Invesco quant team gains the edge in contest of ‘human versus machine’
The structure of trading in equity markets might cross the minds of allocators to funds only rarely, but it is at the front of the mind of Bernhard Langer, the chief investment officer, global quantitative equity at Invesco, as his team puts $20bn of client money to work in equities markets around the world.
A 23-year veteran of equities trading, Langer says both the structure and infrastructure of share markets has “changed fundamentally” since he began.
It has, perhaps, never changed as radically as over the past five years, after regulations such as Mifid ushered in a small explosion in the number of venues equity investors can use to buy and sell shares.
The conscious attempt by policy makers, to loosen the stranglehold central stock exchanges had on trading and the revenues to be made from it, led to banks setting up their own internal ‘crossing systems’, dark pools blossoming in number, and regional exchanges stealing some business.
One result of this has been a more equitable sharing of trading business. For fund managers, though, another result has been a sometimes challenging fragmentation of liquidity.
Invesco estimates up to 70% of US equity trading volume now occurs outside traditional investment processes. For Europe, the figure sits between 40% and 50%, and around 20% in Asia.
Trade 100 large cap shares, and you might not notice this. But try to trade one million of them – as institutionally-sized players might – and you will notice it, says Langer.
And if you cannot trade without moving less liquid markets in front of you, or if you must ‘pay’ via a higher spread in various markets, you risk diminishing the alpha you are trying to deliver to end-clients, he adds.
“One of the biggest dangers for managers today is where to get the market liquidity you need [and] to get the best transaction costs you have to seek your liquidity everywhere.
“If you look to the daily average volume of, say, stock number 30 in the EuroStoxx 500, the liquidity on certain days can be very low.
“At the moment we have 70 -90 stocks in our portfolio, but if you go down to number 50 in a market, and you are managing a fund with €1bn or more, and trading 10% or 20% of the volume in that stock, then liquidity can be a problem. There are so many alternative venues you need to look to. It is increasingly important where we seek our liquidity.
“It is all about seeking liquidity and getting low transaction costs – not only the brokerage fee, but also implicit trading costs. Transaction costs and fees are hurdles to bring new alpha to the portfolio.”
Langer dismisses arguments that high frequency traders bring the needed liquidity to markets. He echoes here the sentiment of Kevin Cronin, Invesco’s global head of trading.