For years the buy side has struggled to pay for quality research by trading with every broker or boutique that supplies it with valuable reports or trading ideas. Maintaining the status quo would mean continuing to trade through as many as 200 brokerage firms that provide valuable research but whose trading desks may not deliver best execution.
But now the execution and research relationship between the buy and sell sides is undergoing a change, thanks to a new spin on soft dollars. Last July, the SEC issued guidance suggesting that buy-side firms no longer need to trade directly with brokers that supply them with research. Instead, they can consolidate their broker lists and do more trading with brokers that provide best execution, while tacking on an extra commission to pay third-party research providers.
Eyeing an opportunity to attract more incremental order flow, several leading bulge-bracket brokers -- including Credit Suisse, Goldman Sachs, Lehman Brothers, JPMorgan and UBS -- have set up so-called commission-sharing arrangements (CSAs). The CSAs allow the buy side to execute trades electronically through the bulge-bracket brokers while banking an extra commission to pay for research from others.
Credit Suisse is among the first firms to jump on the trend with its Research Exchange, or Rx, a program that allows the buy side to access Credit Suisse's Advanced Execution Services' (AES) algorithms. "Rx is the prescription for commission management," says Manny Santayana, managing director and head of Credit Suisse AES sales for the Americas. "The reason Rx exists is that buy-side firms want to ensure they are receiving best execution while contracting their executing broker lists to pay for the research they value."
Rx is a global blanket agreement that applies to all asset classes governed by the SEC, according to Santayana. It focuses primarily on equities to accommodate money managers whose clients, including pension plan sponsors and 401(k) plans, are holding them accountable for best execution, he says. Santayana notes that some of Credit Suisse's clients are attempting to cut their broker lists from 100 to 30, while the largest money managers that have 250 brokers would like to cut that down to 100.
Institutional clients can use Credit Suisse's Rx across the entire cash equities floor, including AES algorithms, block trading, program trading and international equities, as well as options that are traded on an electronic basis, according to Credit Suisse. Ultimately, it allows clients to achieve best execution and still pay for the research, the firm claims.
Anticipating the SEC's July ruling, Credit Suisse worked last year to put its CSA program in place by the second quarter of 2006. Credit Suisse worked with front-end vendors -- such as Bloomberg, Portware, FlexTrade, Charles River and Eze Castle -- to provide buy-side users with access to a window where they can indicate which portion of their order flow goes into Rx or whether the trade is non-Rx, says Santayana. "It's kind of like online bill payment," he explains. "It's a very streamlined method of getting the vendors signed up and requesting payment," Santayana continues. "All they do is click on the research vendor on the AES Web site. Then the ticket executes on the strategy they design with AES. It's all being driven by the need to achieve best execution."
In addition, the buy side is looking to place a value on the research. "Rx helps segment where the value exists, both in the execution venue and in the research providers who are providing the best research," asserts Santayana.
According to Santayana, the next two or three years are going to be a land grab as the brokers that have CSAs seek to build market share. He says he foresees buy-side firms keeping their top bulge-bracket brokers close to them, and ultimately having only three or four they utilize for commission sharing.
So what will happen to full-service trades? "It's all going to unbundling," predicts Santayana. "Unbundling seems to be the right thing to do as a fiduciary at this point." Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio