Stock Futures

For Jerry Putnam, founder and CEO of an electronic stock-trading network called Archipelago Holdings, the big test arrived unexpectedly last November 28. Putnam was just wrapping up a meeting in New York when his BlackBerry flashed an email from headquarters: "Check out what's going on with Enron." Standard & Poor's had announced that it was down-grading Enron's bonds to junk status, sending the stock of the once-mighty company into a death spiral.

When a company's shares crater, it's up to the New York Stock Exchange specialist responsible for trading the stock to "catch the falling knife" -- to buy into the selling. The Standard & Poor's announcement unleashed a stampede to dump Enron, forcing the Big Board to declare an order imbalance and halt trading of Enron and other related stocks. The knife was just too sharp for the overwhelmed specialist to catch.

The knife wasn't too sharp for Putnam's operation. As Enron sell orders blinked across its computer screens, Archipelago kept at it. Finally, after a 29-minute blackout, the Big Board resumed trading. For Putnam, those 29 minutes were a defining moment. Archipelago and the other electronic marketplaces traded more than 10 million shares of Enron. That put the lie to criticism that the electronic-trading markets, which lack the NYSE's 210-year history, can't safeguard markets in stressful times. "This was a tragedy for Enron and an embarrassment for the Exchange, but it was proof of concept for us," Putnam says. "Enron collapsed, but on our system, it collapsed in an orderly fashion. Meanwhile, the New York Stock Exchange's systems overloaded. Big deal. In the end, nobody missed them."

Putnam says this without a trace of the hubris that fueled so many young companies just a few years ago. He knows that Archipelago isn't about to topple a Goliath like the NYSE. But for Archipelago to win, he argues, the Exchange and Nasdaq don't have to lose. He is creating an alternative to the established powers -- a system that is forcing stock markets to radically change the way they operate. It's a simple fact that more and more volume is moving to electronic platforms. Putnam says that in five years, "there will be a significant electronic stock exchange in the United States, similar to those in London and Paris." He leaves no doubt that Archipelago will lead the charge.

Putnam himself offers lessons on how innovators in every industry need to operate today. He is overflowing with bold ideas and big ambitions, but he doesn't act like a wild-eyed business revolutionary. At the level of strategy, he thinks outside the box. But when it comes to the messy, high-stakes work of making change, he has learned how to innovate inside the box.

A Whole New Way to Trade

Jerry Putnam is the face of Wall Street's future. He helped create a new class of trading systems, known as electronic-communications networks (ECNs), which use computers to match bids and offers. Because of their ability to match trades in milliseconds and cut into dealers' spreads, ECNs are now widely used by online brokerages, market makers, and institutional investors, putting pressure on the established exchanges.

Archipelago is not the largest electronic network. (Instinet and Island share that distinction.) But it is the fastest growing. And late last year, it became the largest in terms of total share volume, although a large portion of its volume is routed to other markets. Like the other top-tier electronic networks, Archipelago has sparked a rush to get a piece of the action among those who will lose big if they are left behind. That's why Putnam's challenger brand is being funded by some of Wall Street's power players. Archipelago has raised about $300 million from the likes of mutual-fund manager American Century, CNBC, E*Trade, Goldman Sachs, and Merrill Lynch.

But Putnam isn't content just to build a trading network. He is building a national electronic stock exchange. In March, he launched the first totally open, fully electronic exchange when he allied Archipelago with the San Francisco-based Pacific Exchange. The result, dubbed the Archipelago Exchange (ArcaEx), is publishing its limit-order book on the Internet (the first exchange to do so), listing stocks on its own, and attempting to lure blue chips away from other exchanges.

In effect, Archipelago is mounting what could be the biggest challenge to Nasdaq since that market was itself the fiery up-and-comer some 30 years ago. But Nasdaq is fighting back. It plans to launch its own computer-driven "ECN killer," the SuperMontage trading system. Even the mighty Big Board, which in the past 12 months has seen the electronic venues nearly double their share volume in NYSE-listed stocks (albeit from 3.3% to 6.1%), is rolling out its own electronic-trading initiatives. This April, in a big break from its history of paper-based trading, the Exchange unveiled NYSE Direct+, a computer-driven system that executes limit orders in seconds.

Market watchers liken the revolution on Wall Street to the breakup of AT&T. Just as no one foresaw the wave of innovation that followed the dissolution of Ma Bell, no one can be sure how the changes on Wall Street will play out. That said, one thing is clear: Wall Street's market structure is up for grabs. "We are living in phenomenal times," says Greg Smith, author of a recent J.P. Morgan Chase report on ECNs. "The Exchange's dominance is slowly eroding. As a group, ECNs have reached a critical mass that will not be displaced."