customer should 
be protected at that price.
    Mr. O'Hara. If I may just clarify the record, Archipelago 
does today--is the only ECN to access the New York Stock 
Exchange through our friends here at NASDAQ through ITSKs. We 
have a different customer base than others, but they have told 
us that they want access through ITSKs, and we access New York 
through ITSK as well as their proprietary DOT line as well. So 
the fact is that our customers are happy with it, and we give 
them that service.
    Mr. Andresen. I just wanted to thank you, Congressman 
Towns. From Island's perspective our customers are, as Mr. 
O'Hara pointed out, a different group of customers who have a 
different value proposition that they value.
    On point--in addition to your point, Mr. Chairman, there is 
a difference between what people see on ECNs and what people 
see in the national quote. If it is--we are trading in a NASDAQ 
stock, say Intel, and Island has the best price, if someone 
goes to NASDAQ and says, hey, NASDAQ, where is the best price 
in Intel, they will see Island's quotes. However, if the best 
price is queried for QQQ or for IBM, ECNs right now are not 
permitted to show their quotes in the national quotes.
    Now, Island distributes all of its market data for free 
over the Internet to make sure investors still have access to 
this information, but there is a difference between what is 
actually happening and what has received the stamp of the 
national market system.
    Island does have issues with the intermarket trading 
system. Specifically our view is that our marketplace and 
liquidity we have built are significantly new traders doing new 
trades, and they rely on the speed and reliability and cost 
that Island gives. I think a great analogy to ITS is I used to 
be--Mr. Towns, you will be pleased to know that I did move back 
to New York from New Jersey. I couldn't stay away. But I used 
to drive through the Holland Tunnel every morning. Every 
morning I get up there, at first I had to go to the full-
service lane because I didn't have EZ Pass, so I had to get my 
4 bucks out and have to pay. It took forever. So I got an EZ 
Pass, and I was able to shoot right through. EZ Pass was worth 
a lot to me because I was able to get to work like a half an 
hour earlier.
    What ITS does is basically says, well, Island, if you would 
like to open up an EZ Pass booth here and transact 
electronically, that is great, but you can't allow anyone to go 
through your gate until the guy on the other end of the line, 
the full-service lines, breaks his $100 bill. You have sort of 
allowed competition in allowing us to transact electronically, 
but you slowed Island down to being no faster than the slowest 
other toll lane. And I think as Wick Simmons pointed out in his 
letter to Harvey Pitt, these trades will not move back 
somewhere else if Island has to slow down. They will simply 
disappear or move offshore.
    Mr. Bang. If I may add, since the advent of 
decimalization----
    Mr. Towns. Go ahead. I want to come back to Ms. Kinney. 
Then I will go to you.
    Ms. Kinney. I think that Matt makes a point about his 
customer base. I think that Matt's and Island's sole value 
proposition is speed, and the markets that are linked have a 
responsibility to provide price protection to their customers. 
The fact that the value proposition is exclusively speed, his 
customers enter that market knowing what the value proposition 
is, pursue it, and receive it. And it is not conceivable to me 
to understand how in--and he cites in his own testimony about 
the QQQ, they have a significant market share there. The value 
proposition has obviously worked in that model. And we continue 
to compete with them in that product, but we are offering the 
best price at the lowest spread with price protection.
    So, again, it is going to be customers choosing among the 
markets, but there have to be fundamental and underlying value 
propositions for each of us, and customers are choosing those 
very freely today in the market, whether it is in Enron or in 
the QQQ.
    So I think the markets are very accessible at the moment. 
Information is available, and customers are taking advantage of 
the models they were pursuing.
    Mr. Towns. I thought I would get a little extra time being 
I am from New York. Thank you, Mr. Chairman.
    Mr. Bang. It is exactly that choice that we are advocates 
of. And we believe that it would behoove industry to provide 
that choice, the true choice for investors, and the way to do 
that is to give--I would say, one way to give it is to provide 
ECNs direct access into national quotes. The trade-through 
issues are much less of an issue today as we are in a 
decimalized environment than it was prior to decimalization. We 
were describing different increments. A penny here and penny 
there is a small price to give up for the certainty of 
accessing a certain pool of liquidity or a given price,and we 
believe that investors should have that choice and be able to 
make that decision.
    Mr. O'Hara. And just to confirm, I think, what you are 
hearing here is a marketplace right here, is that different 
customer bases want different services, and that through 
competition companies should be allowed to provide it. And I 
think from a congressional standpoint or from a regulator 
standpoint at the SEC is as long as policies are established 
that allow competition to grow within a certain structure, that 
you are exactly hearing the marketplace here: Different 
customers want different things. Some want ITS access, some 
don't.
    I think if we allow things to evolve as they currently are, 
we will find the solutions that I think we are looking for at 
this hearing today.
    Mr. Towns. Thank you, Mr. Chairman.
    Mr. Stearns. Sure.
    I would say we probably have a second round here. Mr. 
Shimkus.
    Mr. Shimkus. Thank you, Mr. Chairman.
    I want to kind of go back and focus on the two hats that I 
wear with respect to my telecommunications hat and, of course, 
as the consumer protection issue. I was able to during the last 
trip get some pictures. I know you all can't see them, but you 
all will recognize some of them. This is 140 West and building 
7, about three stories high of rubble up against there. I will 
share these with my colleagues. This is 140 West, rubble almost 
four stories high. These are the windows that got impaled--you 
can see that is probably a 20-foot by 20-foot hole in 140 
West--by the beams that shot across.
