The arguments for outsourced trading are numerous and varied. Flexibility, expertise, access, efficiency, scale – the list of benefits goes on and on. But there is still a large slice of the buy-side community that is only just starting to learn how much outsourced trading solutions could help their firms.
At the recent Fixed Income Leaders Summit, I ran an interactive session with a sizeable group of fund executives. Two things were clear from that session. The first was that there was no shortage of detailed questions based on first-hand experiences and the particular challenges their funds faced. The second was that for every thorny question, they clearly appreciated that there was a compelling answer.
In this post, I’ll talk about some of the discussion points that came up in that session. I’ve picked a few of the questions that also tend to come up most often for funds that are starting to consider what outsourced trading could do for them.
The value of extra hands
Let’s say you’re a small- to mid-sized fund. You have secured your investors, developed a clear trading strategy and formed ambitious plans for growth. Perhaps you have one or two in-house traders who can handle everything from routine trades to complex, multi-leg transactions. They’re good at what they do. But sometimes you’re short-staffed, without the bandwidth to do all the trades you’d like to do. At other times, you can’t source the liquidity you need, or you might not have the in-house expertise to work an order in the most advantageous way possible.
Let’s take this thought experiment one step further. How helpful would it be if, at a moment’s notice, you could have a spare set of hands to handle some of those trades, an experienced pair of hands that could jump in whenever an in-house trader was unwell or on holiday? Now imagine you could have about 45 spare sets of hands to choose from, spread out around the world, all of them focused on moving your orders quickly and efficiently.
Outsourced trading is no longer a novel concept. Its benefits are well-documented and its rapid growth is testimony to the fact that buy-side firms throughout Europe, Asia and the Americas now recognize those benefits. Those 45 spare sets of hands I mentioned? That’s the size of the trading team we have at TD Cowen. The size of that team has been expanding consistently for several years, because the list of funds that are embracing outsourced trading is growing longer by the week.
In some cases, a fund uses us to handle all of their trading needs. In a rising number of cases, funds use us as a supplemental resource. We’re the extra hands they can bring in whenever they need. They might have two or three days in a month where they have really busy days and they need the extra capacity. Not only do they get skilled traders whom they can rely on to work exactly the way they want, but also there is the added advantage of not having to invest in space, extra technology and salaries. They are paying for two or three extra days of trading support and that’s it.
How does outsourced trading compare with in-house trading?
Most large buy-side firms have centralized dealing desks, with portfolio managers from various parts of the firms sending in orders. That centralized trading desk then executes on behalf of the firm, often with different strategies for different PMs. At TD Cowen, we have the same model. It’s a centralized dealing desk. The difference is that the PMs that are serviced happen to sit at different firms. We still have different trading styles and different asset management strategies that we need to accommodate.
When funds use an outsourced trading provider, how does it work?
For smaller clients that don’t have in-house traders, or that use us for certain geographies, asset classes, or styles of trading, we become more of full-service solution. As the assets grow, sometimes we evolve to more of a supplemental role. Those extra hands not only mean you get best-in-class execution, but also they ensure that nothing slips through the cracks due to bandwidth issues.
The goal is to replicate the role of the in-house trader. What it means to be a trader is evolving. One part of what the trader does is to execute trades. But also, the broader piece of what a trader does involves being the eyes and ears on the market, and having a pulse on how things are evolving. That means being aware of evolving technology, data or any other aspect of modern trading.
What are some of the ways that outsourced trading differs from one client to the next?
Some firms might look for low-touch technology. They might want an efficient solution to process a large volume of tickets. Or a firm might want to trade blocks of illiquid bonds or other types of trades that require a lot more human interaction. It does not matter if such trades are processed electronically or not, they will involve more time and human interaction. Whether it’s a technology-oriented solution to address low-touch needs, or a human-centric solution to address complex high-touch needs, we’re in a position to address the requirement.
How does outsourced trading differ from agency broking?
Agency brokers are always working for two sides. They’re working for the buyer and the seller, and they’re trying to get the best price for both. Whereas we are only working for our clients. We will have only one objective and it’s to get the best price for the fund, because that’s who we’re working for.
How does a fund know what it will be paying for the trading service?
What’s interesting about the outsourced trading relationship is we have a pre-agreed fee schedule. This works for everyone. We always agree in advance on a fair commission schedule. It’s not in our long-term interest or the client’s for us to build a schedule that is lopsided. We’re never going to be incentivized to try to maximize the markup on a trade.
These were just some of the questions that came up in the session. It was clear that the audience was keen to hear how an outsourced trading desk could handle different scenarios. If you’ve read this far, you probably have scenarios of your own where you’re wondering how a trading desk provider like TD Cowen could help. We’re always happy to answer those kind of questions. Just drop us a line and we can have a chat.
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