The buy-side has expanded its use of execution algorithms for equity trades, despite difficult trading conditions and evidence of a return to high-touch trading methods, The TRADE’s 2009 algorithmic trading survey has found.
According to the survey, which will be published in full in the Q1 2009 issue of The TRADE, more than a quarter (26%) of buy-side traders now use algorithms for more than 40% of their order flow, compared with only 9% in last year’s survey.
A total of 150 senior buy-side traders based in 20 countries across the world commented on their use – and the performance – of algorithms in this year’s survey. In December, TABB Group’s annual study of US institutional equity trading reported that sales traders had captured 44% of total buy-side flow, compared with 37% in 2007. Rather than shunning algorithms in the tough trading conditions seen at the end of 2008 and the beginning of 2009, many algorithm providers contend that the buy-side has also turned to algorithms to weather the storm.
“Algorithmic uptake has been helped by the current market conditions,” says Ashok Krishnan, managing director, execution services, EMEA at broker-dealer Merrill Lynch. “People are looking for tools to solve problems around liquidity and fragmentation. Algos offer the exact solutions.”
Chris Marsh, head of AES trading and product development at investment bank Credit Suisse, agrees. “A lot of people thought that algorithms were a fair-weather tool,” he said. “What we have seen in the last couple of months is that people have turned to them in increasing numbers. People are realising algorithms can be useful in all situations.”
Nevertheless, 46% of buy-side traders surveyed reported no significant algorithm usage – the same proportion as last year. Coupled with the fact that three quarters of active algo users are putting less than 40% of their flow through these tools, this suggests there is still room for further growth. Some 45% of respondents to the survey expected their algorithm usage to increase during the next 12 months.
“We are still seeing significant household-name asset managers adopt algorithms for the first time,” said Rob Boardman, head of algorithmic sales at agency broker ITG. “This survey shows what great scope for growth there is. I think all asset managers will eventually do 40% algorithmically.”
As well as using algorithms more, buy-side traders have also expanded their number of providers. The proportion of respondents that use more than five algorithm providers has rocketed to 40.5% from just 7.3% in the 2008 survey. While this may in part be a result of traders’ efforts to spread counterparty risk among a wider array of brokers, another likely reason is a greater confidence in the tools.
“When clients with limited experience of algorithms started to use them, they partnered with two or three firms to get to understand their suite of algorithms, get comfortable with them and ultimately become proficient users,” said Owain Self, head of European algorithmic trading at UBS. “Once they became more comfortable, they said, ‘Let’s see what else is out there and expand our universe of algorithmic providers.’ This allows them to assess the quality of offerings and consolidate again in the future.”
There has also been a big shift in the buy-side’s reasons for using algorithms. In last year’s survey, anonymity was the number one reason, mentioned by 21.7% of respondents, closely followed by cost (20.2%). This year, however, cost topped the list, with 17.3% citing it as a key reason for using algorithms, and anonymity had slipped back to fourth place, below trader productivity and reduced market impact.
“People have started to take anonymity for granted when using algorithms. Clients have absolute confidence in our systems and processes,” said Self. “It might no longer be the most important thing because people assume it is a given.”