Starting up a competitor to E*Trade
October 23, 2005 4:37 AM   Subscribe

What would it take to start (in terms of licensing and registering) a "competitor" (in a very vague and loose sense of the word) to E*Trade?

If I were to go to a stock broker, he'd have to be licensed to sell me securities. If I use E*Trade or a similar online broker, how is that licensing handled? If I started an E*Trade-like company, would I need to be licensed? Could I hire someone who's licensed? Because the users of E*Trade aren't dealing with an individual broker (but rather a database / network), do they have to go through anybody who's licensed? (I'm guessing that's a "yes," but whom would they go through?)

Obviously, larger companies like E*Trade will have licensed brokers on staff who have moved laterally from other brokerages. But when companies like that are starting out, what is required of them to legally be a connector between people who want to buy stock and people who want to sell stock?

I also know that such a company would need to register with the NASD and the SIPC, but what other regulatroy hurdles would there be?

To clarify: I'm not interested in competing with E*Trade and its ilk directly. I have an idea that, if I can take it anywhere, would probably compete indirectly with them, and would probably require the same sorts of licensing. I'm curious about how that works. I'm not currently in the finance world, and I know that you have to be "sponsored" to take the Series __ exams. Also, I'd rather focus on the business development end of things with this "startup" (read: kitchen table idea), rather than learning the minutia of securities. This is all a longshot (kick de bucket) I know, but I would love to see this idea go somewhere.
posted by Alt F4 to Work & Money (8 answers total)
I don't know about the US, but in the UK you need to get FSA regulation. (E-Trade are FSA regulated.) This means that you need to take an exam yourself, but also that after that you have to comply to all sorts of FSA directives and generally suck up to anything they ask of you. This means keeping large numbers of backups of your data, doing all sorts of fun fraud and money laundering checks and so on.
posted by alexst at 5:38 AM on October 23, 2005

Perhaps CFTC too. I worked for a forex house while it got its CFTC/NFA approval, and it's pretty unpleasant.
posted by scruss at 5:48 AM on October 23, 2005

Response by poster: So the company has to go through an approval process, which would probably require a number of already-licensed brokers?

Any other thoughts?
posted by Alt F4 at 11:23 AM on October 23, 2005

Response by poster: Or, an alternate tack, if anyone can help me figure this one out, I'd appreciate it: What computers are at NASDAQ and the NYSE and so forth that we'd be connecting with? User logs in to E*Trade (or whatever). They say "I'd like to buy 3 shares of MEFI." When they hit submit, the E*Trade server connects with ____________ and executes the trade. Who's ____________? How would one get access to ____________?
posted by Alt F4 at 12:00 PM on October 23, 2005

Best answer: I'm not an expert on this, but I may be able to offer some useful clarification:

* Licensing of brokers has to do with those that interact directly with individuals, I think; for computerized trading companies, presumably there are a few, key licensed individuals.

* There are separate regulations pertaining to the COMPANY/organization; in the U.S., I think there are regulations from the Securities and Exchange Commission. (Registration, minimal capital requirements, financial statements to be filed periodically, etc., I'd guess), as well as exchange (NYSE, etc) requirements.

* There are essentially two ways of trading - through an exchange (NYSE), and internally (maybe affiliated companies) via a network. Exchange trading means that the buyer and seller may be going through two different brokerage firms. NYSE trading, for example, requires purchase of a seat (membership) on the NYSE (alternatively, a firm can trade via someone else who is a member, paying extra for that priviledge). Internal trading is relatively recent (with cheap computerization) - the buyer and seller go through the same firm (or network), which makes the trade.

* There isn't a snowball's chance in hell that anyone but a member firm can get access to the NYSE or NASDQ trading computers, or will disclose any information to you; in any case, it's probably a VPN.

* The biggest problem (other than trustworthiness, which is HUGE) in setting up any kind of trading arrangement is getting enough participants so that the there are a lot of buyers and sellers, with trades taking place in the middle. You give the example of someone saying I'd like to buy 3 shares of MEFI. But that's not what someone says. To the end of that sentence you need to add either at price X per share, or at the market price. In the former case, if the price they cite is below the market price, the buy order is held (in "book"). In the latter case, the central clearing point looks at the book of sell orders (book), and picks the one willing to sell at the lowest price, then notifies both parties that a sale has taken place.

You say I have an idea that, if I can take it anywhere, would probably compete indirectly with them,, and I can understand your not wanting to go into any details. But it would be helpful if you'd talk a bit about the problem that you think your idea would solve - what is now too slow, too expensive, etc.?
posted by WestCoaster at 3:06 PM on October 23, 2005

Response by poster: That's hugely helpful, WestCoaster. Thank you for that input. I'll get in touch with you soon with some more details on the idea, and the problems I think the idea would solve.

But in the meantime ...

Would you (or anyone else) have suggestions for places where I could ask more questions in this vein? Places where I can do research to find this sort of thing out? Although your answers have certainly given me a lot of direction, they also open up new questions. Google will be helpful, to be sure, but if you (or, again, anyone) have any resources you recommend, I'd be grateful if you'd share them.
posted by Alt F4 at 7:19 PM on October 23, 2005

It's my understanding that in order to trade NYSE stocks, your firm would have to be an NYSE member, or route through one. Trades on those stocks can go through ECNs, but if there is a better price offered on the floor, it's the law that it has to be executed on the floor. Given that the price of a seat on the exchange is quite high, you might need to route your orders through another broker. Obviously this really depends on what you are trying to do, and what sort of volume you can run, and what commissions you can charge. Unless you are purely forwarding all orders through another broker with some sort of volume discount, it's going to be quite expensive to set all of this up. Furthermore, the licensing will probably be time consuming, involve a lot of legal expenses, and a lot of time. This is probably not bootstrap, two man startup territory.
posted by cameldrv at 10:27 PM on October 23, 2005

Response by poster: This is probably not bootstrap, two man startup territory.

It's a shame, that whole "taking money to make money" thing. Thanks, everyone, for your input.

It makes sense that there are these obstacles in the way. I mean, it's the kind of idea that you'd think someone would have done by now ... except for the $2,000,000 it would take just to get a seat on the NYSE, and the host of other issues that I'm now realizing would be present throughout the development cycle.

Thanks, WestCoaster and cameldrv for your help.

If anyone else feels compelled to toss in any other info you think might be helpful, please do so. I'm guessing my idea's chance of happening is 1/10,000 (or less), but I'd still love any other info you'd like to share.
posted by Alt F4 at 3:41 AM on October 24, 2005

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