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Is E-Trading Eroding The Bulge-Bracket Broker Advantage?

Institutions are making more use of both e-trading and sophisticated tools that help them evaluate execution results—and non-bulge bracket brokers are frequently besting their bigger rivals on this fast-evolving playing field.

Ken Monahan, Greenwich Associates

Ken Monahan, Greenwich Associates

Between 2017 and 2018, there was not a single change in the rank ordering of the Greenwich Share Leaders in U.S. Equity Trading, the industry-standard ranking for top brokers. However, that stability masks a huge and increasing level of turnover. Over the same 12-month period, the median institutional client was reallocating a third of their U.S. equity trading volume among brokers and that median volume allocation increased by 50% between 2014 and 2018.

For large firms with broad client bases, many of the individual reallocations are canceling one another out, dampening the aggregate effect. Nevertheless, it is becoming clear that the “stickiness” of the service-driven relationships that have long provided the foundation of bulge bracket business is being eroded.

“Our data shows that broker-client relationships are becoming less stable. In fact, the historic stability advantage enjoyed by the bulge bracket firms almost has evaporated almost completely in just four years’ time,” said Ken Monahan, Senior Analyst for Greenwich Associates Market Structure and Technology and author of Customer Retention in the Age of Electronic Trading.

Execution Results Trump Relationships
For firms looking to either defend themselves against reduced client loyalty or to lever it to capture share, it’s important to know what is driving the reduction. Increasing turnover levels are driven by three interrelated factors: 1) The expanded use of electronic execution and the implicit ease with which electronic execution flow can be programmatically re-allocated, 2) The increasing sophistication with which institutions are evaluating their sell-side brokers, and 3) The surprising fact that by some measures non-bulge brokers are doing a better job than bulge-bracket firms at meeting clients’ e-trading needs.

The increasingly universal use of tools like transaction cost analysis has now made it possible for institutional investors to collect transaction data over time on a per-broker, and even per-algorithm, basis. This data is then used to determine the execution quality and to reallocate their flow accordingly.

“When it comes to e-trading client satisfaction, non-bulge bracket firms has pulled ahead in the rankings,” said Ken Monahan.

Looking forward however, the bulge bracket sits at the nexus of client trade flows and data that enables them to use data science and machine learning to rebuild their competitive advantage. For example, it’s possible that discernable changes in client message traffic could reveal nuances in execution outcomes that may presage a future reduction in that client’s volume allocation to them. “With data as a guide, timely interventions by salespeople can reduce the level of client volatility, bringing the technological revolution in trading full circle—by enhancing the importance of relationship management,” says Ken Monahan.