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February 1, 2003

The Bear Market Strategy

By Nina Mehta

During the days of irrational exuberance, the life of an equities growth manager was a lay-up. The market went in one direction and trades had to be executed fast.

How times have changed. The exuberance is gone and on the trading desk patience is necessary. Since intraday volatility has increased, when markets turn, they turn in a hurry.

"If you trade your entire order in a rush, at the end of the day the market could make you look like a fool," says Timothy P. Blastek, senior vice president and head of equity trading at Provident Investment Council, a Pasadena, Calif.-based institutional money manager.

Several Days

Provident, which has about $5 billion in assets under management, remains an equities growth manager for its institutional and pension fund clients. But it has altered its trading style since the bull market of the late 1990s. Most orders are now executed over two or three trading days rather than in one fell swoop.

That's because it is not uncommon for a stock to close at, say, $12 at the end of one trading day, open the next morning at $10, trade down to $9 and then head back up to $11 at the end of the day - and then do more of the same in the following session. Obtaining a better execution on an order typically involves waiting.

For institutional buyside traders, another reason to spread trades out is decreased volume. Volumes have shrunk even for large Nasdaq issues such as Microsoft, Intel and Cisco. "It's becoming more difficult to find a natural counterparty to our trades," says Blastek. Increased volatility makes institutions less eager to step up and trade large blocks than they were in the past. "We also don't see as many sellside firms willing to use their own capital to facilitate trades as we did a few years ago," he adds.

Decimalization has narrowed spreads. But it is more difficult to execute in size without moving the stock. Formerly, a buyside trader wouldn't blink at paying up 1/8 of a point, or 12.50 cents, for 200,000 shares of Microsoft, says Blastek. "Now there are 12 price points out there and a buyer can't help but wonder if somewhere along those 12 price points he'll run into some supply of the stock."

So in a more cautious environment, has the much-touted SuperMontage system added more depth to the market? Not quite. "It's been a non-event for how we trade on our desk," says Blastek. "They were trying to get a deeper, more meaningful Nasdaq market, and more size, by requiring members to post limit levels. But that hasn't materialized." Provident currently executes about 15 percent of its trades on electronic venues.

It's a big proponent of Liquidnet, ITG's POSIT, as well as Instinet. The money manager is also considering ECN aggregators, which offer a pipeline into dozens of ECNs and brokerages. At the same time, what's crucial for the trading desk is relationships with brokers. Provident relies on the Street's research, as well as its access to management and internal analysts.

With greater intermarket connectivity, how trades are executed has become a fine line to walk. Blastek concedes this. "With asset levels and turnover in our portfolios coming down over the past two years, one of the more difficult jobs I have on the trading desk is to make sure our research and stock brokers are still getting an appropriate level of commission without compromising best execution," he says. "This has led to a more concerted effort over the course of the year to cut down on the number of brokers and to concentrate commission more toward our research brokers, where we're getting more bang for our buck." The firm, however, will always seek brokers that have the natural order flow needed for clients.