Brokers Respond: Forthcoming Or Not?
Anticipating this transparency requirement, JPMorgan made a significant investment 2-1/2 years ago in its electronic trading infrastructure. "One of our fundamental themes in the development of our electronic trading platform was investing for transparency," says Troise. "A sizeable amount of the investment went into building analytics and infrastructure so that we are able to deliver greater order-routing and analytical information to our clients."
To achieve best execution, JPMorgan developed quantitative models that drive its algorithmic order-placement logic, including its "last mile" smart order-routing logic. "Clients want more transparency into how we are handling their orders," he says. "The more clients know about the depth of our order-handling logic, the better. As always, it is about best execution."
Given the importance of transparency, JPMorgan's team spends time with clients in the office going through a very detailed, multihour discussion on the order-placement logic and the whole life cycle of an order. "Here's how we made the decision on venues and here's how we analyze the performance," he says. These discussions can be extensive sessions that take place in a conference room with a lot of data and whiteboards, leading to very productive results, he says.
The sell side is also responding to client demands for transparency. It needs to focus on best execution in order to refute the perception that any peculiar behavior is due to rebate structures that can reward brokers for routing orders to certain venues.
However, in the past, brokers were not always willing to share information on their order-routing practices. "I think when the buy side talks about lack of transparency or unwillingness of the street to share, they're talking about when the brokers go out to various execution venues on their behalf, sometimes unknown to them," says John Donahue, senior VP, head of equity trading, at Fidelity Capital Markets in Boston. "We have the data when the order stays in our [system] for execution. It gets stickier when the order is going out to other venues sponsored by other broker dealers. You lose your visibility into where those orders go."
Fidelity has its own liquidity framework that analyzes the quality of execution of each venue. "We're very transparent. We can provide detailed data on each execution venue at the point of execution, " says Derrick Chan, VP of Fidelity's centralized electronic order routing. While Fidelity always gives real-time execution data on every single FIX message, Chan asks: "But does the client use it or look at it? Clients are relying on us as part of the trusted relationship to seek the best possible execution."
[The Rising Tide in Equity Trading – Who Will Benefit?]
Collecting all of this data could end up being onerous for the buy side as well. If a buy-side firm receives a daily report of every liquidity destination that a trade was filled at and that the broker went to, this could become data overload for the client base. "Imagine taking all that data from 10 to 20 brokers, collecting that data on a daily basis and storing it for a year," says one sell-side trading professional.
Data collection can be a double-edged sword, says Schack, who notes that to look at all the FIX tags and monitor this data in real time requires a substantial investment in people and technology. Not every firm is prepared to do that. "There's still a wait-and-see attitude among a lot of buy-side firms," he says.
Another way to tackle this complexity is for the buy side to ask for periodic data. Buy-side firms are composing questionnaires about order-handling practices and sending them to their brokers, once a year, once a quarter or once a month, notes Schack. These questionnaires essentially ask where their orders are routed, and obvious patterns can emerge. But even if the buy side doesn't do anything with the data, Schack says, "Ask for it. First of all, its your data."
However, the level of transparency that clients get from Tag 30 in terms of where an order is executed is inadequate for what's important, contends David Mechner, CEO of Pragma, an independent algorithmic trading boutique. "What the buy side really wants to know is if the broker is doing a good job. Are they doing the right thing?" he says. There are many aspects of what the broker is doing with the order that don't show up in the data, and there also may be conflicts around fees and rebates that the brokers can generate, Mechner says.
For the time being, it looks like the buy side will need to rely more on data and technology. Considering that 35% of all trading is dark, Saluzzi says his firm uses a dark aggregator to get to a bulge bracket firm or a specialist. He can see the live trades are going through FlexTrade's EMS. "There's more intelligence now, but it's still a constant battle," he says.