By Howard Moore
Innovations in trading technology have allowed for increasingly sophisticated functionality, and now, buy-side trading desks can work with their brokers to route trades more proficiently, measure results more accurately, and share control over the entire process. The transparency this provides has created a more efficient market and has helped to meet new regulatory standards.
Sell-side traders can now customize routing tables for their clients and exercise full control over execution protocols – how orders go into the marketplace, which venues they go to, what order types they use, and how those all interact – but only relatively recently. “Over the past decade, trading platforms hadn’t evolved much in terms of functionality,” says Joe Wald, CEO of Clearpool Group, a trading technology provider. Those legacy platforms were being reengineered to accommodate Dodd-Frank and other regulatory and compliance issues post-financial crisis, and they became stale probably at the worst time. Most of the electronic systems that enabled algorithmic trading missed out on the explosion of big data technology, new ways to deliver it through the cloud, and the development of powerful visual analytical tools.
“Over the last six years, the securities trading industry didn’t capture a lot of these developments,” says Wald. Those that did often kept them to themselves. There have been huge gaps in technology capabilities within the market. Smaller and regional firms usually don’t have the resources or expertise to build a multi-million–dollar technology platform, and while sell-side firms offer white-labelled versions of their platforms, they are customized unequally, with some features offered to some clients and other features are not. Rarely do they offer the full functionality to handle direct market access, algorithms, compliance, and transparency of order flow.
“It’s the haves and the have-nots, and some firms were getting truly Tier 2 product and service,” Wald says. “We really wanted to empower everyone in the market.” Using a cloud-based system, traders can select different venues and order types, and aided by drop-down dialogues, charts, and visual analytics, they can involve their clients in the decision making, which creates a uniquely tailored execution protocol that, in many cases, avoids the real and perceived conflicts of interest. “Platforms are now designed with the client in mind – all cards are on the table.”
Taking the next steps
With Clearpool, the buy side can now work hand-in-hand with the sell side using an algorithmic management system (AMS), meant to complement the longstanding order management system (OMS) and electronic management system (EMS). A fully customizable, cloud-based platform, the AMS offers a greater degree of control over routing and other elements of algorithmic trading. For example, traders can design custom routing protocols, prioritize venues, and change their strategies without any programming or coding, making it easier to optimize and refine an algorithm and sharpen execution quality, all in real time.
Data transparency can offer other insights as well. For example, the market wasn’t sure how the SEC’s Tick Size Pilot, a program to evaluate whether or not widening the tick size (the minimum quoting and trading increments) for small-cap stocks would affect the trading, liquidity, and market quality of those securities. “No one knew if spreads were going to widen, whether liquidity was going to aggregate in different places, and how that all was going to work,” says Wald.
Having the capabilities to run different strategies with different underlying protocols, gather the data, and use it to create trading strategies is tremendously powerful. “One of the features on the AMS platform is the A/B testing capability,” says Wald. Before, any customizations to algorithms were by trial and error, without collaboration or real exposure to which elements were being affected. Wald says the full potential for the customization of algorithmic trading has not been explored. “So far, it’s been only a superficial level of customization that’s been end-goal driven, versus process-driven. Real time feedback provides actionable data, and without it, everyone is just guessing.”
“I’ve found that when the buy side knows how their orders are routed, they’re able to look at good comparative data, and they can really examine the execution quality, only good things can happen,” says Tyler Gellasch, executive director of the Healthy Markets Association. And while the industry hasn’t quite gotten there, there’s a new level of collaboration among the buy side, sell side, technology providers, and other market participants to drive it forward. “We’re beginning to address routing incentives and other potential conflicts of interest in the market,” he says. “But if you embrace the spirit of a transparent market and provide good data to examine, we can see what the world looks like – and that’s not a bad place to start.”