    This is the one I really want--there is a couple that I 
really want to--I didn't have all of them, but this is one of 
the switching rooms in 140 West. If you can look closely, here 
they are, the cabinets one of the switching rooms. Now, this is 
of the basement of 140 West, all these cables. And with the 
chairman, we walked down there, and it was--they are still 
trying to dry it out with fans down there. You can see the 
multitude of cables, such that what they had to do was they 
brought the cables outside the building seven stories high into 
a window. That is the effort that was made. Here are some good 
workers hand-twining the little phone lines, millions.
    My question is--the question that I am posing is--goes back 
to a debate that we have here in Washington on the telecom 
side, which is regional Bell operating companies versus 
competitive local exchanges. Fun, huh? This whole facility, 140 
West, is operated by a regional Bell operating company, an RBOC 
as we call it in the vernacular, versus a CLEC which has the 
ability to be there. The difference is this 20-some-odd-story 
building with all that infrastructure versus a CLEC being one 
or two of these cabinets.
    In the event of another major catastrophe, who do you think 
is better able to respond in a timely manner, an RBOC with 
vested interest in infrastructure or the competitive local 
exchange? And how do we look beyond there to make sure that we 
have the capacity to meet major infrastructure needs? And I 
will just throw it open to those who want to dare walk into 
this mire.
    Mr. O'Hara. Well, I certainly don't pretend to be an expert 
on RBOCs and the CLECs, although I have obviously read some 
things about it. I think what you can take from our industry to 
that is as long as there is open, free competition, you know, 
and a level playing field, I think you will find, you know, 
through literally thousands of years of history now that you 
will get to the place that you want to be, and that is the most 
efficient, you know, price, best service, that type of thing.
    You know, in our industry that is where our Archipelago 
and, I know, some of my colleagues come from. As long as there 
is a fair regulatory and level playing field, let's have it, 
and in the end consumers and investors will win. I would 
assume, given the hundreds of thousands of years of history of 
competition since the history of capitalism, as to your 
specific question, that is where you would end up if you had 
that type of a level playing field.
    Mr. Steinmetz. I think what your question really 
underscores is an interesting connectional bridge between some 
of the market structure issues that were discussed here today 
as well as the technological issues that we know existed. And 
if we step back and sort of bridge those two and combine them, 
we actually will be able to determine that the best way to do 
it is to have a broader networking communications area as 
opposed to one centralized area.
    Now, whether those things include exchange floors or 
whether they include ECNs, it is possible to include all of 
them in a general market structure. But if we can, going 
forward, not necessarily rely on either one of those solutions, 
but rather rely on a joint solution of multiple players that 
can interconnect better, then we would have the backup systems 
and redundancy and contingency plans necessary to exist in any 
other catastrophe that might come our way.
    Mr. Randich. I think the lesson learned in those 
photographs is you can't put all your eggs in one basket. We as 
enterprises need to take the opportunity to ensure that we have 
diversity, diverse connections to our customers, and the only 
way we can do that is if we have a number of valid choices, and 
those choices range between the local access carriers, the 
long-haul carriers, as well as the RBOCs. NASDAQ uses all three 
of those types of carriers to provide that diversity 
nationwide.
    Mr. Shimkus. Do you think it also makes a statement--and I 
have no real agenda here, but I am just trying to debate for 
your industry--you need to have secure lines of communication, 
and in essence our eggs are in one basket. If there is 
diversification, doesn't it argue that CLECs ought to be a 
little more infrastructure-independent instead of reliant?
    Mr. O'Hara. I think you have us puzzled there.
    Mr. Shimkus. Infrastructure-independent means one cabinet 
versus a 20-story building.
    Mr. O'Hara. I would underscore what Mr. Randich said, that 
you can't have all your eggs in one basket as long as you have 
a level playing field so they can compete, and not knowing what 
the CLECs--you know, what their long regulatory structure looks 
like, as long as they have the ability to raise capital, if 
they have a good idea and build that infrastructure, and there 
are no impediments, I think it will take care of itself.
    Mr. Bang. I would like to add to that we learned that our 
dependency on the West Street telecommunication hub for all of 
us was clearly too large, and for our customers. And I think 
that each one of us have, you know, taken measures to decrease 
that dependency, and so have our customers. But we probably 
didn't realize quite how large our dependency was in that 
particular area, and that is something that we have to be 
cognizant of.
    Mr. Stearns. The gentleman's time has expired.
    Mr. Shimkus. If I could say this is one of the first times 
that I have been able to throw out acronyms that may have 
befuddled the panel, so this is a big victory for me.
    Just to close, I want to welcome Mr. O'Hara, who is from 
Chicago, Illinois, a great State, and also appreciate your work 
in the Eastern bloc countries, Lithuania, and trying to work on 
their entry into NATO. I know you spent time on that effort.
    Mr. Stearns. Mr. Deal, gentleman from Georgia.
    Mr. Deal. Thank you, Mr. Chairman.
    During the discussion of this, the ECNs and the Internet 
have been compared, and as you may know, this committee is 
constantly wrestling with the issue of data integrity and 
security issues as it relates to the Internet. And I would like 
to ask the ECNs if there is a concern or an issue with regard 
to data integrity within your systems, and if so, what are you 
doing to allay those concerns?
