To the technologists who carried out the decimalization of U.S. stock prices, the phased transition from fractions between last August and April was a relative no-brainer.
By John Wagley
June 2001
Institutional Investor Magazine
To the technologists who carried out the decimalization of U.S. stock prices, the phased transition from fractions between last August and April was a relative no-brainer. And to traders and investors, stocks priced in decimals are already as comfortable as a pair of old tasseled loafers.
But now some operations experts are warning that the conversion to decimals may not be a done deal after all. Their worry: that the securities industry may have more trouble than anticipated absorbing and processing an eventual explosion of data stemming from the simple fact that pennies under the decimal system beget far more price quotes - and hence transactions - than do quarters, eighths and sixteenths.
To be sure, concern over mounting data traffic surfaced well before the changeover. But most observers agree that decimalization has driven data volumes substantially higher. “My best guess is 12 to 15 percent,” says William Cline, a New York-based partner in Accenture’s financial services practice.
That hardly qualifies as an explosion. With stock markets cooling as decimals were being introduced, back offices easily handled the extra trading load. But Joseph Anastasio, a partner at New York consulting firm Capital Markets Co., warns, “If we start seeing 5 billion shares a day [in combined New York Stock Exchange and Nasdaq volumes, compared with recent totals below 3.5 billion], I will go on record right now to say there will be big trouble.”
Adds Robert Hegarty, a research director at consulting firm TowerGroup in Needham, Massachusetts, “We aren’t seeing the spikes and peaks and bursts that we had a year ago.” A return to higher trading volumes would likely mean that the bursts would be “exponentially more severe,” he says, “and that’s where the infrastructure can start to fall apart.”
There are anecdotal reports of volume spikes. “Some traders are making three times as many trades as before,” says Peter DaPuzzo, co-president of institutional equities at Cantor Fitzgerald & Co. “These take up computer time and space and could push the system to the point where it’s incapable of keeping up.”
So far that hasn’t happened, and no one is panicking. Analyses to date have tended to focus on the economics of decimal trading, particularly the narrowing of bid-ask spreads and the tendency of market makers to step in front of orders. Accenture’s Cline says that the NYSE, Nasdaq and financial institutions generally planned well for the initial data demands. Firms have been fortunate, notes TowerGroup’s Hegarty, in that they added trading capacity in the course of their Y2K preparations. But there will come a point, he predicts, when “we are no longer in a time of retrenchment and they will have to take a closer look at their infrastructure.”
Not all observers see a crisis in the making. UBS Warburg trading analyst Scott Saber agrees that decimalization has increased the number of price quotes. Large orders, or block trades, have to be broken into ever smaller pieces to avoid the pricing distortions known as market impact. Though “the number of executions goes up as the share size comes down,” he asserts, “once you work through that, everything is back to normal.” And Saber sees no lack of back-office preparedness.
For Reuters Group, decimalization raised capacity issues involving both its own data centers and the software that it supplies to trading rooms. Reuters America co-CEO Alexander Hungate says that the slowdown in markets “helped a lot,” and Reuters is ready for at least three times the current volumes.
But no fix is ever permanent, and the capacity issue is not limited to stocks. The concerns are magnified as the ever-increasing price ticks are reflected in related options quotes.
For his part, Anastasio frets that Wall Street, in the throes of cutbacks, may not have enough full-time staff to devote to new technology solutions. “Don’t doubt for one minute,” he warns, “that even our very sophisticated environment has its limits.”
