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April 1, 1999

Why Trading Firms Are Connectivity Conscious Wiring up the Firm to Access the Marketplace Is Para

By Yossi Beinart

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  • Why Trading Firms Are Connectivity Conscious Wiring up the Firm to Access the Marketplace Is Para
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The equity-trading marketplace has more choices and more challenges than ever before.

Are you looking for liquidity in a thinly-traded stock? Trying to minimize the market impact of a block order? Seeking to get the best price, or simply to get the trade done?

Take your pick from dozens of trading destinations, including nine electronic communications networks and some 45 alternative trading systems.

But the question is whether it is a good thing to have so many different trading destinations to choose from?

Sure it is, if you are equipped to access them electronically, that is, with the minimum amount of clerical work and maximum speed. In that case, more choice means more opportunity the chance to trade at lower costs or to find the liquidity you wouldn't have otherwise encountered.

But if your connectivity is limited, all these choices start to look like something else: fragmentation of liquidity and a big competitive disadvantage. You are at a disadvantage to traders plugged into electronic networks and not hampered by changes in the equity marketplace.

All signs are that liquidity sources will continue to proliferate, and that more trading will be done electronically. According to Greenwich Associates, a Greenwich, Conn. research firm, more than 57 percent of all institutions and 96 percent of large institutions currently use alternative trading systems to execute at least some of their orders. And those numbers have been rising steadily.

This suggests that in the coming years, there will be a widening gulf between the haves' and the have-nots' those who can easily utilize an array of liquidity sources and those who cannot.

Of course, the growing complexity of the marketplace isn't the only reason why connectivity has become one of the most frequently heard buzzwords on Wall Street. For those handling large lists, using quantitative strategies, targeting a benchmark or working with strict portfolio parameters, tracking orders on a yellow legal pad simply isn't practical any longer.

For those trading large blocks, it has become that much harder to tap into information such as indications, let alone find liquidity. With growing trade volumes and intense pressure to increase performance, traders can ill afford to spend time functioning as clerks.

Regulatory factors also come into play. Some examples include the order-handling rules and the clearing of trades 24 hours after execution, the T+1 requirement that's looming on the not-too-distant horizon. These regulations will all but mandate some wiring.

Without electronic allocations, for instance, it hardly seems possible to ensure trades will be cleared and settled within the truncated, 24-hour period the Securities and Exchange Commission is expected to impose in two or three years.