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December 16, 2010

2010 Review: Dude, Where's My Order?

By Peter Chapman

Buyside traders, vexed by the ongoing fragmentation of the marketplace and the onslaught of high-frequency traders, are demanding their brokers provide them with detailed reports of the handling of their orders.

With nearly 70 several possible venues in which to get an execution, and the presence in many of these pools of opportunistic high-frequency prop shops, the buyside is worried about overexposure.

They want to know to which pools their orders were routed--where they found success and where they didn't. Underlying all the questioning is the fear that the brokers are routing haphazardly, signaling to the sharks that a large order is in progress.

By and large, the brokers are responding. They are providing the buyside with reports and files that show where orders were executed and where they weren't.

"There's a lot of paranoia out there," Bill Neuberger, co-head of Morgan Stanley's electronic trading group, told the crowd at this year's Security Traders Association conference. "So we are providing our customers with a lot of detail and transparency."

The buzzword of the year is probably "transparency." It used to be that most money managers' orders were executed on the floor of the New York Stock Exchange. Today, those orders could be traded anywhere and pass through dozens of venues en route. But which ones? And why?

"We have gone from a market structure that was reasonably understandable, where you walked an order from point A to point B, to something that is incredibly complex," Greg Tusar, head of Goldman Sachs' electronic trading business in the Americas, said at the STA confab. "Transparency is now key. You have to show people where their orders went."

One influential group calling for greater transparency of order routing practices is the Investment Company Institute. In its response to the SEC's Concept Release, the ICI called for brokers to provide a thorough accounting of the venues in which an order interacts--regardless if an execution took place or not. Basically, the ICI, a lobbying group for money managers, is calling for a paper trail of each order, up to and including where an order trades.

What is now an ad hoc effort by individual brokerage houses to educate and placate their customers could lead to regulatory pressure on every sellside desk. Both Goldman and Morgan Stanley have beseeched the Securities and Exchange Commission to beef up the rules surrounding order handling.

Goldman has petitioned the SEC to increase the reporting requirements of Rule 606, the rule covering quarterly reporting of order-routing destinations. In addition, Goldman told the SEC it believes that dark pools need to divulge more about their rules and functionalities.

Morgan Stanley, complaining of widespread abuse, has urged the regulator to conduct a wholesale revision of order-handling practices. At the heart of the matter is the presence of HFTs in certain venues.

"Providing high-frequency liquidity providers with optionality is not a good idea," Neuberger said at STA. "Blind pinging them or responding right away to their quotes is quite aggressive order handling. We are opposed to those practices."


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