    Mr. Andresen. At Island we have the advantage in our 
business model and the business model of most of the people up 
here, unlike the Internet which is eventually giving access to 
everybody, we are giving access to a select number of 
professional brokerage firms. Island has about 700 different 
brokerage firms connected to us. The way they connect to us is 
either through a frame relay from MCI or AT&T or through a 
direct point-to-point line. Because of this, because it is a 
small universe of actual users, although an immense amount of 
data, it is much easier to control our problems than it would 
be for, you know, eBay or Amazon to control theirs. So that is 
an innate advantage to our business model.
    Our biggest concern on data integrity is something that Mr. 
Steinmetz from Instinet brought up earlier, and that is the 
importance of anonymity. The most important thing that we can 
do for the integrity of our marketplace is information about 
who bought what where is not available in an asymmetric 
fashion, so Island gives out all of its market data for free 
over the Internet in real time; every piece of information, 
that is, except who it is.
    I remember when I was trading, and any time Goldman Sachs 
made a low offer on my stock, I got a terrible feeling in the 
pit of my stomach. If I saw a low offer on Instinet, I was--I 
wondered whether it was Goldman, but I could never know. That 
is better for Goldman, that is better for me, and that is 
better if it happens to be my mom trading the stocks as well.
    Mr. Deal. Anyone else?
    Mr. Steinmetz. We have dealt with the security issues on 
several levels. The first is a simple encryption level on the 
base level making sure that it is secure, as well as 
certifications on the terminal-by-terminal level to assure 
that, again, there is further security depending upon what 
customer connects where. So certain customers would like 
certain levels of security, and they can settle with the 
encryption on the base level. Others require something a little 
further and therefore get the certification on the higher 
level.
    In either case, though, the Internet technology has not 
caused a slowdown in the connectivity, which is crucial. As has 
been mentioned on this panel already, speed of customers 
interacting with the market is essential toward better 
execution.
    With that in mind, as long as we can assure the security, 
and the Internet allows that, and still provide the speed, then 
we shouldn't have much of the problems in the security area 
using the Internet.
    Mr. Deal. Mr. O'Hara, you may be from Chicago, but thanks 
to Margaret Mitchell, that is a good Georgia name as well.
    I would like to ask you, you say that the linkages between 
the electronic facilities could have allowed trading to occur 
after September 11 at an earlier timeframe. You posed the 
question as to whether the industry is prepared to move to a 
decentralized model. I would like to ask you if you would 
elaborate on what is preventing the industry from moving to a 
decentralized model, and what are the disadvantages of moving 
to a decentralized model, if any?
    Mr. O'Hara. I know our friends at the New York Stock 
Exchange would differ with us as to the latter part of your 
question, but as to the former, I think we certainly have over 
the last 10 years, especially the last 5 years, moved rather 
quickly toward decentralization in large part. We have a lot of 
work to do yet and a lot of wood to cut, but in large part, 
because of some of the people here and others that aren't here, 
NASDAQ, through the order handling rules, the SEC opening up 
NASDAQ to ECNs, that in large part--creating many networks 
within NASDAQ, that has allowed us to decentralize in part.
    Also, just technology is at a place today where--for 
instance, where Island or REDIBook and Bloomberg--for instance, 
we have proprietary lines that we put in between each other, 
not government-mandated, the SEC hasn't told us to do that, but 
we have on our own said our customers want this, so we have 
done that. In the current environment, given the regulatory 
environment allowing this to happen, and second, given that 
technology is where it is today--this couldn't have happened 
most likely 15, 20 years ago, especially predevolution of 
AT&T--because technology is where it is today, it has allowed 
decentralization to occur.
    Now, you ask the question on the down side there are some 
who argue, and I am not sure if Ms. Kinney is going to argue 
this point, but that all orders should be brought to one 
location. So, in other words, the deepest pool of liquidity is 
where people will get best price or price improvement or that 
type of thing. The SEC floated that idea with a central limit 
order back with NASDAQ, and I think everyone from alpha to 
omega said that is not a good idea, that you don't want to 
bring all your orders to one place in part because of what we 
learned from September 11.
    What we can do and what actually exists in part today is to 
have a network of virtual--a virtual world where everyone is 
talking to each other, we are talking to Island, we are talking 
to the New York Stock Exchange, and customers can access prices 
at different places as we compete against each other, although 
we are all connected to each other.
    So the upshot is we are working toward it. I think we are 
partially there, but we have some wood to cut toward getting 
there.
    Mr. Deal. I assume you are saying since you are virtually 
unregulated by the government, you don't need our help in 
moving that direction.
    Mr. O'Hara. We are certainly--I see my friends at the SEC 
over there--we are very much regulated by the government, and 
we should be, quite frankly. But the fact is, and I think is a 
real credit to the SEC, that over the last 5 years they have 
allowed a lot of competition, they have taken some chances, 
rational chances, and I think in the end people are seeing 
results and cheaper, more efficient services for customers and 
investors.
    Mr. Stearns. The gentleman's time has expired.
    Mr. Deal. Could I ask unanimous consent for Ms. Kinney to 
respond to the question?
    Mr. Stearns. Sure.
    Ms. Kinney. The market models today and the New York Stock 
Exchange has a lot of competition. We certainly open every 
morning and have every regional exchange, NASDAQ, all the ECNs 
competing with us very aggressively, as you can hear from all 
of these testimonies. ECNs represent only 3 percent of the 
trading volume on the New York Stock Exchange, and you contrast 
that to the kind of activity that you see in the NASDAQ model 
where ECNs may be as much as 30 to 40 percent of the activity 
in Microsoft, for example.
