Greg Tusar, head of the Goldman Sachs Electronic Trading business in the Americas, sat with Traders Magazine recently to discuss a number of issues affecting equity trading today. Among the topics addressed were developments in market structure like order routing and order handling, as well how algorithms and dark pools are evolving. An industry veteran of 18 years, Tusar offered some of his insights in this second leg of a two-part Q&A.
Traders Magazine: What about the next generation of your dark pool, Sigma X?
Greg Tusar: There are two things I would mention. One is potentially new geographies. We’re talking about starting in at least one new place–which we’ll be announcing shortly. The other is trying to move back the direction of larger execution sizes. One way to do this is with block contingent orders. It’s something we’ve experimented with–in other pools and now in our own. Essentially we allow clients to simultaneous search for flow in multiple pools, yet stand ready to consummate a block should the opportunity arise. For instance, a client’s total algo order is for 10,000 shares. Our algo will be working small portions of that order, say 500 shares, at several different pools. Meanwhile, they can have a block contingent order for the total quantity in our pool that will only execute with another block. In other words, the client avoids over-execution risk and automates what they may have done manually, in a negotiating system. There’s clearly a desire to increase the print sizes that people are experiencing, instead of trying to re-assemble the blocks. We think this will get clients there without requiring a change to their workflow.
TM: So, it’s just an ordinary cross through a dark pool, with the ability to not over-execute?
Tusar: It’s more about managing a large order, across multiple venues, in an intelligent way. We’re allowing clients to say "work my order algorithmically in all liquidity centers, but if the opportunity to cross with a natural arises, then get me done." Historically clients have had to choose whether they want to commit their order to an algo, or try to negotiate a block in a dark pool. Our intention is to provide them with both options simultaneously, and all they have to do is check a box.
TM: And this process takes how long?
Tusar: It’s fast … measured in milliseconds.
TM: So you also have a portion out looking that you could cancel on a moment’s notice?
Tusar: Correct. So, the client’s objective is to be in as many places where they can search for liquidity. I can trade a block if a block’s available, but I can also cover the surface area of the market.
TM: In a way it sounds like the old dealer-to-dealer market in Nasdaq, just electronic.
Tusar: Yes. It’s funny. A lot of the things that we call innovations in the electronic market are electronic manifestations of old physical processes. We could have numerous examples of: this is a negotiated trade, but the negotiation happened electronically.
TM: It worked. It just involved more people and was slower. So you’ve built an entire business model based upon all the technological changes, Reg NMS. Do you like what you see in the market today–as far as the market structure?
Tusar: To say if it’s good or bad, or if I like it or don’t like it might be over-simplifying it a little bit–it’s certainly different and much more complex. In our comment letter, we try to point out that there are lots of things that we could do better. Dealing with complexity is the key issue. Complexity played into a lot of what happened on May 6. And steps have been taken to manage the complexity. Circuit breakers were an appropriate step to better coordinate a fragmented market. We think there may be further calibrations for exactly what the circuit breaker’s levels are, or the exact mechanism. But the idea of the systemic circuit breaker is broadly the right idea.
TM: What do you think about limit-up/limit-down?
Tusar: The benefit of limit-up/limit-down is that it doesn’t actually halt trading. It allows price discovery to continue. Buyers and sellers will continue to meet and trade, just not at prices that are below a certain level. So you have the effect of having a pause, which seems like the right strategy. But you have the added benefit of trading at least being continuous. That’s particularly why we thought limit-up/limit-down is a better approach.
TM: Are there any issues with limit-up/limit-down?
Tusar: Well, coordinating limit-up/limit-down systemically might be technically difficult to do. So, in terms of there being a quick response, the current solution made sense. It might need further calibration to determine whether, say, down 10 percent over a five-minute window the right level? Does it need a different mechanism? At least it’s a step in the right direction. The other thing we point out in the Concept Release is the concept of the consolidated audit trail, which for a host of reasons related to the industry’s ability to really understand the dynamics of market participants–that they have more rigorous (both regulatory and academic) study of the impact of the changes of the last decade is critically important. And the idea of having a database that has systemic market activity in it that would allow you to do those kinds of studies we think should be prioritized. We featured that in our letter, also.
TM: Looking at sub-penny, or Trade-At, or other ideas or rule proposals that you thought were moving in the wrong direction, did anything in the Concept Release stand out to you as a number-one priority for addressing? Was there something that said: this is heading in the wrong direction, and we’re keeping our eye on it?
Tusar: I don’t know that there was one that I would say is the one. I think there were a few that we thought strongly enough about that we pointed out in our comment letter.
Sub-penny quoting is one. Given some of the challenges of trading in the penny environment, the idea of complicating that further by allowing sub-penny increments doesn’t seem in line with the both the industry and regulator’s stated goal of improving displayed liquidity.
When a trader bids 10.00 for 50,000 shares, it’s frustrating enough that someone else can bid a penny more, at 10.01, to step in front of that block with a 100-share order. If that order can instead pay 10.001, that’s certainly going to exacerbate some of the effects that people have found potentially difficult to problematic.
Then, there’s Trade-At. The challenge with Trade-At is two-fold. One is if we move to a Trade-At regime, that harms people’s incentives to compete. We believe that a Trade-At essentially creates the CLOB [consolidated limit order book]–the thing that everyone agrees would stifle innovation.
