Traditional sales trader expertise offered by sell-side firms may be on the cusp of a revival in the US, according to Laurie Berke, principal at financial research firm TABB Group, as buy-side firms increasingly struggle to find a way to trade safely in blocks.
Based on a survey of 68 head traders at US asset management firms, TABB discovered that the average percentage of daily trading activity executed in blocks was 12% in 2011, down from 15% in 2010. But the same traders reported that they would like to execute 31% of their order flow in blocks – a level not seen in years. The TABB research also found that that the average trade size on listed US volumes has been about 297 shares for the past year or more, while block trades of 10,000 shares or greater have averaged just over 3% of US consolidated tape volume for the past six months.
Searching for size
“It’s hard to find anyone who will transact in size,” said Berke. “Institutional investors are increasingly calling for their sell-side trading partners and buy-side peers to be bold enough to place large orders. At the same time, it’s becoming clear that electronic trading technologies alone are not fulfilling that need.”
Recent years have seen the buy-side take increasing control over its own execution. Using technologies such as algorithms, smart order routers and direct market access, asset managers have reduced their dependence on sales trading. But with trading volumes depressed, and market fragmentation breaking up orders into ever-smaller chunks, buy-side firms are increasingly frustrated at the lack of opportunity to execute in size.
That frustration has increasingly drawn institutional investors towards non-displayed venues that promise to aggregate available liquidity. TABB Group estimates total off-exchange volume, in dark pools and electronic communications networks and through broker internalisation at 33% of average daily volume in the US.
Trust in relationships
Meanwhile, staff cutbacks at many sell-side firms have left many institutional investors disgruntled that experienced and expert counterparties are no longer available – leading to a crisis of trust that has further eroded the confidence of market participants that they can safely trade in size. The rise of high-frequency trading (HFT) and extensive fears on the buy-side about the risks of being gamed by aggressive HFT strategies have only exacerbated the problem, according to Berke.
“Trust is at the heart of the issue,” she said. “The role of the sales trader has not lost its place – it is a long-lost art form that can still add significant value. Block trading is an implementation choice only when there is a trading partnership founded on discretion and honesty.”
Berke believes that dark pools may only provide half the solution. The other half consists of a widening opportunity for sell-side firms to re-energise their sales trading desks, as buy-side firms increasingly come to realise the value of the discretion and market knowledge they can offer.
“Skilled sell-side sales traders know which clients to call, which sales traders on the desk to give a nod to and, above all, who is dangerous and shouldn’t be involved,” she said. “Buy-side traders want to trade in size – they know that sending lots of small orders is not an efficient solution.”