249-Direct Edge – A Transformer Next Leader Product

A Next Leader competitor is in an extremely fortunate position. A Next Leader is a competitor or product that offers much better than industry standard performance for a low price to a specific subset of industry customers. While offering better benefits to some customers, it may reduce benefits for others. But all Next Leaders offer low prices. The Next Leader can do this because it has a very low cost structure. (See “Video #22: Definition of Next Leaders” on StrategyStreet.com.) Next Leaders do not appear in many industries. When they do appear, they can change an industry, whether the industry is in manufacturing, retail or service. For example, Toys R Us invented the Toy Retailing Category Killer, a Next Leader product. Home Depot has done much the same in hardware retailing. Other Next Leaders include the early Apple personal computer, Intuit personal financial management software, Jiffy Lube in auto services and Domino’s Pizza.

We have studied many Next Leader competitors. Our study has suggested there are two kinds of Next Leaders products: Reformers and Transformers. A Reformer product is a type of Next Leader that reduces the benefits for the user while increasing benefits for the buyer, compared to the industry’s Standard Leader product. Jiffy Lube and Domino’s Pizza would both be Reformer Next Leader competitors. The second type of Next Leader competitor, Transformer products and companies, increase the benefits for the user of the product but offers, at least initially, fewer buyer benefits than the Standard Leader product. Toys R Us and Home Depot are two examples of Transformer Next Leader competitors.

Direct Edge is an example of a Transformer competitor. It offers its customers very fast securities trading on virtually any platform, from computers to smart phones. It is a young electronic stock exchange and it is having a big impact on securities trading. Its first noticeable impact is in market share. As recently as five years ago, the New York Stock Exchange accounted for 70% or more of the trading in the stocks listed on its exchange. Today, the stock exchange handles 36% of those trades. (See “Audio Tip #85: Introduction to Step 15 of the Basic Strategy Guide – Evaluate the Company’s Success in Penetrating each Price Point in the Market” on StrategyStreet.com.) Twelve other public exchanges, several electronic trading platforms and many “dark pools” command the rest of the market share in NYSE listed stocks.

Direct Edge came into existence during 2010. Several brokerage firms and other financial players formed Direct Edge to offer a counter veiling power to the New York Stock Exchange and Nasdaq. Direct Edge now owns 10% of stock trading in the United States.

Direct Edge is not only big and fast-growing, but inexpensive as well. It has ready access to the share trading of its brokerage house and hedge fund owners. It operates many banks of state-of-the-art computers in warehouse-type facilities in New Jersey rather than in more-expensive New York. And, despite its size, it has fewer than one hundred employees.

The evolution of these non-traditional exchanges has resulted in declining trading costs and much faster trading times for all customers. Next Leaders do that.

Posted 2/10/11

Update:

The notable success of Direct Edge attracted market attention and eventually acquisition by larger firms. The firm itself no longer exists though it’s two critical pieces have survived the acquisitions.

Direct Edge began life as an Exchange Communications Network (ECN) in 1998.  The ECN was acquired by the Knight Capital Group in 2005 and spun off as an independent company in 2007.  In 2010, the ECN converted to a licensed exchange.  It operated dual equity trading platforms, EDGX and EDGA.  The exchange traded all listed U.S. equities, including Tape A (NYSE listed), Tape B (Arca/Amex listed) and Tape C (NASDAQ listed) stocks. Direct Edge pioneered the bifurcated market structure, operating two platforms as opposed to one, and the integration of dark and displayed liquidity. The dual platform model aided Direct Edge in serving different customer bases. Both platforms offered identical securities for trading but employed independent fee schedules and attracted different types of order flow.  Another Direct Edge distinction was its innovative role as the first displayed market center to facilitate dark liquidity participation in its market.

BATS acquired Direct Edge in 2014. At the time of the merger, Direct Edge ranked as the third or fourth largest stock market in the United States and traded over 1 billion shares a day. By 2016, Bats had become the second-largest U.S. equity exchange by market share and was the largest Exchange Traded Fund (ETF) exchange. In 2017, CBOE acquired BATS. The EDGA and EDGX exchanges continue their existence in the CBOE family.

This is a story of high quality products continuing to exist through acquisitions as larger companies acquire smaller firms and their unique products. See HERE and HERE for more perspective.

12/22

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