News Blog

TCA: Seeking a Better Alternative

Switzerland, 25 April 2018.

TCA adoption by the buyside may be increasing rapidly, but what exactly are they adopting? At present most TCA reporting solutions tend to fall into two broad categories. One category consists of end of day solutions that can only generate relatively limited standardised reports. The other includes more sophisticated solutions, typically provided by brokers, but which come with potential conflicts of interest attached. Paul Lynch, CEO of algorithmic trading services provider Itarle, outlines a better way.

A recent survey and report from Greenwich Associates - "TCA Usage on Equity Desks" - highlights that 86% of buyside respondents have already adopted TCA and that demand for high quality TCA capabilities is only likely to increase as a result of MiFID II and proposed SEC enhanced order transparency rules.

All well and good, but how practically actionable is the information coming from current TCA technology? A popular alternative among those looking to minimise cost and tick a few boxes is a third party solution that simply collates daily or weekly activity into a basic canned report. Fine as far as it goes as ammunition for a crisp quarterly discussion with the firm's broker, but of negligible use in real time for actually improving trade execution. Some buyside firms might take and pay for this sort of solution themselves, while others might receive it as part of their broker's service, but whichever the case, little practical value is added.

Alternatively, some larger brokers who have the necessary quantitative expertise in house, will provide their own TCA service to buyside clients. The snag with these services from a buyside perspective is the lingering suspicion that the broker concerned is effectively marking its own homework. Just because it has the capability to do this, doesn't mean that it should. Furthermore, while these services are a step up on end of day canned reports, they often still have important limitations. For example, they typically only offer bench-marking versus arrival price, VWAP or similar and high level per-venue trade distribution and performance data. This severely limits their value for fine tuning execution performance as they can't deliver microstructure analysis for all activity on each venue (such as individual order to fill ratios).

A solution that combines third party independence with sophisticated real time analytics would satisfy the demand for high quality TCA capabilities that the Greenwich report anticipates, while at the same time also removing any perceived conflicts of interest. Furthermore, thanks to the ability under the FIX protocol to take real time drop copies of trading activity, such a solution would be able to maximise functionality with minimal implementation and maintenance overheads.

By being both dynamic and independent, this type of solution gives the buyside the best of both worlds, whether they choose to pay for it themselves or receive it from their broker. In either case, the third party provider simply connects to the broker's FIX hub and routes the data sourced from the drop copies based on individual buyside client trading IDs to a web interface. The broker benefits from being able to deliver a minimal overhead, fully-independent solution, while the buyside client benefits from actionable real time execution data and enriched analytics.

Independent real time solutions of this nature facilitate better execution performance. By using FIX drop copies, they can track all new orders, executions, modifications or cancels. As a result, buyside trading desk can track the behaviour of their orders during market hours, so problems such as excess slippage or weak order to fill ratios can be automatically alerted and corrected immediately. A critical advantage of a solution based on FIX drop copies is that it is capturing all possible data points associated with the electronic trading process. This means that it can readily provide an unprecedented level of analytical detail in comparison with solutions based on other data sources.

In addition to correcting any costly manual trading activity, this type of TCA tool could also be valuable for adjusting the parameters on execution algorithms in real time to obtain the best possible result for a given set of circumstances. The logical extension of this is that in the future a complete feedback loop may be possible, whereby traders could choose to use the analytical output from the TCA to adjust algo parameters automatically as required within a predefined range.

In addition, because execution data is being warehoused, longer term analysis is also possible, but with far more flexibility and power than existing static end of day solutions. Therefore, intraday performance can be benchmarked against historical performance and market data to inform and tune order execution in real time. More sophisticated offline analysis also becomes possible: for instance, tracking changes in execution performance over time for very granular combinations of assets and market condition. Collectively, next generation TCA should put execution desks in buyside firms in a strong position to prove that they are supporting their portfolio managers by capturing more alpha.

Apart from the neutrality and low overhead benefits of implementing an independent web-based TCA solution for clients, the sellside stands to gain other ways as well. Apart from improving buyside perceptions, a solution of this sort is also likely to provide a degree of regulatory future-proofing.

More importantly, it also gives the sellside an excellent basis upon which to enhance client relationships through more effective execution consulting, which adds value from a competitive angle. A further benefit is that any top-flight third party solution will not stand still, but will evolve in anticipation of buyside needs - without involving brokers in any additional development or maintenance costs.

As buyside awareness of next generation TCA grows, so too does the pressure on the sellside to deliver a better proposition. The good news is that these next generation solutions are already coming onto the market at relatively modest cost. Whether buyside trading desks choose to engage with a third party provider direct, or via their broker, the cost benefit analysis is strongly compelling.