TCA to the Rescue?
In order to make those decisions, more-precise data reviews - in real time and tick by tick - are necessary and likely will play an increasing role in best-execution committee decisions. Fortunately, determining execution performance, both on the part of the buy-side trader and the broker, has become a bit easier with the advent of transaction cost analysis (TCA) software, such as the products offered by ITG Solutions Network (which includes the former Plexus), QSG, Abel/Noser and Elkins-McSherry.
Many firms, however, still are getting their feet wet in the world of TCA. While close to 100 percent of firms managing more than $50 billion in assets use TCA software, according to a 2005 TABB Group report, only about 35 percent of small firms (less than $10 billion in assets under management) were using the software at the time of the report. TABB Group predicted that about 85 percent of U.S. asset managers ultimately would end up using such software.
"When market-making reporting and order-routing disclosures first came out, it was difficult to get your arms around the validity, consistency and usability of the data," remarks the anonymous head trader. "But since so much data flow now is electronic, the customized reports are more comprehensive and comprehendible. ... [But] we are on the ground level of tapping into TCA and seeing how it will fit into our business model; I am just learning like everyone else. It is an ambiguous industry now."
The head trader says he uses ITG's TCA platform in conjunction with the Advent Moxy order management system (OMS). Even though his firm is somewhat new to the process, he says, it already is at the point where "we can give a client a comprehensive explanation as to why we chose a broker."
At Franklin Templeton, which manages $542 billion, "The [best-execution] committee also is charged with making sure we have the technology to achieve best execution," the firm's Stephenson says. "That includes ... making sure traders understand how the TCA works so it may be used to change or improve their strategies."
Whether or not TCA technology plays a major role in the decisions of a firm's best-execution committee - and thus its overall trading policy - depends not only on its size, but also on its customer base. Generally, a firm with a large number of institutional customers, which have down-the-line financial obligations to millions of individuals, will have more of a reason to use TCA than a firm that primarily deals in funds containing the assets of individual investors, according to industry insiders.
"We use Abel/Noser and Plexus [ITG]," says the head trader who requested anonymity. "It's a growing part of what our [trade-oversight] committees do. But historically, it had never been that big because not a lot of people asked for it. We don't do a lot of institutional business. Thus far, our customers do not dig into TCA data because they do not understand it."