Equities
-a decision he does not regret in the slightest . “ We junked our TCA because we felt it was an expensive Americanisation and there was no value in it ,” he said . “ It creates mediocrity – it encourages traders be average , to fit the numbers . I don ’ t really care what the TCA says . It didn ’ t improve performance . A large block trade dealt on risk could look terrible on TCA but actually be an excellent trade as that was what the client , the fund manager wanted . There ’ s no point looking at something that happened three months later . Unless it ’ s real time TCA ( which is much better ), I do not believe there is any point in it .” One other potential problem with the new situation is that it may drive short-sighted decisions which could harm the functioning of the market . For example , if one industry sector is currently down , the trader may be likely to avoid trading it . This reduces the demand for research in that sector . But with no support coming from execution fees , the sell side may simply cut the cost and fire the analyst . This may be the case , even if the analyst is doing a good job and is highly skilled . In the worst case scenario , if the sector then makes a recovery some time later , it is now too late – there is nobody covering that sector , due to the cuts in research budgets . The buy side then finds it much more difficult to obtain research on that sector . “ Maybe the future way forward is to create a utility for research ,” said Fitzpatrick . “ I ’ m convinced that trading is where the profit lies in the future . That ’ s why when I looked at the Plato project , I felt their focus should have been research , not infrastructure . The banks can ’ t make provision for research ; someone needs to .”
Passive trading The changes taking place due to unbundling are also linked to the longterm shift towards passive trading , which has been underway for some time but which has accelerated in recent years . From January 2015 to June 2016 , there have been $ 688 billion outflows from active to passive funds . There are now over 5,100 ETFs , with $ 3.1 trillion assets under managements . Meanwhile , the top five most active names on the S & P
500 have seen their average daily volume decline by 46 % between 2011 and 2016 . This change has been met with some consternation by the global buy side community . While some parts of the industry are seeking to find ways of benefitting from it , others are concerned that the increasing use of passive investing and passive products creates a market more vulnerable to dramatic swings at times of volatility , and one less efficient and less able to adapt in times of crisis , since passive strategies usually just track an index . “ If the world carries on , the way things are going , the active managers are going to struggle and the passive managers will go execution-only ,” said Fitzpatrick . “ That then places greater pressure on the active managers because people will ask why they aren ’ t doing the same to cut costs . But the reality is we need a diversity of participants in the market because we need buyers and sellers . The passive players are all going the same way , it ’ s the nature of their business . A market where everybody is doing the same thing is not in anyone ’ s interests ”.
If these trends were continued to their logical conclusion , with the majority of market participants made up of passiveinvestors that operate on an executiononly basis , equities might face the prospect of becoming a spread-based market , similar to FX and fixed income .
Such an outcome would probably not be aligned with what the European Commission originally intended with MiFID II . But the theme of unintended consequences is one that is very familiar to the buy side when considering the impact of global regulation in recent years . The phrase itself has almost become a fixture of discussions on the topic . “ If you look at the unintended consequences , HFT is a great example ,” said Fitzpatrick . “ That came out of the Dutch auction market . Due to MiFID one , virtually overnight they found an opportunity and they ’ ve not looked back since . The same applies to fragmentation of trading venues , which makes the market worse because it increases cost and complexity and fragments the liquidity making it harder to get an order done .” However , that ’ s not to say that current trends will continue indefinitely . Fitzpatrick believes that there has been a bull market ever since 2008 – a situation which must come to an end eventually . And when it does , it could well be the active asset manager that is best placed to take advantage .
December 2016 www . buysideintel . com
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