With all the new gizmos and new innovation and technology over the past decades, regulatory data disclosure became messy, and it’s not streaming cleanly out of an API, according to Paul Rowady, Founder and Director of Research at Alphacution Research Conservatory.
“With all the new toys, everybody gravitated to looking at streaming data. And yet, there’s this slower messier data laying around,” he said at the DTCC Active Management & The Critical Role of Data webinar.
“There are actually patterns in that data that describe kind of a macrostructure of the market, while everybody else has their face planted against the microstructure. So that’s been a key innovation,” he added.
Rowady further said that in the past year and a half there was a mass migration of the retail trading community to a zero-commission framework.
“I have a case study coming out called the Robinhood effect, because Robinhood is really the primary catalyst for the other large retail brokers adopting the methodology of the zero-commission framework that then launches what is essentially the fourth generation of the quantitative revolution. And so the Robinhood effect is the catalyst for that.”
“We have this new cohort, this new community, part of the retail trading community. And they defy institutional logic. They’re trading in situations where it defies valuation, it defies any kind of volatility parameters. It’s like a kamikaze effect, where it’s more about the gambling of the casino nature of it, as opposed to the logic or the investment of it,” he stressed.
Rowady explained that payment for order flow is what allows the zero-commission framework to exist because it transfers the economics from the client, the retail investor, to a wholesale market maker who is interested in trading against that flow.
He added that it’s not a new practice, it’s gone on for years and years, but there’s a couple things that are new.
“There was a change and upgrade to what’s known as the form 606 report, which is a quarterly report that has monthly data in it. And for the first time, beginning in the first quarter of 2020, we not only saw the portion of order flow that went from a particular retailer like TD Ameritrade to a particular execution venue, but also the average rates associated with a structured category of order types.”
He said this is a key instance where disclosure certainly has led to more transparency.
“This payment for order flow creates a captive situation to wholesale market makers who are executing against that order flow off exchange,” he said.
“So the broader market, the institutional market don’t get to see any of this order flow. They’re matching up against the wholesale market makers who have already seen this data. There are arguments to be made that there are informational advantages, they may only exist for a few 100 milliseconds, but in this world of high speed, hyperactive trading, that’s an advantage,” he added.
