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February 1, 2012

The Fiduciary Question

By Michael Scotti

Control of orders has always been an issue for buyside traders. It's the nature of institutional orders and the need for anonymity. Control and knowing where orders have been routed are the gist of this month's cover story. As someone notes in this issue, however, despite all the tools today available to buyside traders, there is an "illusion of control."

Indeed, it is the brokers' algorithms that route clients' orders from spot to spot-clients have no say; they can only shut off certain dark pools. The current lack of transparency presents a conflict, as longtime buyside executive Kevin Cronin of Invesco points out: As fiduciaries, he says, the buyside needs to know where orders are routed.

This is an issue the industry is grappling with right now. Brokers are looking to give clients more information about routing. The problem is that routing information does not make its way back to clients in an easy-to-read format. That's why the FIX Protocol Ltd. is looking to expand its reach to provide this information on each fill. This could happen sometime this year. You should find the reporting of our James Armstrong and John D'Antona of use to better understand what's at stake.

Control came up in one conversation I had recently with a longtime buysider. In his opinion, the buyside never had more control of its orders than in the early days of direct market access, when the buyside could trade on an ECN through front ends like Lava. But he added, with the way algos work today, maybe control isn't necessary. Markets move so fast, it would be impossible to access liquidity without algorithms. "You're really reliant on who's building that algo," he said. But more transparency never hurts, he added.

In this issue, you'll read about Nasdaq's unsuccessful attempt to have issuers support their stock. The SEC vetoed it, even though it is used in some parts of Europe. Despite the benefit of more liquidity, particularly for lightly traded stocks, the proposal would have required an old NASD rule be overturned that still bans such practices. The story also points out that between 1997 and 2009, the number of publicly traded companies in the U.S. fell from about 8,200 to 4,400. That is a staggering drop. You can also read about Nasdaq's general counsel Ed Knight's testimony before the Senate Banking Committee. He talks about the capital raising process and how to lift the fortunes of smaller companies from the current fragmented market. I'm sure you'll find some of his points of interest. Enjoy the issue.


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