US Equity Traders Want Next-Generation Algos from their Brokers to Combat Changing Liquidity and Volatility Patterns

NEW YORK & LONDON -- (BUSINESS WIRE) -- As many as 7 out of every 10 US-based, long-only, equity buy-side firms have told TABB Group that the rise of passively managed funds has changed liquidity patterns in the US equity market. Persistently volatile markets further create trading challenges that require changes in their execution strategies. As a result, they are turning to their brokers, searching for next-generation algorithms and innovative coverage models.

Against a backdrop of economic and political uncertainty, trading in the US equity market is being transformed. “Armed with still-depleted commission wallets, the buy side faces a daily battle against market mayhem that has reset the needle on the dial of normality in a marketplace where only unpredictability is certain,” say Miranda Mizen, a TABB principal, director of equities and co-author with research analyst Anna Jones of “US Equity Trading 2011-2012: Coverage under Fire”. This is the strategic advisory and research firm’s eighth annual buy-side study and includes a foreword written by Larry Tabb, founder and CEO.

TABB Group interviewed 68 long-only head equity traders at US asset management firms with an aggregate $9.8 trillion in assets under management (AUM). Discussions were conducted during August and September 2011 and included the impact of the recent highly volatile markets on their trading strategies. According to Mizen, who summarizes the study’s key points in a TabbFORUM interview (http://www.tabbforum.com/; also available at http://www.youtube.com/watch?v=p-aXkX6e46Y), interviews covered the cumulative impact of liquidity changes, volatile markets and a poor economic outlook; broker coverage; commission structures and rates; algorithmic providers and product needs; order allocation across the high- and low-touch trading channels; block trading and risk requirements; and a section on mid-tier brokers.

Another gloomy year and a bleak economic outlook, explains Mizen, has caused traders to rethink their broker selections, services and payment models, searching for differentiation in high- and low-touch services. “Good coverage wins order flow and this is clearly one of the areas where size is not an indicator of quality. It’s also where non-bulge bracket brokers can excel.”

For 2012, traders say that they expect to consolidate their algorithm providers, rewarding brokers that provide innovative products and blueprints of how their algos and smart-order routers (SORs) work.

“The economic outlook’s uncertain, consolidation’s still in the cards and the electronic space is under pressure, but there are upticks in volumes and commissions,” Mizen says, “Brokers offering new ways of thinking about the market and innovative products that crisscross the execution channels as easily as their clients have every chance of winning order flow.”

From the buy-side’s perspective, says Tabb in his foreword, “The market is clearly broken and institutional investors have been staring into the abyss. Although many of the traders interviewed were optimistic, most were concerned about market quality, being gamed or the increasing pressure being applied to them in balancing research payments, commission commitments, support needs and technology infrastructure, in context of best execution in one of the most volatile markets in history. For brokers, there is time to invest. Traders say they want to listen. Banks will be on the rope-a-dope. Regulation will be changing. Market share is open, ready to be taken, but the risks are plenty, a case in point being MF Global. So proceed wisely.”

The 45-page study with 48 detailed exhibits is available for download by TABB Group Research Alliance Equities clients and all pre-qualified media at https://www.tabbgroup.com/Login.aspx. For an executive summary or to purchase the report, visit http://www.tabbgroup.com or write to info@tabbgroup.com.

About TABB Group

TABB Group is the financial industry’s strategic advisory and research firm focused solely on capital markets. Founded in 2003 and based on the proven interview-based research methodology of “first-person knowledge” developed by founder Larry Tabb, TABB analyzes and quantifies the investing value chain from the fiduciary, investment manager and broker, to the exchange and custodian to help senior business leaders gain a truer understanding of financial markets issues. For more information, visit www.tabbgroup.com. In January 2010, TABB Group launched TabbFORUM, the online community currently with nearly 10,500 capital markets members, drawn from buy-side and sell-side firms, exchanges, regulatory agencies, academia, consultants, vendors and media, focusing on issues covering current industry-wide topics.