The Rise of Trading and Equity Research is the first article installment of a four-part Brokerage: Analysis and Execution series that will explore the rise of electronic trading, the commoditization of execution and the future of Wall Street. Street Smarts insights are written by Blair Livingston, Chief Executive Officer and Founder, Street Contxt.
The Brokerage: Analysis and Execution
A traditional Brokerage or Investment Bank, in its simplest form, is composed of two halves: the primary or origination side of the business that helps bring products to market, and the secondary side that focuses on creating markets.
Secondary Side Background
The secondary side of an investment bank relates to trading of listed and over the counter (OTC) securities. To drive the trading of these securities, Investment Banks and Brokerages offer thematic and specific research across asset class, sector, and security in order to both educate potential customers and drive business with existing customers. In fact, the origins of traditional equity research has its roots in the first of these two areas, specifically around deal education.
Market Awareness Education
When Brokerages first started bringing companies to market, there was a severe market awareness and education gap. The question of “Would you like to buy shares in this company’s IPO?” was always met with “What does the company do?” Research thus served to answer that question. It was marketing and educational materials designed to answer the question “What does this company do, and why would I want to buy it?” This would equip potential shareholders with the information they needed to make an educated decision about what the company does and why they should invest.
The secondary side of an investment bank has followed a similar growth model. Once a company has gone public, most clients understand the business and structure of the underlying security, answering the “What does the company do?” question. Now, it is up to the content producing Brokerage to answer a new question: “What will change?” The primary driver here is to identify what could be a potential catalyst for change across a specific company or product (growth, decline, new products, macro headwinds), rate product (shift in the curve, increased risk, quantitative easing), or any other underlying asset or security.
The Rise of Trading and Execution
The secondary side also had an additional problem to solve. Once clients uncovered potential information, decided they wanted to act on it, and decided how they wanted to act on it; the broker had to help facilitate that request. By adding a trading side to the business, brokers helped their clients expand or cut their exposure to a specific asset by providing robust and sophisticated trading services that required an immense amount of infrastructure, capital, and human involvement. After all, many of these orders are extremely material to the daily volume traded in a given name, and thus needed to be executed over days, or longer.
The trading commission became how clients paid for all the resources, consulting, and content they had consumed. Clients would consume the intellectual capital of the broker across content producing roles, which were traditionally research-based, and then would pay for those services, plus the execution, through trading commission, which became a method for settling the bill.
Sales Insight Personalizes the Client Experience
Larger and more complex clients would be assigned a sales person to help customize their experience with the firm. The logic was that as larger clients were active in many products and names at once, it became increasingly difficult for them to keep track of the firm’s entire content library. In addition, they could be covered by over 100 brokerages at any one time. Thus, a sales person was assigned to make sure that their clients saw everything relevant across the suite of services provided, such as: research, corporate access, deals, and anything else. Each sales person covered a selection of accounts. Coverage seniority and scope was determined by assets under management (AUM), which became a proxy for potential commission, and the number of clients at each account.
As a result of the need for both content generation and tailored content distribution based on the needs and interests of each individual client, the content – or analysis – side of the firm was split into two groups – content providers, and content distributors.
Next, we will explore the The Rise of Electronic Trading as the second part of our Brokerage: Analysis and Execution thought series.
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The Street Smarts insights are written by Blair Livingston, Chief Executive Officer and Founder, Street Contxt. Mr. Livingston has committed his expertise in market structure, financial technology, financial commentary and communication practices to shape a new, more effective capital markets system. Street Contxt helps to clarify an increasingly fragmented marketplace, connecting sell side content with the preferences of buy side participants. Connect with Blair Livingston on LinkedIn.