In early May, the NYSE announced that its program trading volume had broken the 52 percent level. A newly released study by The Tabb Group shows that 67 percent of large money managers' order flow is traded via FIX, ECN or algorithmic model - and that chunk is expected to rise to 83 percent by 2006.
These statistics mean that the way in which brokers traditionally manage their relationships with the buy side needs to change. The relationship is moving from one of high-touch to one of low-touch - from one in which the sales-trader continuously offered ideas, took orders and provided fills, to one in which the relationship is less about orders and more about value and market color.
But a funny thing happened on the way to the venue. As more order flow transitioned to electronic channels, more orders were executed away from the broker, routed through a black box or split into little trades, providing the broker with less market color and less information to offer the buy-side trader. So where will this lead? Does electronic trading necessitate a reduction in service?
As the markets become more electronic, brokers will shift their focus from helping firms over the phone to helping firms interactively. Larger money managers are increasingly placing a greater weight on brokers' ability to provide electronic tools and quantitative strategies. As electronic connectivity, trading and algorithms become more popular, this reliance on trading tools and quantitative strategies will only become more pronounced.
But how do firms deliver these services to their buy-side clients? Should brokers build software products, provide functionality via FIX linkage, or go back to the portal strategy of the late '90s? The problem is, these strategies are flawed.
The portal strategy only functioned where few portals existed; once there were more than a handful, the buy side could not use them. Desktop software faces the same problem. While providing a robust trading and delivery platform, fat-client software is difficult to install, implement and instruct. And, though the first platform will get locked in, others will be locked out. A FIX-based solution may be the most unobtrusive, but FIX is not tremendously fast or flexible at providing differentiated services, since FIX tags and formats were developed for trading, not for providing value-added services.
So, the answer may be Web services. Web services will allow small, lightweight applications to be developed and deployed within the customer's infrastructure. Web services will start out as Excel add-ins but will become increasingly integrated into firms' order management systems. They will work similarly to Excel or Word buttons, which, with just a click, open new functions tailored to the traders' needs and the brokers' services.
But, that day is not here yet. Web services standards and tools are not robust, management infrastructure is not in place, and cross-firm integration and connectivity tools are only beginning to be deployed. So what do we do in the mean time?
While human relationships are certainly not dead and will continue to be a staple of the industry for years to come, the writing is on the wall. As more order flow moves without human interaction, firms that historically differentiated themselves through personal service and creativity will need to increasingly differentiate themselves through technology tools and services.
How they pick their channel, however, will be increasingly important. While the day of the portal and the fat client may be over and the day of the Web service may be in the future, balancing these channels and technologies will be tricky and expensive, but critical for the firm to win in a more electronic and faster-paced world.
Larry Tabb is founder and CEO of Westborough, Mass.-based The Tabb Group, a financial-markets strategic-advisory firm. [email protected]