Blackstone Group LP (BX) and several other companies have replaced Knight Capital Group Inc. (KCG) as the designated market maker for certain securities on the New York Stock Exchange, because of potential conflicts of interest arising from the trading firm taking on new backers.
The NYSE ordered that some securities be reassigned to other market-making firms because Knight's new investors--a consortium including Jefferies Group Inc. (JEF), Blackstone and trading firm Getco LLC--had common ownership or business relationships with some of the issuers of those securities, according to a person familiar with the move by the exchange. Designated market makers--formerly known as specialists--act as intermediaries among brokers looking to buy and sell shares and have obligations to maintain orderly markets and facilitate pricing in their assigned securities.
The exchange's rules give it broad authority to ask for the reassignment of securities that are perceived to present potential conflicts, such as firms having ownership stakes in their designated market maker, the person familiar with the matter said.
Such potential conflicts put a small dent in Knight's business acting as the designated market maker for companies that trade on the Big Board. They come in the wake of six firms investing in Knight earlier this month, which helped the brokerage stay afloat after a software glitch triggered $440 million in trading losses.
Potential conflicts resulted in Blackstone replacing Knight as the designated market maker for two closed-end funds it sponsors, according to a person familiar with the company's switch. DDR Corp. (DDR), a real-estate investment trust, moved away from Knight as the market maker for its stock and several issues of preferred shares because a venture between DDR and Blackstone bought 46 shopping centers for $1.4 billion in June, according to people familiar with the matter.
Technology outsourcer Genpact Ltd. (G) replaced Knight with a Goldman Sachs Group Inc. (GS) market-making unit because both Genpact and Getco, which was part of the group investing in Knight, share the private-equity firm General Atlantic as an investor.
"When Knight basically was bailed out by the consortium, we looked at it as, "Oh, they're on firm footing'," a Genpact spokeswoman said. "In this case, it wasn't our choice, it wasn't Knight's choice. It's just a stock-exchange rule."
The trading firm has lost such assignments for at least seven stocks, preferred stocks or closed-end funds this month, according to NYSE records. It is unclear whether more will follow.
"These are very small listings--it's not as if they lost IBM or they lost Exxon," said James Angel, visiting associate professor at the University of Pennsylvania's Wharton School of Business. "Sure, you'd hate to lose anybody, but these are all perfectly understandable reasons which really don't have anything to do with their underlying capacity as a DMM [designated market maker]."
Knight Capital doesn't serve as the designated market maker for International Business Machines Corp. (IBM) or Exxon Mobil Corp. (XOM). Well-known stocks it covers include the U.S.-listed shares of Sony Corp. (SNE, 6758.TO).
Fewer than 750,000 shares of Genpact traded hands over the past 30 days, according to FactSet. That makes the stock less attractive to a market maker than the shares of, for example, Bank of America Corp. (BAC), which saw more than 150 times as many trades. Market makers earn fractional sums many times over by providing liquidity to potential buyers of a stock. The more the stock is traded, the more they stand to earn.
Knight is the designated market maker for more than 600 securities on the NYSE and NYSE MKT, another stock exchange run by parent company NYSE Euronext (NYX), according to a recent statement by the exchange. Knight and electronic-trading rivals Getco and Virtu Financial have gotten into designated market making in recent years even as the number of floor-trading firms at the exchange has shrunk.
A Blackstone spokesman declined to comment on the move. A DDR spokesman didn't return calls for comment. A spokeswoman for Knight declined to comment.
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