September 21, 2008

Jason Lenzo, Jim Imhof, David Rothenberg from Russell Investments
Jason Lenzo (l.), Head of Equities and Fixed-Income Trading; Jim Imhof, Managing Director of Global Trading; and David Rothenberg, a Managing Director in Investment Services are driving Russell Investments´ hybrid trading strategy
With views of Mount Rainier from every floor of its granite headquarters in Tacoma, Wash., Russell Investments stands out both for its picturesque location and for its unique business model. Russell Investments is generally thought of first and foremost as an investment firm specializing in multimanager investing. But with more than $213 billion in assets under management (AUM) and more than $1 trillion dollars in combined asset class transactions, Russell is more than a typical buy-side firm.

Russell also is a sell-side firm, registered as a FINRA agency-only broker in order to transact for its buy-side clients. How do these two sides often separated by a Chinese Wall at Russell's bulge-bracket broker-dealer competitors function as a single operation to benefit clients?

The model begins and ends with the buy-side trading desk, according to David Rothenberg, a managing director at Russell's investment services division. "The way operations are structured, the information flow, the compliance from a legal and regulatory standpoint, all start with the requirements of a buy-side trading desk," he says.

The sell side is layered on top of that, operating as a registered agency brokerage for physical securities, Rothenberg explains. "It affords our clients flexibility in the way they interact with Russell," he says. "It also allows us further investment in risk management, trading and information tools."

As a result, Russell can operate as a fully outsourced investment adviser, handling all of the portfolio management and trading for clients, Rothenberg points out. Or the firm can act as an execution destination where customers can leverage Russell's access to liquidity venues. Compensation back to Russell can be structured either through an AUM model or a transaction/volume-based model.

Servicing the Buy Side

The formation of Russell's hybrid buy-side/sell-side approach has been years in the making. Russell started with separate trading desks one derivatives desk in support of its investment management business, and one desk in support of its physical execution and commission recapture business.

About seven years ago Russell dually registered as both broker-dealer and investment advisor. Separately, four years ago, Russell made the strategic decision to move their Commission Recapture program exclusively to their growing network of corresponding brokers and closed their internal CR trading operation. About a year and a half ago, the derivatives and physical trading groups were folded in to form the single operation that exists today.

Access to liquidity was one of the main drivers and success factors of Russell's hybrid trading model, relates Rothenberg. "Within the past five years there has been a shift of access to information from the sell side to the buy side," he says. "The buy side now has more access to information, more choices for liquidity and more direct-access choices than the sell side."

Rothenberg adds that through trade order management system (OMS) offerings, the buy side continues to gain access to a wider and wider realm of sell-side tools. "Traditional broker shops have access to their own liquidity, their own prop desks, their own algos and their own upstairs network. But they only have theirs," he notes. "The big difference is we have every single [sell-side firm's tools] integrated into our systems."

Rothenberg says Russell's traders rely on a few OMSs internally, but the firm has worked to integrate the multitude of buy-side tools into its network. "[The sell-side firms] recognize and understand the unique business model at Russell we are agency-only working on behalf of our clients, and we have no proprietary trading that would make us a competitive counterparty in those trades," he says.

Russell Investments Trading Floor
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Russell's traders not only have a different mindset than their buy-side-only counterparts, they also are compensated according to the more attractive sell-side model. "It allows our traders to have access to all the technology, systems and liquidity that is a buy-side desk but then they're paid by activity as opposed to assets under management," says Rothenberg.

But while Russell traders are compensated in sell-side fashion, the desk stays true to its roots as a fiduciary in all deals, stresses Jason Lenzo, head of equities and fixed income trading at Russell. "We operate where the buy and sell sides come together. ... But the goal is not to push a bunch of volume; the point is to achieve the best results for the client," he says, emphasizing the firm's stringent agency-only sell-side approach. "We don't seek capital or participate or trade, and we don't have a proprietary trading desk."

Jim Imhof, managing director of global trading at Russell, adds that first and foremost Russell is an asset manager. "Our organizational model is fully disclosed to clients, and it's very transparent, as you would expect an asset manager to be," he explains.

The Hybrid Model in Action

Rothenberg points to an example of the buy and sell side trade coming together in the firm's transition management business. "We sign a contract and act as the fiduciary adviser in the care of that asset pool. When it comes time to implement a trade because clients are going to pay us for commission flow, we need to be a sell side that comes into a trader and he runs the trade," he says.

"Side by side to that could be another client in transition management that is paying us under a completely different model, say an AUM-based fee," Rothenberg continues. "That also goes through the trader, and he will work those orders in a consistent fashion. But some are treated as sell-side orders and some are treated as buy-side orders. No advantage is given to one over another."

Lenzo adds, "We have the benefit of the top-down risk management of a portfolio trading desk or traditional asset management shop coupled with the bottom-up execution of a sell-side shop, which ultimately ... benefits the client."