Amid a torrent of new market structure proposals from the Securities and Exchange Commission, Congress and market pundits, Brian Fagen, head of equities electronic trading sales, spoke with Traders Magazine about some of the issues confronting the markets and investors, as well as trends in electronic trading and order routing.
Traders Magazine: What’s going on or new at Barclays Capital’s Electronic Trading Group?
Brian Fagen: At the high level, our focus over the last year as been on building the European and Asia franchises as BarCap didn’t have a full service equities business prior to the acquisition of Lehman Brothers. We’ve been busy; both hiring people on the teams and building the technology and products required for the client business. We’ve been able to utilize a lot of the legacy Lehman architecture, which was global, and export it to the other regions to build out the core systems and infrastructure under the BarCap banner. But at the same time, BarCap did have some interesting technology and products that we’ve been able to utilize as well to build a ‘best of both worlds’ platform.
We were able to look at the two platforms and choose the best components of each to create a new platform. This includes algorithmic products, smart order routing products, internalization products, and analytics.
TM: It was reported recently that there will be job cuts at the firm. Will electronic trading be affected?
BF: The cuts will be in the back office and not affect the front office. We’re hiring and continue adding to the group this year. The majority of the hiring recently has been in Europe and Asia where we started with very small team in 2008. Most of the European hiring was completed during 2009 and Asia is being completed this summer..
TM: How about the U.S.?
BF: Here in the U.S. we are still hiring in our distribution team as well as our product and technology groups, which handles the construction of all of our electronic products.
TM: Describe the state of algorithms today? What is the next generation of algorithm technology going to look like?
BF: I think we’ve gotten to the point on the algorithmic side where the algo platforms are having a more difficult time differentiating themselves. The concept of the next great algo or the definitive "best" new algo has become somewhat like the white elephant, in that it might not be attainable. The needs and demands of the buyside trader are very different and unique to each one of them. Every trader is trading for different types of fund management complexes, fund managers, investment products etc. and each trade has a unique alpha horizon or decay that requires a different type of trading. The trading needs are quite varied so it is hard to build one particular algo that would meet all of those needs. You’ve seen a gradual slowing in the pace of new algo delivery over the last few years i.e. we’re not seeing new algos come out every week or every month like you used to. There’s a lot more work on customization of algorithms to specific trader’s needs with the goal of aligning the trading strategy with the particular trade’s alpha to achieve best execution.
That being said, there are other things you can do to enhance algo performance. There is a lot of focus on the smart router, which underlies execution. The market micro structure has changed so dramatically over the last three or four years, along with the types of counterparties that you’re interacting with within that microstructure. You need to be more nimble and thoughtful in the way in which you interact with the markets, how you utilize dark pools or lit pools, what order types you use, how you move orders from one pool to another and how you measure toxicity in each venue. These factors and the router itself have become a much bigger factor in the execution process.
TM: Are the trading markets too fast? Or should they be slowed or simply left alone?
BF: I think it’s a dangerous game to play when you talk about artificially limiting or slowing something down. I don’t think that solves the problem and I don’t think the markets are "too" fast. I think there should be an incentive for people to continue to build and improve their capabilities. I would never advocate a market structure in which people are dis-incentivized to do that. The discussions around some entities having a speed advantage are really focused on the high frequency community, which is a much broader debate.
TM: There’s a lot of talk about high frequency traders? What’s your view? Are they friend or foe?
BF: The market environment is such that there are many different counterparties that exist and our job as a broker-dealer is to understand and build our capabilities to interact with the market structure in the best way possible. We don’t classify any type of liquidity or counterparties as being either good or bad. That’s too judgmental. They all have reasons for being and reasons for doing what they do. Our job is to interact with them in the most effective way possible and control the way in which we route orders to best serve our clients and achieve the best possible execution. We find that for our trading, our ability to access liquidity is not the issue. I wouldn’t put a qualifier on high frequency traders–they are simply a part of the market ecosystem. We strive to understand the entirety of the market and how to trade within the market structure all types of counterparties.
TM: What’s the biggest market structure issue facing the marketplace?
BF: I think the biggest issue is the lack of consistency across the marketplace.
There are different rules for different venues and the biggest issue is trying to figure out how these different structures and venues work and then building your execution platform appropriately to deal with them. The regulations that were put into place to create competition within the U.S. equity trading marketplace are what have led us here. Those regulations created an opportunity for multiple types of venues to be born and each has a unique set of capabilities and functionality .This is not limited to the simple differences between dark and lit venues, but also the unique functionality within each venue type. This creates potential risk and conflict and we’ve had to learn to deal with them.
TM: One big issue we hear is that the buyside is very concerned about where their orders are being routed. They want to pick and choose. They are asking many questions of their brokers–do you find this to be the case at Barclays Capital?
BF: Absolutely. We actually highly encourage that. The buyside should demand as much information and data about where their trades are routed as they can process. We’re very supportive of clients who want execution venue sent back to them real time on a FIX tag. The buyside should demand much more information about the performance of their order flow that’s running through ATSs. Every sellside firms that operates an ATS sends a lot of that order flow through it prior to going out to the market. But what information does the buyside have about the performance of those orders within the ATS? How do they know they are getting better execution in that ATS? We supply this type of data to clients today and we encourage clients to require it of all brokers. The buyside should look at the performance of their orders within the ATS and be able to measure the toxicity that may exist.
TM: Any new developments in TCA?
BF: One of the things the industry has struggled with for a long time is single stock pre-trade analysis. Given the change in the complexion of liquidity in the marketplace, with high frequency traders now dominating the volume, the way you think about trading has changed. It should change the way you think about transaction costs. What we’re working on is better ways to represent true transaction costs given these changes in the market structure. One of the big inputs into a pre-trade estimate is volume. Absolute volume now doesn’t mean the same thing today as it meant five years ago when there was much less HFT. High frequency, by some accounts, is 60 percent of trading volume and is very different than institutional volume. For example if I have one million shares to buy and the stock trades one million shares a day, in the old world I have one day’s volume to trade. If 60 percent of the market is high frequency, which has a very different profile, the reality of it is that I am trading against 400,000 shares from an institutional perspective. That can have a big impact on your overall cost. We’re beta testing this concept to try and better understand pre-trade estimates.
The other side of the equation is the post-trade analysis or true TCA. We’ve been spending a lot more time with clients looking not only at the performance of an algo per se, but the performance across the entire execution platform. Not just their electronic business, but their traditional high touch or block business and looking at how various decisions are being made and how to formulate an improved decision making process. Some of that includes helping clients develop filters and screens which send certain types of orders directly to certain execution strategies to help the actual trader focus on the bigger situations. It can help to align certain execution strategies to specific portfolio managers or funds based upon their types of orders. The old concept of TCA, such as getting a report delivered every quarter telling you how you did versus VWAP or IS {implementation shortfall), has largely become a check the box exercise. The real work in terms of helping the buyside trade better is being done in the areas I just mentioned. That’s where the buyside is beginning to focus on to improve their cost of execution.
