Firms that work with high rollers know protection of identity is a must. Rich people are concerned about everything from their children being kidnapped to getting harassed for money from estranged relatives.
That need for privacy often extends to stock trading.
Imagine your client wants to trade his considerable number of shares in a junior oil and gas company. It’s a big block that can move markets. You want to get him the best price; he doesn’t want anyone to know he’s making the trade.
What’s the process for ensuring everything’s kept quiet?
“It starts long before there are any instructions given to trade. We never divulge clients’ information to anyone,”says George Lee*, a director of fixed income at a Bay Street firm.
Anonymity in trade execution is especially important, says Lee, because some of his ultra-rich clients work or invest in smaller industries where higher-volume trades get noticed.
Even if a trade is matched within a firm (the buyer and seller are both clients) and one client wishes an order printed as anonymous, only the traders will know who’s on both sides of that trade.
If the order is electronically matched in the marketplace under “anonymous,” it’s anyone’s guess as to whose trades they are.
DARK VERSUS LIT
There are two ways to trade. First, on a lit board—a trading montage that lets anyone see a firm has made a trade in a particular stock at a particular time. Second, in dark pools, which are relatively new to Canada.
“A dark pool allows us to search for or post liquidity for clients and not print those trades on recognized exchanges,” Lee says.
Trades taking place on these montages are coded with the firm name. Market participants can infer what’s going on based on previous trades, but still have to assume which clients are trading through a given firm.
A client who’s sensitive to privacy, then, wouldn’t tell anyone she’s a client of a particular firm. She could even route a trade through another desk if too many people know she’s with a particular firm.
“We find the ultra-wealthy clients are the ones worried about anonymity, and they usually have relationships with more than one shop,” says Lee.
PRIVATE OR ANONYMOUS?
Client privacy is always the primary directive for traders, but executing anonymous trades is not always a trader’s primary directive.
“Best execution comes first,” says Lee. “We can provide anonymity if a client gives us the mandate. Even if you’re trading on the TSX, we can code any of our trades as anonymous. So instead of that trade showing up on the board as being traded by our firm, it’ll show up as an anonymous trade.”
It can, though, still show up as a big block. And for stocks that aren’t widely held, other market participants can guess where the volume is coming from. That in turn can tip other investors off that a major shareholder changed his position. “Even if we don’t know specifically who traded it, we’ve got an idea,” notes Lee.
“Anytime a big trade goes up the market, eventually we’ll know a large amount of that stock was traded,” says Lee. The beauty of a dark pool is participants don’t need to display their orders on the exchange before execution. If participants can’t see the volume in advance, they’ll be able to draw fewer conclusions.
Another time to be careful is when a client has a large block of shares to trade and requests it be shopped to access large liquidity.
With large blocks or narrowly held shares, just putting the shares on an exchange doesn’t guarantee a buyer—you’ve got to find one.
“The further and wider you search, the more people know you’re on the sell side. You’re tipping your hand with every phone call,” he says.
So the way the best trading desks add value is by being able to seek liquidity quickly and quietly.
“If we have a sell order on a small cap gas explorer stock, we’ll know who the interested parties are. We may even know players who own that security and are interested in purchasing more.”
Without that ability to match buyers and sellers and add value for the client, “we could be replaced by computers.”
With securities that have high liquidity, clients generally are less concerned about remaining anonymous, says Lee. Regardless, “we’re not going to be advertising the order.If a client hasn’t strictly mandated anonymity, we still provide it.”
* Not his real name