NEW YORK and LONDON, January 5, 2011 – After continuing their struggle with lower commission wallets, continued unbundling of trade execution from brokers’ research and determining the most optimal broker relationships in 2010, forever to be remembered as the “year of the flash crash,” US buy-side equity traders tell TABB Group, which publicly issued its sixth annual benchmark study, “Institutional Equity Trading 2010/11: Outflows, Outrage and Balance,” that they remain optimistic about a rebound in long-only asset management.
The new study is based on interviews with 68 head traders at US institutional equity firms managing an aggregate $12.9 trillion in AUM (assets under management). According to one out of two interviewees, high frequency trading (HFT) is the most important market structure and regulatory issue today. As a result, long-only trading desks in 2011 are planning to focus more on monitoring orders, putting in place tighter controls and evaluating transaction cost analysis (TCA).
Moving into 2011, says Matt Simon, senior analyst and author of the study, future changes in order flow allocationwill be driven by changes in allocation among different equity strategies and further adoption of electronic trading needs. He adds that TABB estimates 30% of shares traded by long-only firms are now being done through a broker algorithm, explaining that “performance, brokerage relationships and liquidity access are the leading drivers for deciding which broker algorithms should be used and how commissions would eventually be allocated.”
Lower commission wallets were also a factor in 2010 as 53% of the traders said wallets were down at least 20% year-over-year, leading buy-side firms to continue consolidating brokerage relationships with the top 12 core brokers who, TABB forecasts, will execute 71% of trading share volume in 2011.“Reducing the overall number of brokers remains an important way to leverage relationships.Determining who to allocate commissions to in 2011 will continue to be highly dependent on research, electronic trading capabilities and access to liquidity.” Simon adds that volatility during 2010 steadied out to a longer term trend, including the May 6 flash crash timeframe, with average daily volume of 8.5 billion shares, but says, “Lower volatility reduces volumes, making it more difficult for brokers to profit.”
Broker differentiation is one of the study’s central themes and as Simon points out, differences between algorithm providers are hard to make (52% of the buy side say there are no tell-tale differences and competition for quality algorithms is at an all-time high. He also says that many of the buy-side firms are unbundling research from execution to differentiate how much they pay for each, with commission-sharing agreements (CSAs) and a better understanding of this separation leading to lower rates. Electronic trading support and feedback are also key differentiators but, he adds, brokers that continue to hire well-established sales traders who understand how to service client accounts will continue to gain market share in 2011.”
Next year, says Simon, could be the year that brokers begin to break down the walls between silos, integrating low- and high-touch desks, and exploring new ways to offer the benefits of both worlds. “If brokers stay the course, 2011 may well turn out to be a rather prosperous year, albeit slightly differently than in the past.In the end, it’s all about differentiation with the buy side eager to learn who wants to win more of their business.”
The 60-page study with 51 detailed charts covers post-May 6 flash crash reactions, including head traders’ views on current SEC regulatory proposals. In-depth interviews and subsequent analysis also cover technology challenges, commission spending and changes in buy-side budgets and their impact on changing commission rate structures. TABB also examines the continued growth of low-touch trading; trends in order allocation across high- and low-touch trading venues; trends and selection criteria in algorithmic trading; and the growing demand for transparency into electronic trading infrastructure and its impact on broker relationships, leading broker algorithm and dark pool providers.