History
One of the key developments in the history of ECNs was the NASDAQ over-the-counter quotation system. NASDAQ was created following a 1969 American Stock Exchange study which estimated that errors in the processing of hand-written securities orders cost brokerage firms approximately $100 million per year. The NASDAQ system automated such order processing and provided brokers with the latest competitive price quotes via a computer terminal. In March 1994, a study by two economists, William Christie and Paul Schultz, noted that NASDAQ bid-ask spreads were larger than was statistically likely, indicating "We are unable to envision any scenario in which 40 to 60 dealers who are competing for order flow would simultaneously and consistently avoid using odd-eighth quotes without an implicit agreement to post quotes only on the even price fractions. However, our data do not provide direct evidence of tacit collusion among NASDAQ market makers." These results led to an antitrust lawsuit being filed against NASDAQ. As part of NASDAQ's settlement of the antitrust charges, NASDAQ adopted new order handling rules that integrated ECNs into the NASDAQ system. Shortly after this settlement, the SEC adopted Regulation ATS, which permitted ECNs the option of registering as stock exchanges or else being regulated under a separate set of standards for ECNs.Christie, William G. and Schultz, Paul H. "Why Do NASDAQ Market Makers Avoid Odd-Eighth Quotes?" The Journal of Finance 49:5 (December 1994), pp. 1813–1840."Statement on the Structure of the Nasdaq Stock Market", Financial Economists Roundtable, September 18, 1995.
At that time major ECNs that became active were Instinet and Island (part of Instinet was spun off, merged with Island into Inet, and acquired by NASDAQ), Archipelago Exchange (which was acquired by the NYSE) and Brut (now acquired by NASDAQ).
ECNs enjoyed a resurgence after the adoption of SEC Regulation NMS, which required "trade through" protection of orders in the market, regardless of where those orders are placed.
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