ModernIR Market Structure Map

LEAPS over Bounds

7/14/2009 12:00:00 AM

July 14 is Bastille Day, and we Americans forever owe the French thanks for the youngster Yves du Motier, called the Marquis de Lafayette; and wily veteran Jean-Baptiste de Vimeur, better known as the Comte de Rochambeau, who played key roles in our Revolutionary War. And if you can say those names at all, let alone without stumbling, we owe you an adult beverage.

Turning to market structure, IR folks and execs, one tidbit on Goldman Sachs. Long-time readers, you know we were writing about their dominance years ago, before it was de rigueur. In the quarter, Goldman generated $10 billion from trading and $736 million from underwriting. This is what you get when you separate research and trading. Is the solution better than the problem that “policy” hoped to solve? Ask yourself the same question about the Federal Reserve, created in 1913 to halt the “money trust” monopoly and market panics. And then pick any gigantic solution designed to solve some problem, and pose again the common-sense query: are we better off?

Look at Your Market Structure

7/7/2009 12:00:00 AM

We celebrated the USA’s birthday at 9,000 feet in Vail, where fireworks fit for a stout Vail Village budget showered and boomed at length and in panoply from Gold Peak under a bright moon. The mountains were enriched this year by heavy snow and late rains, so streams are cascading still and the trailside grass waves waist high, dappled by flowers. Hard to leave it behind!

Anyway, we promised last week to review why market structure is an IR must today and how it differs from other guideposts along the strait IR path. For starters, see the Bloomberg clip linked below, with Joe Saluzzi, one of our great market panelists at NIRI National last month and an advocate for understanding modern markets.

What Market Structure Says About Q309

7/1/2009 12:00:00 AM

We like benchmarking the Battle of the Little Bighorn, which occurred Sunday, June 25, 1876. Thursday was the 133rd anniversary. There, the last free Native forces on the great American central plains had a final hurrah at the expense of Lt. Colonel George Armstrong Custer. We clock it each year in respect for a spirit committed to freedom at any cost and willing to fight impossible odds in its name.

This past Friday, the natives in the equity markets were restless. Before we get to that, recall how last week we wondered if a strand comprising market structure had snapped on June 19? We'd observed a uniform ripple across perhaps 25% of all volumes (based on a sample). Neither size nor industry had apparent bearing, telling us it was risk-related.

June 15-19: Did A Market Strand Snap?

6/24/2009 12:00:00 AM

If the three-strand cord that constitutes your price and volume braids rational investment, speculation and risk-management, which one just snapped? Anyone? Anyone?

To refresh, we at ModernIR say most buying and selling in the markets comes from those three sources. There are real, rational investors deploying capital and taking profits, and portfolio managers adjusting their asset balances and associated hedges to manage risk. Around those, speculators engage in various trading tactics. We believe at least 95% of volume for a given issue ties to one of these threads. Sometimes human traders drive it and other times computers do. The machines dominate today.

Liquidnet Rocks NIRI National

6/16/2009 12:00:00 AM

We're back from NIRI National, the annual investor-relations confab. NIRI says 1,100 were on hand, less than most years but a feat in the current budget famine afflicting everyone but government.

I moderated a panel on how the buyside and sellside trade your stock now, with Brian Barrett, Senior Trader at Franklin Templeton Funds; John Adam, head of corporate access at dark pool Liquidnet; Joe Saluzzi, co-founder of agency trader Themis Trading LLC; Bryan Harkins, head of Sales and Strategy at ultra ECN Direct Edge; and Anthony Corso, head of trading at agency trading innovator Rosenblatt Securities.

Thanks to these sharp folks, we played to a packed house Monday the 8th and heard good words about it for the rest of the conference. To our gratitude, many coming to the ModernIR booth called it one of the best NIRI sessions ever. Most IR folks don't know dark pools, high-frequency trading, rebate trading, and how these forces affect cost of capital and decision-making processes for institutional investors. Everybody on hand there has at least an idea now, which helps them move their management teams from caveman to contemporary cool (a little humor there!).

What Month-End Portfolio Cleanup Shows

6/3/2009 12:00:00 AM

Reminder: we'll be at NIRI National 2009 next week (see link below), so you'll have a refreshing break from the Market Structure Map!

Global trading may chime and flash at ever more frantic paces, sometimes seeming like a pinball machine, and your stock that small ball caroming about. But traders and investors report to constituencies who expect and measure results. Even the speed of light gets marked in turns of the moon still (the longest day of the year is coming up soon). So too do institutional portfolios.