    So the marketplace and the structures exist for the 
competition to occur. I would like to think that the New York 
Stock Exchange innovates very aggressively to compete. We have 
been successful there. We do believe that some centralization 
of the orders flow does provide the best prices.
    That said, we have to constantly be alert to those that are 
appearing today so that we are providing the kinds of services 
that customers want. At the end of the day, if they don't want 
what we are providing, they are going to send the order to Matt 
Andresen or to Mr. O'Hara or to anybody here and get an 
execution from them.
    So the New York Stock Exchange will compete. I think I am 
happy to report that so far, so good. But we are very alert. 
These are competitors we have a lot of respect for.
    Mr. Deal. Thank you, Mr. Chairman.
    Mr. Stearns. The gentleman from Arizona.
    Mr. Shadegg. Thank you, Mr. Chairman. I commend you for 
holding this hearing. I appreciate the unanimous consent to 
file my opening statement since I was a little late.
    Mr. Stearns. So ordered.
    Mr. Shadegg. Many of you have focused on the benefits of an 
Internet packet switched network system over a traditional 
circuit switch system. I guess I would like to kind of go the 
next step and ask you if you would comment on or elucidate us 
on what kind of challenges you think we need to think about to 
such a system given the possible threat of a cyberterrorist 
attack as opposed to a physical attack like the one we 
experienced on September 11.
    Ms. Kinney. I don't know that we would be supporting 
necessarily an Internet kind of connectivity. I think that Matt 
made the point, which we would agree completely with, and that 
is we are fortunate in that we can invite into the marketplace 
our members, those that have qualified and have certain 
requirements for capital, knowing their customers, and a 
variety of other regulatory requirements that at least make 
them on some level known to us.
    The New York Stock Exchange operates a private network 
among its members and therefore is protected in many ways from 
the security issues Mr. Deal questioned. And, in fact, 
following September 11, a number of the member firms have asked 
the Exchange, the Securities Industry Automation Corporation 
and, I think, others on this panel to be part of that 
discussion, to have for our industry a very private network 
that could be insulated in some way from some of the things 
that we experienced on September 11.
    I think many of our customers, many member firms, were 
mistaken when they thought if they bought from two carriers a 
service, that would be protecting them, one as a primary, one 
as a backup. They sadly learned that some of those were running 
through the exact same channels or cable.
    So I think that the question here is not to invite more 
opportunity and less security, but how do we provide that 
access at a very low cost with the assurances and with the 
redundancy that we all rely on in our industry.
    Mr. Andresen. I think the one positive thing we looked at 
in lower Manhattan Island is that our conversations with our 
subscribers about the importance of backup connectivity are 
much different today than they were in August. And Island has 
two data centers. They are two hot data centers, so they both 
link with the primary data center, but it only works for all of 
our customers, just like Cathy was saying in the New York Stock 
Exchange's case, if people are actually able to be physically 
connected. All of our subscribers were connected in New York, 
and about half were connected to our New Jersey data centers. 
Now all of the people are connected.
    I think the one very good thing, as I said, that has come 
out of this is that all the brokerage firms, all of the 
institutions are now painfully aware of what a point of failure 
truly is; that you need redundant geography, redundant 
connectivity in terms of carriers, and redundant lines, and you 
better have redundant hardware as well. It has to be tested, it 
has to be stressed.
    Mr. O'Hara. If I may add, the SEC has changes through its 
automated review process audit. It has very high standards in 
ECNs as well. They are contemplated in part--they are ARP'd 
today, as they say. The SEC, I know, is discussing whether to 
have full ARP compliance by ECNs as well. What ARP does is make 
you think about that exact issue, and you have to meet that 
standard. So from a regulatory standpoint it is covered, and 
exchanges and ECNs to an extent, and probably the fullest 
extent of exchanges will have to meet ARP audit standards of 
the SEC.
    Mr. Shadegg. Anybody else?
    Mr. Andresen, you said that we should eliminate any 
barriers that inhibit fair competition between electronic and 
traditional markets. Can you expand on that a little bit and 
elaborate?
    Mr. Andresen. Yes sir. Right now, as Ms. Kinney pointed 
out, ECNs are very--have been very successful in trading a lot 
of--conducting a lot of business in stocks. We have not been 
successful doing it in New York. I think that most of that 
credit has to go to the New York Stock Exchange. They are the 
preeminent price discovery marketplace in the world.
    However, in some ways Island feels that we are still 
competing with one hand tied behind our back. That is, when 
someone looks to see who has the best price in IBM, the 
investor who goes on to their Schwab account or goes onto Yahoo 
Finance to get their stock quotes doesn't see Island's price 
included, and that is, in my mind, one of the barriers to 
competition is that some marketplaces prices are treated as 
more legitimate than others, when, in fact, the legitimacy 
comes down to which one is faster, more reliable, more 
accountable, cheaper and has a greater certainty of execution.
    So as I have said earlier, Island actually takes all of our 
information and gives it out over the Internet for free. 
Unfortunately, while most professionals see that, and maybe a 
lot of investors do, when you go and ask where the best price 
is, you don't see it.
    I think it is analogous to a shopping mall. If you go to 
the shopping mall, you walk in, and you are like me, you like 
to get out of there fast. You go right to the map at the front. 
It tells you the men's shoes, B-6, and you go there and you get 
something to eat and you are out of there. The national market 
system provides such a map. It tells you where the best price 
is. Unfortunately, right now Island is treated like, you know, 
a Burlington Coat Factory across the highway. We hope that 
people, after they are done shopping, go over there and check 
us out on their way home. That quasi legitimacy that being in 
that shopping mall affords, and not having that is a 
significant competitive disadvantage for us.