But the more practical issue is having Trade-At without consideration for the trading fees that are associated with those quotes ignores something that has to be relevant. Not all the market’s quote prices are created equal; they have different access charges associated with them. For instance, an offer price of .12 at one exchange really means a total cost of .1229. At another exchange it means .1198. That’s a meaningful difference. If we were to have Trade-At, you’d have to contemplate the fact that they’re not all simply 12 cent quotes. They are 12 cents plus fees, and those fees have to be considered in the calculation.
TM: You mentioned lit and dark markets. What’s the ratio of lit to dark volume, 60-40 percent?
Tusar: In broad numbers: 70 percent is the large exchange complexes–NYSE, Nasdaq, BATS and Direct Edge, and their sub-exchanges. And 10-to-12 percent are broker-owned ATSs. The balance is upstairs prints. So, if you were to parse them into on-exchange/off-exchange, it’s like 70/30 percent. If you use Rosenblatt as a proxy for how the broker ATS is growing, it’s been stable over a period of time. Some of the concerns about how it will tilt the price discovery, etc., there’s a natural level that reflects the amount of order interaction that happens within each firm. And as each firm becomes as efficient as it can be at matching, you’re reaching a stable state, in terms of what orders interact internally and what orders go to the markets. The levels of both market share and that order flow interaction are hitting stable points.
TM: Do you think we’ve reached the ratio where it will be for a while–unless you can increase the amount of blocks in dark pools?
Tusar: Broadly, I’d like to think we can gain market share here or there. But in terms of massive tectonic shifts in market share between lit and dark, or wholesale or not, I don’t see a catalyst for a major change.
TM: So, like 65-35 percent, or 60-40 percent tops?
Tusar: Yes.
TM: And the issue of speed, as far as your business, you’re saying that you have to be faster all the time?
Tusar: Yes, it’s one of these things where the journey is more important than the destination. You have to be constantly committed to finding the next place to be more efficient, be better at acquiring the market data faster … all in the name of better executions for algo- and smart-routed-orders. But we’re in a marketplace where you’re competing on your technology infrastructure, so we’re as engaged as anybody in infrastructure improvement. It’s very important. If we have a client order who wants to buy 100,000 shares of a stock. When an offer shows up that’s at a price that our algo determines is attractive, we have to be as fast as anyone else out there to react to that quote and to lift that offer.
And so there’s really no such thing as "fast enough" when you’re executing client orders, we have to be competitive. So, that means doing things like taking in direct feeds and using hardware-based mechanisms to do it. And it means making our infrastructure faster, etc. There are places we won’t go, in terms of the pursuit of speed. One thing we’ve stayed away from is providing naked access. There’s a minimum baseline of running orders through pre-trade checks and risk checks and compliance checks and other things. And that is going to take a certain amount of time. And that may mean that there are client demographics and businesses that we can’t engage in, because as a policy, those aren’t some places we’re willing to go.
TM: But there are some quant shops where the fastest … it’s not a latency game; as long as they get there faster?
Tusar: That’s right.
TM: And those are the types of clients you’d want to run through your dark pool, as well?
Tusar: We’d want to run through our infrastructure, generally. So, we’d want to compete for them, whether it’s market access, interacting through our own pool, or running through our smart router or our algos. Where we won’t compete is where we’d have to eliminate all frictional latency that comes from risk checks, etc. The rulemaking is still outstanding on that. It seems like that’s going to happen.
TM: What does it take to be one of the top dark pools if you’re a broker-dealer? What type of order flow do you have to attract?
Tusar: To a certain degree, a size of the pool is proportional to the size of the equities franchise, overall. And so it relates to how big the firm is in totality. In other words, we have our electronic franchise. We have flows that come from our high-touch channels. So, to a certain degree, that match rate is what drives the growth. On top of that is the gravitational effect that will bring additional orders. But as a baseline, it’s going to be proportional to your overall equities franchise.
TM: This whole issue of high-frequency trading and speed, the aspect of sticking your leg out too far, and people saying: there’s a leg (and grabbing it). That sounds like a big issue. The issue is that HFTs can sniff out institutional orders and run ahead of them. That’s a concern: they’re faster than we are, but when they sniff us out, then they’ve really got us beat. Obviously, you don’t want that to happen.
Tusar: I think the key is to have well-designed order-placement strategies. And it goes back to our research on smart-order routing techniques that simply don’t leave the breadcrumb trail that allows for that to happen.
TM: It’s all about the routing strategy, then?
Tusar: It’s about the routing strategy, and the order placement strategy. The best techniques and the best mitigants to prevent what you just described from happening are pretty simple blocking and tackling kinds of things. In other words, randomize your order size and placement of orders, using "Minimum Execution Quantity," because I don’t want people pinging me for odd lots and then finding out I’m there and stepping in front of my order, etc.
TM: So, do you think the concern among institutions is that there’s so much high-frequency trading, and they feel like they’re getting beat to liquidity here? Is it just the way the markets work, and there’s this feeling that somebody out there knows what I’m doing?
Tusar: I think it goes back to understanding how this works and having enough confidence in understanding who the participants are and how these kinds of things happen. To a certain degree, it’s fearing what you don’t understand. So, I think that we can really go through the details of how we prevent these things from happening.
TM: Everybody’s fast. It’s almost like saying electronic trading. Even manual trading is electronic …
Tusar: That’s exactly right. It’s all fast. I think you know what I’m trying to get at. It all employs technology.
TM: You mentioned the market maker obligations. What would you like to see, as far as obligations?
Tusar: For people that effectively hold themselves out as market makers, whose activity would otherwise, in prior days, have looked like the activity of a specialist or a Nasdaq dealer, the idea of obligations broadly is a good idea. That’s something that’s also in our comment letter. However, we didn’t go into details as to what these obligations should be.