Are Leveraged ETFs Skewing Stock Prices?

5/26/2009 12:00:00 AM

We're out late today, due to the Memorial holiday yesterday. And what a return to reality, huh? Dow up 200 today following a nuclear test in North Korea over the weekend.

What in the world is going on, IR professionals? Recalling Sherlock Holmes' principle that once you eliminate the impossible, what remains, no matter how implausible, is your answer, we have an idea. The implausible truth is that some market participants have gotten gobs of free money and have used it to feed the sort of leverage that contributed to the enormity of our debacle last autumn.

When Brokers Feint Left

5/19/2009 12:00:00 AM

Looking at equity-market activity last week during Part One of monthly options expirations (we don't finish this cycle till tomorrow, May 20) reminded us of a cowboy saying that "timing has a lot to do with the outcome of a rain dance."

In other words, predicting future events accurately is mostly a function of luck. We could give you ten solid reasons why stocks will settle again into a prolonged slide. But the way money behaves now, who knows? Here's a fact, however: volumes at big wirehouses we treat as "Prime brokers" last week were the highest since right after March expirations.

Intermarket Arbitrage

5/13/2009 12:00:00 AM

Seeing the Dow and the Nasdaq inversely correlated at times today – one up seven-tenths of a percent and the other down 65 basis points – seemed good reason to write on what we call "intermarket arbitrage." While also a good name for a rock band, it's a term for trading simultaneously in multiple markets to create divergences in major market measures.

This widespread activity is an unintended consequence of both SEC rules like Regulation National Market System designed paradoxically to reduce arbitrage, and algorithmic trading for spreading out orders. Smart participants exploit limitations (the antidote -- more caveat emptor, which results in less such gaming – is ignored, as politicians, bad doctors, misdiagnose the patient again). Imagine running back and forth topside a sailing boat until the vessel is rolling and you'll have an idea what happens.

The Three Faces of Recent Trading

5/6/2009 12:00:00 AM

Speaking of news, to set up this week's email we're reminded of what the gallery owner said to the painter: "I have good news and bad news. The good news is that a fellow came in and asked if your paintings would increase in value if you died, and then proceeded to buy all of them. The bad news is he's your doctor."

Relax, we're predicting no deaths. We observe money's behavior, which is what it is, regardless of its merits. Three keys this week: a) retail investors stepped up; b) program trading likely reset positively May 4, signaling further gains for equities until next week ahead of options; and c) the new reality in equity markets is obscene levels of short-term trading.

To Odey, Or Not To Odey

4/29/2009 12:00:00 AM

Speaking of deviation, UK hedge fund manager Crispin Odey (see link below) has gotten thick British ink for declaring current opportunities in equities to be "astounding." Odey banked returns last year for his billion-dollar Odey European Fund shorting UK financials like Northern Rock, where his wife, who is also sister to Barclays CEO John Varley, was an independent director. Whatever the cost to family relations, it profited Odey investors.

We write on this today to cast the glare on our own seeming devotion to a coming slide in equities as we attempt to help you IR professionals stay cool. We've reported here since early April on how data indicate that cappuccino markets – a lot of foam hiding a dab of brew – prevail. Mr. Odey, who is far cleverer than we are, wrote in January 2009 on equity markets: "I am happy to buy when faced with irrational fear, but the fear that I see around me today appears reasonably rational."

Risk Resets Alas, and Not Real Investment

4/22/2009 12:00:00 AM

Now on to trading, and what it means as you ride the daily investor-relations roller coaster. Recurring lesson: wild intraday swings and knee-jerk market swoons and swells in tune with Tweats from the US Treasury do not a sound foundation for long-term buy-and-hold investing make. Four-percent intraday volatility does not typify GARP deployment (see link below on the first GARP ETF, launched in December, the 848th ETF now out). And this goofy schizophrenia is not another bull market in the making, but the expansion of trading in multiple asset classes, on many market centers simultaneously, in various global locales.

Equity Markets and the Emperor's Clothes

4/15/2009 12:00:00 AM

I say let's all go to Hollywood. No, I mean Hollywood, FL, site of this year's NIRI National conference.

