<SPECIAL FEATURE>
June 15, 1999

Knight/Trimark Group for Dad
by Paul Motter ([email protected])

Trading at 43 1/4 as of June 14, 1999

Hey Dad, if there's anything I learned from you it's that it takes money to make money, so I want to tell you about a stock I think is definitely worth a look. The company is Knight/Trimark Group Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: NITE)") else Response.Write("(Nasdaq: NITE)") end if %>. The company's 10-K explains the business like this:

Knight/Trimark is "the leading market maker in Nasdaq securities and in the Third Market, which is the over-the-counter market in exchange-listed equity securities, primarily those listed on the New York Stock Exchange (NYSE) and the American Stock Exchange (AMEX). [It also makes] markets in approximately 6,700 equity securities in Nasdaq and on the OTC Bulletin Board of the NASD (OTC). Through our wholly owned subsidiary, Trimark Securities, Inc. (Trimark), we make markets in all NYSE- and AMEX-listed equity securities in the Third Market."

Sounds confusing, doesn't it? Let me see if I can explain what a market maker is.

As you know, on the NYSE there is an entity known as a specialist whose job it is to match buy and sell orders and facilitate the trading process. Well, OTC (over the counter) orders (including Nasdaq) work a little differently. Trades on those exchanges are facilitated by companies that actually buy and sell shares of stock and hold them in their own accounts. They then provide liquidity to the market by making the shares in their own accounts available to the brokers who service retail clients. Market makers are essentially the wholesalers of security shares. Knight/Trimark serves national and regional full-service broker-dealers, online brokers, and institutional investors.

Knight does a lot of trades every day; in fact, it recently had a one-day record of over half a million trades. The vast majority of them happen automatically over electronic trading systems, though some of the larger trades are handled over the telephone. But Knight only makes a small percentage of its money from commissions. For the bulk of its revenue, it has to use its cunning and the skill of its in-house traders. Market makers actually make their profit from the spread between the bid and offer price of a stock at any given moment.

For example, let's say I wanted to buy 100 shares of Dell. If the bid is $33 3/4 and the offer price is $34, then my market order to buy would get executed at $34 but the person selling the shares (at "market") would only get $33 3/4 per share. Knight/Trimark keeps the difference. Their compensation for providing the liquidity to the market is that they "make the spread" on nearly every trade that is processed through their trading system. In fact, they do it hundreds of thousands of times a day.

Of course, markets move and sometimes trades can go against them -- that is part of the risk of making a living in financial markets -- but the vast majority of the time, buy and sell orders even out and the market maker comes out ahead. In fact, with the number of shares they own and with their ability to instantly execute trades, market makers are actually more in control of the markets rather than the other way around.

Knight/Trimark has experienced outstanding growth during the last three years, but its last quarter (March 1999) was phenomenal. It beat the consensus earnings estimate by 67.5%, coming in with earnings of $0.34 per share, equal to half of its entire revenue for 1998. Q4 revenue soared 78% to $119 million, and adjusted EPS jumped 83% to $0.33. Return on equity hit an annualized 37%. For the full year, revenues traded up 57% to $356 million.

 Fiscal year:         1996        1997       1998   
 Revenues*          $185,176   $226,667   $355,733
 Earnings per Share   $0.245     $0.335     $0.68
*in thousands