    Mr. Stearns. The gentleman's time has expired.
    The gentleman from Massachusetts Mr. Markey.
    Mr. Markey. Thank you, Mr. Chairman very much. And thank 
you for holding this very, very important hearing.
    In a November 14th speech, Peter Vinella, the CEO of PVA 
International, a Wall Street consulting firm, identified a 
number of vulnerabilities in the U.S. financial system to a 
terrorist attack. I would like to walk the panel through three 
that he highlighted and get your reaction.
    Mr. Vinella said, quote, the financial--the U.S. financial 
system is vulnerable to a number of types of deliberate 
terrorist attacks. Here are three of the most obvious. No. 1, 
terrorists could destroy the major telephone switching stations 
in Midtown and downtown New York. Most of the financial system 
interacts over a network of dedicated point-to-point phone 
lines leased by individual firms. Nearly all electronic 
communications, even dedicated lease lines, use public phone 
company services and infrastructure. The destruction of a 
single Verizon switching station near the Trade Center 
disrupted electronic communications in Manhattan for weeks.
    Two, terrorists could place erroneous activity into the 
financial system. Most electronic trading systems are designed 
to prevent access by people unauthorized to trade, but nothing 
prevents a terrorist with the appropriate authorization from 
sowing enormous confusion in the financial markets. The New 
York Stock Exchange direct order turnaround trading system, the 
DOT system, is particularly vulnerable. The New York Stock 
Exchange members commonly allow their large institutional 
clients to direct their orders directly to the floor by way of 
the DOT system. From the New York Stock Exchange point of view, 
any traffic coming from the member firm is authorized activity. 
Although member firms are responsible for all activity on the 
line, they do not monitor their clients' DOT lines and assume 
that all the traffic on the line is authorized by their 
clients. A single terrorist working at an institutional client 
with access to the DOT line could send a high volume of 
convincingly realistic orders that would trigger a major sell-
off. All he would need to do is simply access a trading 
terminal and a simple password or two.
    And three, terrorists could destroy both the primary and 
disaster recovery sites of major financial institutions. The 
disaster recovery location of most firms is public knowledge. 
It wouldn't be difficult to place a truck bomb in New York and 
in a site in New Jersey.
    So I would like to ask our witnesses to deal with this 
question and begin with you, Ms. Kinney, if we could.
    Ms. Kinney. Since we all can hope to be in business for a 
long time to come, we will have to address all of these issues. 
Let me just start with the issue of the telecommunication and 
switching system. As I said earlier, the Exchange has developed 
private networks to access and to have a communication with its 
member firms. So we continue to look at that as a model and 
perhaps extend that model further, and also to continue to use 
other sources of connectivity other than simply lease lines or 
lines--dedicated lines, perhaps even using both virtual private 
networks as well as the Internet.
    So I think to the point, Mr. Markey, that was made here 
earlier, we all understand the importance of connectivity. We 
all understand the importance of redundancy, and we all have 
been--have brought all of that back and fresh and looking at it 
again to make sure that we can ensure and give confidence to 
investors that we are going to be there and able to trade, so 
that all of that that we have done that has worked well we will 
continue, and that which we found to be an area that could be 
improved subsequent to September 11 and even to these points is 
being addressed.
    With respect to the activity or unauthorized activity, I 
would say two things. One is the member firms, when they 
introduce orders to the New York Stock Exchange, they do have 
all of those orders coming through their infrastructure today. 
They are responsible for that order flow. Many of them do 
actually monitor that. And the Exchange will be putting in some 
services over time so that the firms can monitor the order flow 
and the commitment of capital or guarantees that the member 
firms have extended to those institutions more aggressively. We 
think that because of this connection, this private connection, 
between the firms and the Exchange, and the knowledge that the 
firms have to maintain with who are their customers, and the 
fact that these orders are going through their infrastructure 
before they get to our infrastructure, that together from a 
regulatory perspective we at least will be alert to who our 
customers are.
    That said, I think all of the points that have been raised 
here certainly are under way and are being addressed by all of 
us to ensure that we don't have circumstances where 
unauthorized people are accessing our systems.
    And I would say, last but not least, primary and backup 
services particularly for data sites are being evaluated by all 
of us. I think you probably are aware and have visited both of 
our data sites, many of you have. They are about a mile and a 
half apart as the crow flies. So all of those things are under 
discussion right now as to whether the Exchange moves to a 
third or move one of its data sites to a more desirable 
geographic location.
    So that said, all of these things I think very much came 
out of our experience on September 11. Many of them have been 
addressed, and many will continue.
    Mr. Markey. Can I ask you this question, because it is 
raised by Verizon, which has been making the case that it is 
really better to have one big monopoly there rather than having 
competitors there as alternative networks that could be used. 
What happened to you on that day and subsequent days? Was it 
helpful to have alternative networks that could be used in 
addition to Verizon, or would it have been better if just one 
company, the monopoly as Verizon was saying, is there?
    Ms. Kinney. It didn't matter what might have happened or 
what might have been better. I think all of us had the 
experience of relying on Verizon. So we face the challenge of 
having to work with them to get our customers reestablished in 
either their new locations or the current locations that were 
affected.
    Mr. Markey. But it does matter prospectively. Are you 
better having one network, or would you prefer to have 
redundant networks there so that you didn't have to be 
dependent just on one company, but there would be alternative 
ways to get business done?