At risk of discouraging you from going, I'm moderating a panel there called "How the Buyside and Sellside Trade Your Stock Today." Themis Trading's Joe Saluzzi, whom we quoted in last week's email, is joining us, as are experts from Rosenblatt Securities, an agency trading technology leader; and Direct Edge, the alternative market routinely trading a billion shares daily. The aim is to learn what happens behind price and volume now, from the view of firms engaged daily in doing it. It'll be fun and eye-opening. See the link at bottom for conference details.

To equities, there's been a remarkable surge in speculative trading. We've never seen such a large swing in so short a time. The losers are the big Prime brokers. This may in part explain why Goldman Sachs has resumed its hedge-fund tactics, essentially leveraging free money from the government to drive principal-trading profits from fixed-income, currency and commodity instruments.

The Truth about Algorithmic Trading

4/8/2009 12:00:00 AM

The most frequently flouted law in modern American society is Murphy's Law.

As a result, unintended consequences buffet the amber waves of the fruited plain daily, and the winds blow well beyond Yankee shores too. In essence, we foster frameworks of behavior that fail to consider side effects.

Illustration: You've heard that the IRS Code, which is Title 26 (of 50 total) of the United States Code, is 67,000 pages long? It's not the biggest. That, er, title goes to Title 42, Public Health and Welfare, roughly three times longer.

Speaking of large, for algorithmic trading and its tie to Murphy's Law huge thanks are owed to Joe Saluzzi and crew at Themis Trading, whose white paper linked below is sheer brilliance. Read it. You won't view your volume the same way again.

Will April 2009 Be Quantitative or Qualitative?

4/1/2009 12:00:00 AM

With not much left to invest in and most things having been taken over by the US government, back in January two analysts from the quantitative group at ING Investment Management in New York combined research and modeling expertise to hatch a diabolical plan: they would hit every Manhattan subway stop in less than 24 hours.

Hedge fund analyst Matt Ferrisi and quant analyst Chris Solarz gathered notoriously faulty MTA schedule data, ran regression analysis, considered trillions of combinations and possibilities with sophisticated software, and ultimately plotted a course that would complete the 468 stops in 22 hours 45 minutes, and even disgorge them at Grand Central Station for a full day at the office. Result: Precisely 22 hours and 51 minutes later, the bleary-eyed duo climbed the platform and cruised onto Park Avenue, victors and new Guinness World Record holders.

Markets Weigh Options

3/25/2009 12:00:00 AM

Perusing trading data last week had us recalling a story about two cowboys watching a herd of cattle stampeding by. One says to the other, “What do you make of them critters, Vern?” Vern says, “Appears we’re too late to stop them. Mayhap we should join them.”

Translating, we saw some strange things last week. First were the news anchors on networks other than CNBC talking about options expirations, proof that expiring puts and calls on instruments ranging from US treasuries to S&P 500 indices have gained a toehold with mainstream editors sizing up market behavior. Second, desks that often help institutions avoid stampeding short-term exuberance were in the middle of the melee this time. Third, Goldman barely made the volume top ten, suggesting that its strategists either see or know something else. Fourth, all the volume leaders were alternative platforms and rebate traders (the firms making change in trading tills rather than taking actual positions).

What is a Quant Bounce?

3/18/2009 12:00:00 AM

We wrote in last Tuesday’s email before market (read it at our website if you missed it) that a 1,000-point bounce could be in store. We’re up 800 points since. Sure, it’s a lucky guess, but our reasons reflected what we saw in the data: institutional trading wanting to act with more aggression and less prudence.

The data don’t indicate that this run is quite over. But here are factors to weigh and share around with your fellow executives and IR professionals that’ll help you keep your cool quotient intact: Volatility derivatives expire tomorrow, and the whole rest of monthly futures contracts lapse by Friday March 20. Since US taxpayer money has made whole many holders of counterparty swaps, having traveled from the Federal Reserve and the Treasury Department to AIG and various prime brokers ranging from Deutsche Bank to Goldman Sachs, there’s reason for pension funds to lock forward contracts and let the money ride in equities for a few more days.

Program Trading is Different in March

3/10/2009 12:00:00 AM

We interrupt all of you applying for funds from Tim Geithner’s special bank bailout fund to bring you the weekly email early today. Bound for Kansas City in the snow, where ModernIR is sponsoring today’s NIRI lunch meeting at Cashew downtown.

Moving to trading, programs generally sort of reset within the first three days of trading in a new month. Program trading is principally the domain of primary dealers, the big prime brokers allied with the US Federal Reserve.

