- Joined
- 6/3/06
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IN MOST BUSINESSES, THE BIGGEST customers can cut a sweeter deal from vendors than smaller ones get. But not in the stock market.
Mutual funds and other big-money players who need to buy and sell shares in vast quantities are increasingly vexed by the market's inability to absorb large blocks quickly without affecting the price and telegraphing their intentions. Meanwhile, the individual punter buying 100 shares in a discount-brokerage `account can access the market more rapidly and cheaply than ever before.
This upside-down situation has grown from a mix of technological evolution, regulatory change, altered brokerage business economics, heightened focus on trading costs and fragmentation of what used to be highly concentrated trading forums also known as the major exchanges.
Alternative, electronic trading systems have sped up the market and dispersed liquidity, creating more cul-de-sacs for trades between individual funds than superhighways reaching everyone. Dozens of "alternative trading systems" and "dark liquidity pools" -- where vetted buyside firms can seek a direct counterpart for a trade -- promise buyside traders the perfect match, but detract from public-market depth.
The bear market of 2000 to 2002 and greater board vigilance at mutual funds have made transaction-cost analysis a key priority. New black-box systems have allowed opportunistic short-term traders to detect large funds' order flow and piggyback on it, deterring the funds from displaying their full buying or selling interests. And the growth of top fund firms into behemoths means they need to move much larger volumes.
Traditionally, an institutional broker would get a call from a fund wanting to unload a sizable slug of stock and would "work" the order over the course of hours or days. But more and more, funds don't want their intentions exposed to other market players for any length of time. "Show me yours, but I won't show you mine," is the way one Wall Street executive describes this new attitude.
Bill Yancey, who runs the stock-clearing business of the financial technology firm Penson Worldwide, says, "The biggest challenge today is trading blocks. It's hard to get size done. There are so many dark pools and so many people 'pinging' around and so much paranoia about information leakage. It's hard to find a solution, because no one is willing to give up a lot."
The amount of stock publicly displayed near the market price is often trivial, even in heavily traded issues, in large part due to fear that other investors will step ahead of imminent orders merely by bidding a penny more. The quoted volumes on the bid and offer don't remotely reflect true demand and supply, which only heightens fund traders' insecurity and frustration.
Adds Paul Hanson, director of another trading-technology provider, Alberta Technology Solutions, "Most exchanges focus on the 8% to 10% of their listings that trade freely and ignore the 92% of illiquid stocks. The greatest problem to solve is the U.S. market for large trades."
All this is occurring as the economic relationship between the buy and sell sides is changing quickly. Compression in trading commissions and heavy technology costs have made simple stock brokerage a business requiring either massive scale or a niche specialty.
The biggest firms have the infrastructure to handle most client orders electronically and also stand ready to commit capital to take the other side of a client's trade onto their books. Think of Kirk Kerkorian's Tracinda last month unloading $400 million of General Motors shares in a single block trade with Bank of America. A Tabb Group survey of buy-side traders a couple of years ago revealed that what they most wanted from their brokers was "market color" and capital commitment. With more volume going "dark," there's less value in market color, but capital is still vitally important.
With so much money at stake it's not surprising that a mini-industry has arisen to solve the large-block dilemma.
So-called crossing networks, such as ITG's Posit, are essentially off-exchange meeting places where funds and brokers pair off orders, and are said to make up some 15% of all block volume (but less than 5% of total volume).
The dark pools are an innovative, if imperfect, additional step. LiquidNet, an early success story, allows certain institutions to trade directly with one another by having their buying or selling interest shown only to firms that have a likely match. Those who abuse the system or back away from trades too often are bounced.
A handful of major investment banks joined in September to form BIDS, or Block Interest Discovery Service, with technology developed by Alberta Technology.
Although similar to dark pools, BIDS will operate as a strictly non-profit utility and include sell-side participants. Not only will perfect matches be consummated, but nearly matching orders will offer a chance for anonymous price negotiation. Firms will be rated on the quality of their counterparty activity and participants can decide what kinds of counterparts to trade with.
These are better mousetraps. But ultimately the fragmented market has to re-consolidate, as it did following a splintering phase in the 1990s. This might happen through new order-routing technology that will "sweep" all electronic systems and dark pools to assemble a large order. Just like a good block trader used to do in working an order, only faster and without the off-color jokes.
For mutual-fund shareholders, managers' focus on transaction costs can only be a good thing. Even better would be managers churning their portfolios less. But that's probably wishful thinking in today's manic market.