    Ms. Kinney. It seems to me that Verizon has central offices 
located around the New York City area. I think this is more a 
question of making sure that everybody has redundancies within, 
you know, the New York City locations that are not as 
vulnerable perhaps as what was experienced.
    I think, Mr. Markey, also one of the things I said earlier 
that we all learned was that even if I thought I had Verizon as 
a primary and MCI as a backup, lots of cables have not been 
pulled in New York City for a very long time. So we all find 
ourselves, like it or not, with an issue that has to be 
addressed. We are reliant on their services.
    Mr. Markey. I know you are today, but we are also the 
telecommunications committee, so from my perspective I have 
always believed that if you had many competitors each 
providing, you know, service, that if one went down because 
their location was hit, then could you move the system, 
basically the economic system of the country, over to others if 
the New York Stock Exchange is vital in terms of the entire 
competent functioning. So philosophically would you prefer to 
have multiple networks or just one in terms of the 
vulnerability?
    Ms. Kinney. I don't think we have one network. I think you 
have heard everybody talk about the fact that there are a 
variety of points, a variety of execution models. We all have--
--
    Mr. Markey. So you prefer to have multiple networks.
    Ms. Kinney. We have multiple data sites today. We have two 
active data sites that support the New York Stock Exchange. I 
think that where we feel strongly about centralization, leaving 
the telecommunications side aside for a moment, is that 
bringing lots of buyers and sellers together in a single point 
provides benefits for the price discovery model, provides, 
certainly for us, benefits in terms of information flow. It 
certainly provides benefits to us in terms of regulation. So we 
feel very strongly about that.
    Back to your other point, I think we will all be searching 
for ways to insulate ourselves from whatever vulnerabilities or 
difficulties we experienced on September 11, and we will be 
looking for providers who do that. Verizon will have to comport 
with that along with all the other providers of service that 
exist.
    Mr. O'Hara. Congressman Markey, can I answer your question? 
Yes.
    Mr. Markey. Yes, you want redundancy. That is all I am 
looking for.
    Let's go down. Yes or no, do you want redundancy; yes or 
not?
    Ms. Kinney. Yes, of course. We have to.
    Mr. Markey. First man, could you say yes or no?
    Mr. Steinmetz. Yes.
    Mr. Andresen. Yes.
    Ms. Kinney. Yes.
    Mr. O'Hara. Yes.
    Mr. Bang. Yes.
    Mr. Randich. Yes.
    Mr. Jamaitis. Absolutely, yes.
    Mr. Stearns. The gentleman's time has expired. We are going 
to do a second round, so he is welcome to ask his questions----
    Mr. Markey. It is a yes or no for this question, so it 
would take no more than 10 seconds, then I could finish up. Do 
you believe that the institutions that use the DOT currently 
have appropriate internal controls to address the problems of a 
terrorist using the DOT to trigger a sell-off?
    Mr. Steinmetz. That actually depends what system they are 
using. It is not a simple yes or no answer.
    Mr. Markey. Maybe yes? More yes or no?
    Mr. Steinmetz. I could give a maybe on that.
    Mr. Andresen. I will give a Washington answer. I don't have 
an idea about their system.
    Mr. Markey. Good.
    Ms. Kinney. It doesn't--terrorists are not----
    Mr. Stearns. Could you talk into the mike?
    Ms. Kinney. The terrorist issue is not the issue. Today 
every single day everybody shows up and enters orders into the 
systems and think that the controls are there. Certainly 
September 11 heightened all of our----
    Mr. Markey. So you think the controls are there. So you 
don't believe that institutions are vulnerable to this kind of 
attack?
    Ms. Kinney. I think that institutions will need to be more 
alert, but----
    Mr. Markey. You don't think they are vulnerable.
    Ms. Kinney. We face these issues every single day.
    Mr. Bang. We employ risk management systems, so for the 
most part we are protected against this.
    Mr. Markey. You are protected.
    Mr. O'Hara. Yes.
    Then I would confirm the same thing with us. Again, I will 
point back before you came in Congressman, we talked about the 
ARP review that is an audit done by the SEC. This is picked up 
by it; that if they need to tweak that, maybe that is a place 
to start.
    Mr. Markey. Are more safeguards needed?
    Mr. O'Hara. I defer to the SEC. They do come in and audit 
these types of things.
    Mr. Markey. The SEC did not believe there was a problem 
with program trading in the summer of 1987. They all testified 
here, every one of the exchanges in the SEC, we have safeguards 
in place. So this is going to be the hearing, by the way, if 
anything happens in the future, you are all saying, no problem. 
So just so you know, they all said no problem, which got them 
in a lot of problems 3 months later. No problems, they all 
said. So you are on record now for this issue the way they were 
for program trading.
    Mr. Randich.
    Mr. Randich. NASDAQ uses real-time surveillance systems for 
this purpose and others, but we need to be continuously 
cautious.
    Mr. Markey. Mr. Jamaitis.
    Mr. Jamaitis. Any safeguards would be very system-
dependent, so it is not a simple yes or no. As technology 
improved our ability to detect these type of things----
    Mr. Markey. Does every institution have the internal 
controls necessary to make sure there can't be an attack? Do 
you agree that they do or don't?
    Mr. Jamaitis. I agree there is probably room for 
improvement.
    Mr. Markey. Do you know institutions that do not have 
controls that are sufficient to protect against it?
    Mr. Jamaitis. No.
    Mr. Markey. That is all good news to us that terrorists 
cannot really get through the system.
    Mr. Stearns. We will have a second round. We would like to 
have your questions. Let me open up. I will just take a short 
amount of time.