What to do When Cheap Shares Keep Getting Cheaper

3/3/2009 12:00:00 AM

To borrow words from Sean Hannon at Seeking Alpha (see link at bottom): a basic tenet of value investing is that every asset is attractive at a certain price. As Mr. Hannon observes, using that rationale values would seem lately to abound. So where are the value investors?

Mr. Hannon points to modern portfolio theory, which teaches that emphasizing individual asset value without considering relative value and overall portfolio risk may be like touting the best chair on the deck of the Titanic.

Humor aside, we’re not here to bleat on about theories. We just want you to look cool in the IR (or executive) chair. And looking cool has gotten painfully harder lately, and lost some of its charm to boot. When you’re swallowing the lump in your throat as you watch the red on your screen signifying the general direction of your share price, how do you figure out what to say about it when you next open your mouth to reply to the CEO or some irate major holder?

Gaming Small-cap Liquidity and Why Message Matters

2/24/2009 12:00:00 AM

Since CNBC's Santelli ranted on the floor of the Chicago Mercantile, arms outstretched, asking, "Is anybody in the government listening to markets?" we'll stop, and consider it validation for what we've said since October.

To our topic today, we've seen a curious trading phenomenon in certain thin small-caps. Here's how it works: speculators identify a stock that perhaps backs a low profile story. Launching their effort, they indicate sizeable interest via dark pools, apparently committing meaningful capital. Getting good deals because thin stocks don't move well in Regulation NMS markets, they now begin to buy and sell small increments in open markets and on multiple platforms – say, Archipelago, the CBOE, Instinet, Lime Brokerage, Interactive Brokers, and so on.

New NYSE Euronext Liquidity

2/17/2009 12:00:00 AM

Alert reader Pam Murphy of Incyte Corp called about last week's issue of The Map on high-frequency trading and said: "I don't believe that only 15% of order flow is driven by rational thought. What about all the activity in investment portfolios predicated on allocations, where analysts and portfolio managers deliberate and select a set of companies to own?"

Great point, Pam. Answer: Asset-allocation order flow like that, which is often rebalancing activity, is in current markets a function of risk management. Buy/sell decisions are more about math than human insight. It shows up in program trading and works this way: Healthcare holdings up by 3% in the past week? Take a little profit to decrease risk exposure, and put some money into yield-producing securities (typically a form of credit or index derivative). This continuous tweaking with levers is common now because values are uncertain and timeframes thus are short and distinct.

Feb 2-6: What is High-Frequency Trading?

2/10/2009 12:00:00 AM

Before we get to high frequency trading, in light of market performance today here’s an Aristotelian prefatory note on the bailout:

A) The Stimulus ostensibly fixes the economy (as though it’s machinery and not a manifestation of human creativity and productivity). B) The market, our immediate measure of the economy, plunges with each successive tranche of governmental diddling. C) Therefore, the economy rejects the bailout. So if the economy itself signals no, while government, which can only consume resources, says yes…which should we believe?

Jan 26-30: How Month-end Portfolio Transitions Work

2/3/2009 12:00:00 AM

Speaking of good…it's good to be shed of January. We warned in December that January would end dismally. Still, on a positive note, it ended.

Which brings us to month-end transitions. Window-dressing at the ends of months isn't new. Funds have long measured and been measured in monthly increments. Persons and computer programs responsible for performance size up risks, rewards, and costs and try to do what maximizes the good things and minimizes the bad things. If stocks have gained, there's likely to be profit-taking. In strong markets, they might allocate more money to bargains, or to issues with relative strength. In bad markets, they'll isolate for least risk and best transaction cost.

Jan 19-23: Is Speculative Trading on the Rise?

1/27/2009 12:00:00 AM

Rooting around in what’s behind price and volume, we’re reminded of a movie scene.

Remember in the Coen Brothers flick “Fargo” where our hero (heroine), pregnant cop Frances McDormand, catches bad guy Peter Stormare running the wood chipper? He’s feeding it a chunk of… Anyway. If you haven’t seen the film, imagine dropping a block of wood into a chipper, which gouts masticated lumber molecules. IROs and execs, this is what’s happening to your shares. Trading systems are spraying order flow like wood chippers. In effect, orders to buy and sell shares are the block of wood and mathematical algorithms are the chipper. You drop your order into the machine, and it grinds the volume into tiny pieces and sends it to many platforms.

