Where there is the technological way, there is the will to identify and reduce cost and risk to the bare minimum in today’s investment management world.
E-Crossnet, the electronic securities crossing network announced recently by Barclays Global Investors (BGI) and Merrill Lynch Mercury Asset Management (MLMAM) is a case in point.
The system, commencing early next year, will enable anonymous crossing of offers and buys at the mid market price during designated times of the day, thus reducing brokerage fees and market impact on trades.
With average transactions costing around 50 basis points (bps) - ex stamp duty, and possible market impact in the order of 10-15 bps, E-Crossnet could represent transaction savings of up to 80%, says Andrew Skirton, chief investment officer at BGI Europe.
“It’s all about trading in a cooperative manner between investment managers. A broker will still carry out the settlement in the normal way and clearing will remain the same – but we are rationing the overall process.” he says.
Fees for network transactions will be set at 10 bps with around half going to the selected network broker(s), which have yet to be appointed.
Nineteen managers have already signed up, which Skirton says conveys how important and beneficial the system will be for clients and consumers. A number of investment managers from continental Europe, although currently anonymous, are already involved in E-Crossnet, he adds.
And the network is open to pension fund managers, with Peter Murray, of Railpen and former chairman of the UK’s National Association of Pension Funds already giving the initiative a ‘warm welcome’.
Skirton at BGI believes interest will certainly spread. “I’m sure that within the EU, pension schemes such as PGGM and ABP will be very interested in participating.”
Sir Michael Jenkins, former chief executive at LIFFE now heading up E-Crossnet says the expected volume of trades to go through the system is £20, (£15bn) with £20-30bn sought in the next two years. “It is a significant amount, although it represents only 2 to 3% of the overall market.
“Prices will be taken from the relevant exchange and the London Stock Exchange has already seen the need to work with us to keep investment costs down. We need to see how this develops now with other European exchanges. Participants will also be offered shares in the network, so the sense is of a shared industry vehicle.”
He adds that the network may also start themed crossing points such as small caps, and sees no reason why the system could not evolve to become a ‘wish list’ type network.
The system still has some technical problems with regulatory backgrounds and asset ownership issues to resolve, but these are minor hurdles says Skirton at BGI. And Europe is just the first step, he notes. “We need to negotiate the present UK and EU version first, but then we will be looking to the US and elsewhere to develop the network.”
Unsurprisingly, the current surge in electronic trading initiatives in Europe is grabbing the attention of US on-line brokers.
Knight Securities, the US equities market maker, currently the top ranked dealer in Nasdaq/OTC securities volumes with a 15.6% share at December 1998, has just bought a 20% stake valued at E7.8m in Brussels based Easdaq as part of its migration.
Kenneth Pasternak, president and CEO at Knight Securities, says the company’s business is the next generation electronic trading platform over which most securities will be traded in the future.
“We don’t trade on any land-based exchanges and we trade in NYSE and AMEX-listed equity securities over the counter via the third market.
“Trade execution is almost entirely paperless, both from the order entry side to the execution to the post trade processing, and we operate in real time against the US National Best Bid and Offer (NBBO).
“Everything is automated, apart from the guy who carries the physical confirmation from the computer to the mailbox, and we are already moving towards regulated e-mail confirmations. “It gives a totally electronic cycle, both on the payment side, order entry, portfolio management and clearing. Furthermore, clearance costs in the US are about 1-2% of UK expense and post trade costs are being reduced to literally pennies.”
Pasternak says one of the previous hurdles to shifting into the EU was the issue of foreign exchanges and the difficulty in breaking the strong European status quo to get an equity execution focus while the main country players controlled the order entry cycles. “One major difference today is the unbundling process occurring intellectually in Europe. “Pension managers are realising execution slippage is a major component of portfolio performance, and developing ways to measure this and get better performance.”
He adds: “Secondly, the realisation is that for better trading and efficient capital formation you need efficient markets, and these tend to be electronic.” Many of the dominant domestic European exchanges have moved to electronic platforms with this in mind, even though they’re not pan-European, he notes.
What Europe doesn’t have though, Pasternak comments, is ‘demonopolisation’, where multi-participants can be competitive within the market structure.
In 1999 however, he says, Europe is seeing the emerging power of the individual investor - undoubtedly fuelled by the internet and the cost/information proposition that it allows.
Knight Securities is the largest US execution destination for on-line originated order flow, and Pasternak says two thirds of Nasdaq trading is done on-line by individual investors.
He believes the scenario is set to become the same in Europe. In the US there are around 600,000-750,000 on-line individual transactions per day.
“The EU has about half the market capitalisation of the US, but only one sixth of the amount of individual investors, so it is at about the level of the US in 1995-96. We are now seeing the critical mass in the EU from individual investors though to allow our model to work on a pan-European basis.”
On the institutional side, Pasternak says about a third of Knight’s business is from bulge bracket/positional players with 20% of revenue from institutional clients. “This is an execution facility for almost any kind of equity requiring execution, cost savings or greater liquidity - which everyone wants,” he says. “An on-line customer’s sense of immediacy is measured in nanoseconds these days and cost is everything. The average trade commission in the US is $12 today, with some as low as $5, but investors still want guaranteed, uncompromised liquidity.
“We trade all stocks to all comers all the time and can guarantee certain pre-determined levels of liquidity, or for large block trades commit capital for equities wherever the focus is, because of the capital we possess ourselves in carrying out $7-10bn of principal transactions per day.”
Nevertheless, he notes that Knight’s installation on Easdaq is not a presumption this will be the only one in Europe.“Certainly if we saw a very low cost, execution-sensitive Paris-London-Frankfurt electronic platform we would maybe shift part of our trading operations. But nationalism may hamper this, and it certainly won’t take off without competition.
“Easdaq alone is saying ‘here is a totally electronic pan-European platform model’. It is not dedicated to any national interests, and we see it as a vehicle to create competition and be a net solution for trading.”
The electronic revolution in investment management has truly arrived at Europe’s door and is beginning to throw up its chances and challenges.
Pasternak comments: “We see the scenarios around block trading be-coming more complex and the alternatives more exciting from a technological point of view - albeit with higher complexity and the need to have the skill to react to liquidity opportunities. “Certainly from a market intelligence and process point of view we can advantage institutional clients and drive down execution costs. However, the only way to have a continuous market, which implies a certain level of continuous liquidity, is to have a number of market maker/ dealer liquidity guarantors and to manage risk carefully.”
“We believe the EU will be the second electronic market to follow the US, and envisage a pan-European functionality in one to three years.”

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