4
Feb
Broker-Dealers: Is Your Cart Filled with Expensive Clients?
It surprises me that many broker-dealers we talk to still consider the act of “billing” or “invoicing” their clients for monthly trade activity an operational task, rather than a strategic leverage point. In an era of decreasing commission dollars and greater competition for order flow, shouldn’t everyone be looking to gain every advantage to maintain existing customer business, if not increase business?
At Firm58, we see two main reasons why broker-dealers are stuck in this operational mindset. First, some BDs simply state that “we’re charging ‘X’ mils and making a profit, why do I need to change?” The truth is, each customer has a unique set of demands, and receives differentiated levels of service.
Two retail customers don’t walk into a grocery store, fill up a shopping cart each and get charged the same amount of money for a shopping cart full of groceries. It all depends on what was purchased. Might the store make a profit with this strategy? Sure. In the short run, the average price might compensate but, over time, those that require less (or fill up the cart with less expensive goods) will shop down the street where they’re charged only for the goods they purchased.
On the other hand, those that fill up the cart with expensive items (are provided more than what they are paid for) will continue to fill up the cart with expensive goods and become smarter about asking for more, at the same price. Soon you’ll be left with customers that are eating away at profits, and your business will suffer.
Differentiated pricing that represents the costs of the services provided isn’t new in capital markets; it’s just sometimes ignored in favor of an “overall profitable trading business.” Shortsighted decisions like this come back to haunt firms.
Second, many firms don’t have the systems to properly charge for the services provided with a mark up for their costs, thus have to rely on a flat rate. Why is this so hard? Well, measuring the daily costs of trades made across many exchanges with complex fee structures, maker/taker fees, etc., is difficult. It takes investments in infrastructure and resources to manage this properly. These investments are typically viewed as “operational” and do not get the same level of commitment as those viewed as strategic (i.e., revenue generating).
But imagine being able to use this execution cost data to support smart order routing, or simply provide greater transparency to customers for compliance. If you consider all of the possibilities for tracking costs at this detailed level you’ll see it’s not a tactical cost, but in fact a strategic investment in your business and your customers.
For those that get it, pricing and billing both present a unique opportunity to differentiate services, maximize revenues of existing business, and generate new business (e.g., by offering competitive cost-plus billing). Those businesses that address these functions strategically will thrive in all economic cycles, not just the upswings.
16
Nov
The Expanding Significance of Explicit Cost TCA
Without question, measuring implied trading costs is an important gauge of a broker’s performance, but the current definition of Transaction Cost Analysis (TCA) is far too narrow. In addition to implicit costs, a comprehensive TCA program needs to include explicit trading costs as well.
Historically, TCA has focused on the measurement of execution quality. In other words, did I get the best price for an order relative to the time the order was placed? Measuring the trade timing success of brokers, venues and algorithms, with benchmarks such as VWAP or “implementation shortfall” is critical but does not paint the full TCA picture.
What is missing from traditional TCA is the calculation of explicit costs. Once believed to be easy to estimate, commissions paid to brokers, regulatory fees and most significantly exchange fees are today very difficult to measure due to the ever-increasing market fragmentation, the introduction of liquidity based fees and rebates and the frequency of fee schedule changes. In our experience at Firm58, on-demand visibility into explicit costs, as well as reports detailing the most economic venues, assets, traders, etc. can help broker dealers understand how to not only reduce expenses, but also make strategic decisions about where to funnel order flow.
Measuring market impact by comparing trades against benchmarks composed of price, time, and volume (implicit costs) in combination with measuring the fees actually levied by all trading constituents (explicit costs) is the only comprehensive form of TCA. In today’s increasingly fragmented market where margins are shrinking, explicit cost TCA is even more important, and accessing this information in a timely manner can result in significant savings and more proactive decision-making. As profitability becomes the key metric for success, competitive firms are actively seeking a comprehensive TCA program. Are you?
14
Oct
Market Structure Changes Post Trade Needs
Over 5 years ago when our founders created Firm58, one of the core principles was that changing market structure (i.e., more trading venues, digitization, etc…) was making post trade financial analysis & reporting exponentially more complex. They were clearly right. Everyone knows how hard it is to, daily, look at your OMS records, your clearing files and try to reconcile what happened across which “markets” and at what fee/rebate. Customers demand more transparency into their trade activity. Companies are scrambling at best to keep up. The largest brokerages are scrambling to make sense of all this post trade data in order to reduce their Brokerage, Clearing and Execution costs, which typically represent the 2nd or 3rd largest spend in their organizations.
While I was at the Rosenblatt Financial Technology Summit in New York two weeks ago, Joe Gawronski (President) and Justin Schack (Director of Market Structure Analysis) led off the conference with a talk on regulatory reform and the impact on competition in the industry. In that talk they reviewed some of the historical facts that have lead to today’s market structure. In particular, two slides (shown here) detail the changes in market structure from 1997 to now, and put some hard facts around this problem of market fragmentation and complexity. The duopoly in US Equity Markets we knew 13 years ago has been replaced with at least nine market places or venues making up almost 98% of the volume.
What does that mean for you? As we’ve been saying for years, if you’re a brokerage of any size, and you’re trying reconcile monthly exchange invoices and fees against your daily trading activity, good luck. Spreadsheets and MBA’s are working overtime to give you (at best) averages and a high level view of the business. Granular trade by trade analysis, and detailed views of clients is impossible without a system to help you. With the pending changes in regulations and compliance around trade detail and transparency you will clearly be at risk.