    Ms. Kinney had mentioned that the ECNs are only about 3 
percent of the New York Stock Exchange. And let me ask Mr. 
Randich, what percent is ECN of NASDAQ?
    Mr. Randich. Thirty-five to 40 percent.
    Mr. Stearns. So they are 40 percent. Now, why is it 40 
percent with the NASDAQ, but only 3 percent of the New York 
Stock Exchange?
    Mr. Randich. I can speak for NASDAQ as NASDAQ has a very 
open democrat architecture. We allow free access to many 
participants, and the ECNs have thrived in that environment.
    Mr. Stearns. So most of the ECNs were started in the late 
1990's, 1996. So in that short amount of time, they have gotten 
40 percent of the business of NASDAQ, but they are only stuck 
at 3 percent at the New York Stock Exchange. So, Mr. O'Hara, 
what is your comment why?
    Mr. O'Hara. I think if you refer back to our testimony and 
others at a data hearing, it is fairly--there is a primary 
answer, and then there are some side answers. But the primary 
answer is that there are legal and regulatory hurdles, some 
large, some have come down a little bit, for ECNs to compete in 
listed----
    Mr. Stearns. With the New York Stock Exchange, but they are 
not with NASDAQ.
    Mr. O'Hara. That is correct.
    Mr. Stearns. So all these regulatory hurdles are difficult 
for you to do business on the New York Stock Exchange.
    Mr. O'Hara. We have found it that way. Now we are 
graduating to Exchange status ourselves and would certainly 
like to change the clubby atmosphere that we call a fraternity 
house. There are certain blackballs, who is allowed in and who 
gets paddled for doing bad things.
    Mr. Stearns. So you are saying that the New York Stock 
Exchange is a fraternity with blackballs?
    Mr. O'Hara. No. I am saying that the national market 
assists the committees, the ITS committee and CTA, and we have 
had our battles there. If one--I believe there is eight or nine 
people on that. If one of them doesn't like the way you look 
that day, they pull out blackball, just the fraternity house, 
and you are done.
    Mr. Stearns. Would you put into our record a letter 
outlining what you think the regulatory hurdles are?
    Mr. O'Hara. I certainly would. Thank you.
    Mr. Stearns. Ms. Kinney, obviously, you would like to 
respond to that?
    Ms. Kinney. I don't know about fraternities, but----
    Mr. Stearns. I think being a fraternity might not be the 
right word.
    Ms. Kinney. I think the New York Stock Exchange provides a 
platform for competition. I keep referring to the chart to the 
left that was brought by the same gentleman who said that the 
barriers are high. I would say that all of these market models 
are free to compete with the New York Stock Exchange every day.
    Mr. Stearns. Last year, the Subcommittee Chairman of 
Finance and Hazardous Materials wrote to the SEC on an issue 
that seemed to affect the ECNs. I mentioned that in my opening 
statement. What I would like to do is have someone explain to 
me what the Consolidated Tape Association, or CTA, is. And just 
maybe the New York Stock Exchange could start; and, Mr. 
Steinmetz, you could talk in terms of if you are having access 
to the information that is generated by the stock trades and 
have the counterpoint to Ms. Kinney--is that possible--that you 
could explain what the Consolidated Tape Association, or the 
CTA, is?
    Ms. Kinney. I will do my best.
    Coming out of the 1975 act's amendment, the first priority 
was to provide information to the marketplace transparency 
about the markets and the bids and offers and trades that were 
taking place in those variety of marketplaces or market 
centers. So the Consolidated Tape Association was formed as the 
first block.
    Mr. Stearns. What year was that?
    Ms. Kinney. That was in the 1970's. Following--1979, just 
following the 1975 act's amendments. It was the first piece, 
the intermarket trading system coming just after that.
    But, again, it was to provide the marketplaces with an 
opportunity to centralize their information to provide a 
summarized best bid and offer and to provide the transaction 
information that was occurring in the various market centers.
    You know, the CTA has operated since that time. Hearings 
have been held--in fact, Mr. Seligman, at the direction of the 
SEC, held quite a number of--I won't say they were called 
hearings but meetings about how to make information, what about 
transparency, what about the Consolidated Tape Association, how 
to make that information--and those recommendations certainly 
have been put into the marketplace over the last several 
months.
    Mr. Stearns. Mr. Steinmetz, do you think there should be 
changes to the CTA? And, if so, what should they be?
    Mr. Steinmetz. Well, yes, there probably should be some 
changes to the CTA. I think the idea is that market data has 
similar issues to the ability to execute trades, and that is 
the ability to do it in different places or--as far as 
executing trades and as far as delivering the data, it should 
be able to be delivered dependent upon the network that 
actually has the data. So, for instance, if Instinet has 
certain data order flow quotes and orders that could be 
displayed, there should be some participation from the 
participant who actually has that data and order flow to be 
able to get something out of it.
    It, like the standard systems in general, should again go 
down the whole idea of the network effect rather than the 
single point so that there can be access to it and reward from 
it from multiple participants and not just one central 
location.
    Mr. Stearns. Mr. Andresen, do you have any comments on 
what, if any, regulatory change should be made to the CTA?
    Mr. Andresen. Yes, sir. One thing I want to point out, it 
is important to draw distinction between the New York Stock 
Exchange and the trading of the New York Stock Exchange listed 
stocks. The New York Stock Exchange in itself is not keeping us 
down on Broad Street.
