Knight regains market share, under pressure over rescue

Tue Aug 7, 2012 7:26pm EDT

A trader stands by the post that trades Knight Capital on the floor of the New York Stock Exchange August 3, 2012. REUTERS/Brendan McDermid

A trader stands by the post that trades Knight Capital on the floor of the New York Stock Exchange August 3, 2012.

Credit: Reuters/Brendan McDermid

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(Reuters) - Knight Capital Group Inc (KCG.N) has regained some of the market share it lost after a huge trading loss last week nearly ran it out of business and will resume full market-making responsibilities as of next week.

Knight, which secured a $400 million bailout from an investor consortium in exchange for a 73 percent stake, may have turned down a more lucrative rescue bid that might have had less of an effect on shareholders from hedge fund Citadel LLC, a source familiar with negotiations said on Tuesday.

The bailout has restored some confidence in the firm days after a software glitch caused a trading loss of $440 million - most of Knight's capital - and caused customers to desert. Trading volumes are now steadily recovering.

Knight has been the largest U.S. provider of retail market-making in New York Stock Exchange and Nasdaq-listed stocks, buying and selling shares for clients.

NYSE Euronext in a statement on Tuesday said that Knight would resume as of August 13 all of the responsibilities that have been temporarily transferred to Getco, another market-making firm and a participant in Knight's bailout.

Knight's share of volume in the Nasdaq 100 tracking ETF (QQQ.O) was 20 percent at noon Tuesday, according to Thomson Reuters AutEx data, above its usual average of 13.3 percent.

In other heavily traded stocks, Knight was handling more volume than in the last few days, but volumes had not reached the levels from before the snafu, according to those figures.

As a market maker, it provides liquidity to equity markets by stepping in to buy and sell stocks, using its own capital to ensure orderly activity.

Knight shares opened trading more than 6 percent higher but gave up all the gains during the course of the day. The stock closed down 1 cent at $3.06, giving Knight market capitalization of $301.5 million, slightly below the bailout amount under the deal with a consortium led by Jefferies Group Inc JEF.N. Under the deal, the consortium will have three seats on an expanded board.

Knight had an offer from Citadel for $500 million, which would have been in exchange for less than 20 percent of the company as well as a majority stake in its Hotspot FX foreign currency platform, a source familiar with the matter said on Tuesday.

Citadel, which has a large market-making business, Citadel Securities, did not comment.

"Knight explored a wide range of alternatives. After a thorough review, Knight determined that the $400 million equity investment was the best and only alternative for the company and its shareholders," Knight said in a statement.

Sandler O'Neill analyst Richard Repetto, in a note Tuesday, estimated that Hotspot FX alone could sell for $155 million. Sandler O'Neill advised Knight on its capital raise.

Blackstone Group LP (BX.N), the private equity firm that was part of the six-member consortium that bailed out Knight, was also in talks with the trading firm about an investment or a management buyout for months before the trading snafu, according to another person familiar with that matter.

Blackstone declined to comment.

WHAT IS KNIGHT WORTH?

Under the $400 million capital infusion for Knight, Jefferies got the biggest piece of the pie, with shares that will represent a 22.8 percent stake in Knight. Blackstone and Getco will each hold a 16 percent stake. The other consortium members are financial services companies TD Ameritrade Holding Corp (AMTD.N), Stifel Nicolaus (SF.N) and Stephens.

TD Ameritrade will hold 7.3 percent, and Stifel and Stephens each get 5.5 percent.

For other investors, the question is how much Knight is actually worth, given its current circumstances. KBW analyst Niamh Alexander assigned a new price target that is 75 percent of tangible book value, citing two months of trading losses, risk of lawsuits, and dilution. Before the loss, Knight traded at 90 percent of book.

Barclays Capital analyst Roger Freeman, in a note on Monday, also suggested that a valuation around 75 percent of tangible book value was reasonable in light of Knight's situation.

An industry recruiter who has reached out to 30 Knight employees, ranging from managing directors down the chain, said Tuesday that some people were saying they were going to stick it out, while half gave him their resumes.

Knight CEO Thomas Joyce said on Monday that the firm would look at its business units over the next few months and decide whether all of the parts should remain in place.

JPMorgan analysts have suggested that investors will look at Knight only as the sum of its parts, in expectation of an eventual breakup. Among the most attractive assets are Hotspot FX and Urban Financial, the second-largest reverse mortgage lender in the United States.

(Reporting by Ben Berkowitz in Boston and John McCrank in New York, additional reporting by Rodrigo Campos, Matt Goldstein, Jed Horowitz, Jessica Toonkel and Greg Roumeliotis in New York; Editing by Lisa Von Ahn and Leslie Adler)

(This story was refiled to correct the market cap figure to $301.5 million, not "billion." in the ninth paragraph)

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