Jan 12-16: Of IR Expenses and Program Trading

1/20/2009 12:00:00 AM

On this Inaugural Day in the United States, we're reminded of a favored passage from the address occasioning Thomas Jefferson's second term, delivered March 4, 1805:

"The suppression of unnecessary offices, of useless establishments and expenses, enabled us to discontinue our internal taxes. These, covering our land with officers and opening our doors to their intrusions, had already begun that process of domiciliary vexation which once entered is scarcely to be restrained from reaching successively every article of property and produce."

Our mission is fostering lean, clean IR departments free of domiciliary vexation and rich with unrestrained property and produce. How do we propose to help you discontinue internally taxing wastes? By showing you how money behaves in your equity market so you can streamline your IR activities and measure outcomes differently and more affordably than in the past. Get rid of those outrageously expensive old conventions. Reducing expenses while doing more with less effort is cool, even if Keynesians don't admit it.

Jan 5-9: Time for New IR Terms and Measures

1/13/2009 12:00:00 AM

There's much to mystify us today, from the basic meaning of life, to the "Peso Problem," to how anyone can conclude that more spending solves a spending problem (calls to mind the alcoholic who told his doctor, "I don't have a drinking problem. I have a stopping problem."). One thing that should, however, be no mystery to IROs and execs is what's behind price and volume.

Wait, now, it'll take learning new terms to rip the veil of obfuscation. New rules, new tools, we're fond of saying. For example, take the "Peso Problem" above. Writer Paul Krugman claims the term came from his MIT Econ classes. Economist Milton Friedman used it in the 1970s to explain differing returns from dollars and pesos. Back then, the exchange rate between dollars and pesos was fixed, yet interest rates were higher in Mexico than in the United States. The condition persisted, allowing speculators to profit by borrowing cheaply in the US, converting funds to pesos and investing in Mexico, then exchanging back at the locked rate and pocketing the interest gains. Friedman said the reason for an interest-rate gap where none should be was a belief that the peso could devalue. In 1976, when the fixed rate converted to a floating denominator, the peso plunged 46% in a single day. Ah, mystery solved.

Dec 29- Jan 2: Money Moves to US Equities

1/6/2009 12:00:00 AM

Happy New Year! And thank goodness those work-hindering holidays are behind us for another year. Enough sitting around watching chestnuts roast and eggnog steam. We’ve got work to do!

Speaking of steam, trading data revealed a market-wide shift of monies from derivatives to US equities beginning December 29. As we’ve said before, watch rebate trading (serving shares up to market centers for payment) for clues on whether money is fresh to the markets are just rotating from one set of securities to another. Rebate trading abounded in the past five trading days.

Any uptick is good news, and far be it from us to look a gift horse in the mouth (an old aphorism that essentially means “checking the age of a horse you got for free, thus offending the giver”). Still, we want you IR folks and execs to be savvy horse traders when you’re standing around the corral discussing the stock therein.

Dec 15-20: The Last Map of 2008

12/24/2008 12:00:00 AM

We’re about to shut down the double monitor and sled off in search of festive seasonal cheer! We’ll be back for real, flicking on the lights and stoking the fire and the coffee maker January 5. Meantime, one parting 2008 thought:

Relevance. Whatever it is we’re doing, from serving as supportive spousal unit, to spearheading strategy as CEO, to running the IR department, we want to be relevant and valuable. Right? The unions wouldn’t be quibbling with management and government in this woeful and ill-fated car-company bailout if they were relevant and valued (ouch, I heard that sizzling vitriol). Government wouldn’t be rated somewhere south of coarse toilet tissue if it were relevant and valuable. And we in the IR business, if we’re to flex muscle at the management table in 2009, must be relevant and valuable.

Dec 8-16: Madoff's Impact on the IR Job

12/18/2008 12:00:00 AM

We're publishing two days late this week, waiting to see if something would top the Madoff news.

Only kidding. Travel constrained time, and something had to give. Hope you don't mind that we kept traveling while the Market Structure Map sat waiting for our return.

About Madoff (pronounced, ironically, "made off"): Some years ago, we would've clustered Madoff volume with that of wholesalers like Herzog Heine Geduld, Spear Leeds & Kellogg, Knight Capital Group and Susquehanna, firms making markets in vast numbers of securities. We've described wholesalers as warehouses for stocks, able to supply almost any kind needed.

Since then, Herzog's been bought by Merrill Lynch, Spear Leeds is part of Goldman Sachs Execution & Clearing, Knight's a prodigious trader dark-pool operator and liquidity provider, and Susquehanna focuses on trading strategies around options expirations and index rebalances.