    What is going on is the New York Stock Exchange lists these 
securities. They trade primarily on the New York. New York, as 
was outlined here today, does the majority of the trading of 
the stock. However, trading is facilitated in other places like 
Island and Archipelago and Instinet.
    So to continue with my analogy about a shopping mall, it 
would just be like having--the New York Stock Exchange is just 
like Macy's, the enormous store at the end of the shopping 
mall, and there are lots of little stores around it. The 
consolidated tape is that shopping mall, takes the prices from 
the different market places and right now primarily from the 
New York Stock Exchange.
    The issue with the consolidated tape in our mind at Island 
is that, for us to gain admission into the consolidated tape 
and now have our prices in the shopping mall, we then must also 
be a part of the intermarket trading system. You know, this, as 
I have outlined earlier, would be akin to if someone came in to 
buy some orange juice in our store in the shopping mall and 
someone had a better advertised price in another part of the 
shopping mall, it would be my obligation to grab them and put 
them in one of the carts and wheel them down to the other store 
and say I can't sell this to you, you have to go somewhere 
else.
    Nowhere else in our economy--if I go into 7-Eleven to buy a 
quart of milk, I do it at 2 in the morning, I don't want 7-
Eleven to send me off to Sam's Club in the boonies which isn't 
open for 8 hours, which I have to pay $50 to get in and where 
the milk is in five gallon jugs.
    So different customers are going to want different 
services. I think we have--there is unanimity----
    Mr. Stearns. So the interim market trading system is what 
really should be addressed, rather than the Consolidated Tape 
Association, in your opinion.
    Mr. Andresen. That is correct.
    Mr. Stearns. And in that area is where we need the reform.
    Mr. Andresen. That is correct.
    Mr. Stearns. Does anyone disagree or agree with that?
    Mr. O'Hara. I think a couple things, a couple historical 
markers here. In 1975 Congress, from a law standpoint, called 
on the SEC to build these structures. I think it was well 
intended and worked well until the days when we are now 
competing. These are competitors to primary markets.
    The SEC--and I think this is a good education for all--they 
held a yearlong committee headed by Dean Joel Seligman and 
discussed this issue where all the market centers, including 
probably everyone at this table, submitted white papers on this 
very issue.
    I think--from our standpoint, I think the New York Stock 
Exchange actually agreed with this, that the whole idea of 
consolidating reflecting sale of market data should be 
deregulated. And today it is heavily regulated. It is--there is 
a quasi-monopolistic pricing, if you will.
    If there is something to be looked at here it is the 
deregulation of this conglomeration of national market 
committees, i.e., ITS, CTA, and especially, you know, how they 
govern, again going back to this one black ball governance 
system where, if someone doesn't like you that day, you are 
done.
    Mr. Stearns. I think my time is up. And now the 
distinguished ranking member from New York, who will have his 
questions.
    Mr. Towns. Thank you very much, Mr. Chairman.
    I think earlier--I think it might have been you, Mr. Bang, 
that mentioned, in terms of the public policy discussion in 
terms of decentralization versus centralization, I noticed that 
you sort of came down on the side of decentralization. However, 
I would think that the trend would be the centralization with a 
back-up system, wouldn't it, in terms of efficiency?
    Mr. Bang. No. I would argue that decentralization is a 
better redundancy and provides for more competition and 
innovation in the long term because the centralization implies 
one counter party--one central point of failure and one service 
provider, whereas a decentralized marketplace implies multiple 
liquidity hubs operated by competing market centers offering 
the end investor an alternative destination for trading the 
same securities. So I would say decentralization is the 
preferable way to go.
    Mr. Towns. Ms. Kinney, can I ask you to respond to that as 
well?
    Let me just say, first of all, before I say that, 
congratulations on your being the future president of the 
Exchange. It is a great milestone and can only happen in New 
York. And also to give you an opportunity to speak a word on 
behalf of the sororities.
    Ms. Kinney. I think that one of the things that you are 
seeing in the marketplace today is a lot of consolidation among 
the various participants. I think Mr. O'Hara talked about the 
consolidation of Archipelago and REDIBook, and I think all of 
us are clearly looking at how to provide efficiency, a very 
cost-effective access to our respective models but to do that 
in a way that ensures that there is both redundancy as well as 
certainty to the customers who choose us. So I think we have to 
have--to Mr. Markey's question--redundancy and decentralization 
of our data sites and a variety of other things.
    That said, I think you are correct in the sense that we 
feel that the more centralization for order flow and a variety 
of other things the better investors and customers are served.
    Mr. Bang. Decentralization of order flow is essentially 
achieved today through a virtual network, and the key is to get 
these liquidity centers representing their clients' interests 
in quote montage. If you have that transparency and it is 
disseminated and the connectivity is provided, then essentially 
you have a virtual centralization of liquidity, which is better 
than a physical centralization of that liquidity.
    Mr. Towns. Thank very much, Mr. Chairman.
    On that note, I yield back; and I wanted to congratulate 
you on having this hearing. I think it is important that we are 
able to get this kind of information. And I wanted to let you 
know the SEC is in the room.
    Mr. Stearns. I thank my distinguished colleague.
    Let me conclude the hearing by again complimenting the 
exchanges for getting back into business so quickly and the 
ECNs for their rapid deployment during this September 11 
crisis. As a result of this hearing, there is a lot of perhaps 
policy issues that the committee should look at.
    I thank you for your participation and hope all of you have 
a happy holiday.
    [Whereupon, at 12:30 p.m., the subcommittee was adjourned.]

                                
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