(c) Barrons Jan 8 07
Mutual funds and other big-money players who need to buy and sell shares in vast quantities are increasingly vexed by the market's inability to absorb large blocks quickly without affecting the price and telegraphing their intentions. Meanwhile, the individual punter buying 100 shares in a discount-brokerage `account can access the market more rapidly and cheaply than ever before.
This upside-down situation has grown from a mix of technological evolution, regulatory change, altered brokerage business economics, heightened focus on trading costs and fragmentation of what used to be highly concentrated trading forums also known as the major exchanges.
Alternative, electronic trading systems have sped up the market and dispersed liquidity, creating more cul-de-sacs for trades between individual funds than superhighways reaching everyone. Dozens of "alternative trading systems" and "dark liquidity pools" -- where vetted buyside firms can seek a direct counterpart for a trade -- promise buyside traders the perfect match, but detract from public-market depth.
The bear market of 2000 to 2002 and greater board vigilance at mutual funds have made transaction-cost analysis a key priority. New black-box systems have allowed opportunistic short-term traders to detect large funds' order flow and piggyback on it, deterring the funds from displaying their full buying or selling interests. And the growth of top fund firms into behemoths means they need to move much larger volumes.
Traditionally, an institutional broker would get a call from a fund wanting to unload a sizable slug of stock and would "work" the order over the course of hours or days. But more and more, funds don't want their intentions exposed to other market players for any length of time. "Show me yours, but I won't show you mine," is the way one Wall Street executive describes this new attitude.
Bill Yancey, who runs the stock-clearing business of the financial technology firm Penson Worldwide, says, "The biggest challenge today is trading blocks. It's hard to get size done. There are so many dark pools and so many people 'pinging' around and so much paranoia about information leakage. It's hard to find a solution, because no one is willing to give up a lot."
The amount of stock publicly displayed near the market price is often trivial, even in heavily traded issues, in large part due to fear that other investors will step ahead of imminent orders merely by bidding a penny more. The quoted volumes on the bid and offer don't remotely reflect true demand and supply, which only heightens fund traders' insecurity and frustration.
Adds Paul Hanson, director of another trading-technology provider, Alberta Technology Solutions, "Most exchanges focus on the 8% to 10% of their listings that trade freely and ignore the 92% of illiquid stocks. The greatest problem to solve is the U.S. market for large trades."
All this is occurring as the economic relationship between the buy and sell sides is changing quickly. Compression in trading commissions and heavy technology costs have made simple stock brokerage a business requiring either massive scale or a niche specialty.
The biggest firms have the infrastructure to handle most client orders electronically and also stand ready to commit capital to take the other side of a client's trade onto their books. Think of Kirk Kerkorian's Tracinda last month unloading $400 million of General Motors shares in a single block trade with Bank of America. A Tabb Group survey of buy-side traders a couple of years ago revealed that what they most wanted from their brokers was "market color" and capital commitment. With more volume going "dark," there's less value in market color, but capital is still vitally important.
With so much money at stake it's not surprising that a mini-industry has arisen to solve the large-block dilemma.
So-called crossing networks, such as ITG's Posit, are essentially off-exchange meeting places where funds and brokers pair off orders, and are said to make up some 15% of all block volume (but less than 5% of total volume).
The dark pools are an innovative, if imperfect, additional step. LiquidNet, an early success story, allows certain institutions to trade directly with one another by having their buying or selling interest shown only to firms that have a likely match. Those who abuse the system or back away from trades too often are bounced.
A handful of major investment banks joined in September to form BIDS, or Block Interest Discovery Service, with technology developed by Alberta Technology.
Although similar to dark pools, BIDS will operate as a strictly non-profit utility and include sell-side participants. Not only will perfect matches be consummated, but nearly matching orders will offer a chance for anonymous price negotiation. Firms will be rated on the quality of their counterparty activity and participants can decide what kinds of counterparts to trade with.
These are better mousetraps. But ultimately the fragmented market has to re-consolidate, as it did following a splintering phase in the 1990s. This might happen through new order-routing technology that will "sweep" all electronic systems and dark pools to assemble a large order. Just like a good block trader used to do in working an order, only faster and without the off-color jokes.
For mutual-fund shareholders, managers' focus on transaction costs can only be a good thing. Even better would be managers churning their portfolios less. But that's probably wishful thinking in today's manic market.
(c) Barrons Jan 8 07
