Todd Prado, Global Head of Equity Trading, First State Investments, examines the changing role of technology in block trading, and the qualities of the traditional block trader that can’t be replaced.
I view the role of an
y crossing network as a complement to the role of the sales trader who specialises in block crossing. Liquidnet is a very efficient, and cost effective method of crossing blocks of existing orders, but the key word there is ‘existing’, whereas the sales trader can do that same role as well, which is where they may be in competition, but the sales trader can bring things to the table that Liquidnet isn’t able to; tapping into potential liquidity.
It is this potential liquidity that can be really helpful, particularly if there is a sales trader who has experience and a lot of good relationships. The clients trust the sales trader and are willing to open up and tell him what they are willing to do. He will be a professional and he is not going to ruin their market. The key for that person is to get that critical mass so that the clients view that particular sales trader as the go-to guy, and people will approach him and he is aware of potential liquidity out there. It is a very specialised role; it takes a long time to earn that trust. It requires someone who has been in the region a while and someone who knows the markets, and more importantly knows the relationships. Liquidnet had, and maybe continues to have, a bit of an issue on the trust side – getting people to trust them and their technology as they are, at the most basic level, asking to peer into a firm’s blotter. It involves taking a leap of faith to accept that. The foreign based asset managers seemed more comfortable with that as they have been using Liquidnet for years in the US and they were familiar with that process. For the domestic houses that weren’t used to using Liquidnet it has definitely been more challenging to earn that trust.
Liquidnet has found a middle path; instead of scraping the blotter they allow you to submit something to a neutral platform that they will scrape, and you just submit what you want to that, which has eased some fears. It certainly helps that they are purely an agency broker and there is no propriety activity going on there.
Execution avenues
Obviously in some markets and, the US is the ultimate example, fragmentation is a reality, but we are increasingly seeing it in Australia, Japan, and it its looking like it will happen in Korea, and that drives the increased use of electronic trading and algorithms, in one form or another. The choice becomes whether to give an order to a cash desk, which places the order into an algo, or whether you place it yourself directly into an electronic trading suite that a broker has provided: the majority of orders are in an algo these days just because it has to be that way.
That being said, the peers I speak to are all facing the same issues; any one of us that wants to trade in size would prefer to trade blocks, but the issue is how do we find each other. Liquidnet goes a certain way to solving that issue, but there is still the need for a human element in there. There are a lot of brokers that are aware of this, but it is building it and getting people to congregate around that person or small group of people. Some markets are a little further ahead than others, in Australia there are people starting to get momentum on their block level trading and earning a reputation for putting a lot of blocks through. We haven’t quite seen that in Asia yet with the exception of one broker that is starting to make some inroads.
There are fewer sales traders covering more accounts now, which results in less attention to those accounts. There has definitely been an impact. I would suppose by function, as a lot of senior people have been let go that creates more opportunity for those that remain, but again it takes a while to build up these relationships. Is a fund manager who has been doing this for 15 years going to open up to someone who has been doing it for five? I’m not sure, but everything is a balancing act.
To read more Block Trading content, click here.
There are certain names you go to, but it is mainly just about getting the trades done. It is also quite market specific, for example in Hong Kong and Asia I use one guy, in India I use someone else, in Australia there is a third person – these are people I trust and they’ll make calls on my behalf, and they’re happy to give the order back if they can’t get it done, and that goes a long way to establishing the trust. For those firms that have the people who have been around longer, there is a higher likelihood that they will be able to get those trades done and they will get the orders as a result, perpetuating that cycle.
Bringing back the blocks?
I would certainly like it to go back towards more block trading. Algos and electronic trading are here to stay, but I would certainly like to put up big blocks, and that is a message I’ve been delivering to the brokers. There is definitely interest on the broker side in pursuing this as there is business to be done, but this doesn’t happen just because you decide to do it. However, this may already exist in the form of the equity capital markets desks, and I have been using these desks to get block trades done.
Sometimes you don’t want the sales trader to know about the order so you might move away from the cash desk and speak to someone that has those connections, and the EMC desks often have connections to the PMs who can get execute the blocks.
This isn’t just sales trading versus block versus Liquidnet; each has different characteristics and reasons for selection.
