Automated Trading Revamps Equities Landscape

Terry Flanagan

Technology, in particular the rise of automated trading, has so changed the face of the U.S. equities landscape that a review of market structure by regulators and the industry is in order.

“The market has changed enormously,” said William Lishman, head of equities trading, Americas, at Schroders, at a financial markets conference at Baruch College on Tuesday. “There is no longer a single exchange with a central order book. The markets are efficient from an institutional point of view; there are more block trading tools, and more ways to cross block-size orders without relying on floor brokers.”

Automated trading, for the most part, has been beneficial for institutional traders. Market-making high-frequency traders and stat arb HFTs inject more liquidity into the system,” Lishman said. “The only type of algorithmic trading we worry about is front-running, which constitutes a very small percentage of the market.”

Technology has leveled the playing field by placing more control over order routing into the hands of investors, both retail and institutional.

“Fifteen years ago, price discovery was controlled by the floor specialist,” said John Donahue, senior vice president and head of equities at Fidelity Capital Markets. “Technology has made it possible to access dozens of venues in a millisecond.”

The time has come, said Donahue, “to take a more holistic view of market structure post-Reg NMS.”

The SEC’s 2010 Concept Release asked questions about the performance of the post-Regulation NMS market structure generally. It also asked commenters for data to support their responses.

“This is a significant issue,” said SEC chairman Mary Jo White in a recent speech. “We – and you – are best positioned to assess and develop any proposed changes to market structure, whether they are initiated by us or through competition among participants, if we have meaningful empirical evidence.”

The SEC has developed a data series tracking the total volume of visible orders at all the price levels sent to public exchanges and comparing this volume to the total volume of shares actually traded. It has used this data to compare the speed at which exchange orders are cancelled to the speed at which orders are executed.

Recent data on corporate stocks shows that almost two-thirds of all orders “rest” for half a second or longer, indicating that the high-speed market is not dominated by cancellations. In fact, over a quarter of all exchange-based trades in corporate stocks are executed against orders that have rested for only half a second or less.

“These findings not only provide an empirical basis for measuring and tracking the speed of today’s markets, but also suggest that even short-lived quotes are generally accessible by at least some traders,” White said.

Fidelity Capital Markets, the institutional trading division of Fidelity Investments, last year launched Block Liquidity Opportunity Cross, which goes by the acronym Blox, a new execution venue focusing on block trades, which was an extension of the company’s alternative trading system, CrossStream. Blox offers a safe venue to interact with a robust source of retail and channel order flow.

The institutional segment of CrossStream Blox is composed of ‘40 Act funds, pensions and other institutional investors.

“CrossStream Blox offers fundamentally-driven institutional and retail investors to meet and trade in size,” said Donahue. “Nearly a third of our retail channel orders are block size, so this provides a great opportunity to execute against and provide access to nondisplayed liquidity. For institutions, we restrict access to direct Fidelity customers, meaning there is no external broker-dealer flow, so they have a sense of comfort that they are interacting with like-minded, fundamentally-driven investors.”

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