Andresen Sees U.S. Volume Rising From Four-Year Low
U.S. equities trading, mired at the lowest levels in at least four years, should pick up as confidence among investors builds, according to Matthew Andresen, an executive at quantitative trading firm Headlands Technologies Inc.
Daily volume may average about 7 billion shares this year, rising about 3 percent from its level so far, said Andresen, who ran the Island ECN that helped pioneer electronic equity trading and was co-chief executive officer of Citadel LLC’s market- making business until 2009. About 7.8 billion shares a day were traded in the U.S. last year on venues from the New York Stock Exchange to those run by Bats Global Markets Inc. and alternative systems such as dark pools.
Trading has decreased as share swings narrowed and the Chicago Board Options Exchange Volatility Index had its biggest two-quarter retreat on record. Efforts by European leaders to contain their debt crisis have muted the size of stock moves. While the Standard & Poor’s 500 Index (SPX) averaged 12 declines of 1 percent or more each quarter in 2011, such a drop has happened only once in 2012, data compiled by Bloomberg show.
“The volume depends on whether we have any macroeconomic calamities,” Andresen, who is co-chief executive officer of Headlands, which has offices in Chicago and San Francisco, said in an interview yesterday at a Security Traders Association of New York conference. Investors who have faced a “go-nowhere S&P for almost a decade except this year” may start returning after the index posted its biggest first-quarter advance since 1998, he said.
Trading on American stock exchanges has been shrinking since 2009, when it averaged 9.77 billion shares a day. The level fell to 8.52 billion in 2010 and slipped again last year even after concerns about Europe, the U.S. budget deficit and the global economy pushed third-quarter volume to 8.73 billion shares. The CBOE Volatility Index, or VIX, reached 48 on Aug. 8, a four-year high.
About 6.82 billion shares were traded on American venues yesterday, according to data compiled by Bloomberg. The S&P 500 fell in each of the last three days after reaching 1,416.51 on March 26, the highest level for the benchmark gauge since May 2008 and 9.5 percent below its record high of 1,565.15 from 2007. It has climbed 12 percent so far in 2012.
Trading on individual days may reach some of the lowest levels in the last four years should expectations of volatility continue to decrease, a Goldman Sachs Group Inc. executive said at the conference. The VIX averaged 18.25 this year through yesterday, compared with 18.63 last year over the same period and 24.20 for all of 2011.
“If the VIX continues to decline, we could see some days when volume goes below 5 billion shares,” Greg Tusar, managing director and head of Goldman Sachs Electronic Trading at the New York-based bank, said in an interview.
The last time fewer than 5 billion shares changed hands in a day was during the final week of 2011, according to data compiled by Bloomberg. Last year also saw some of the highest totals of all time with equity trading of 15.97 billion on average from Aug. 4 to Aug. 10, the most ever for a five-day period, data compiled by Bloomberg show.
The decline in average daily volume means market makers, who provide bids and offers across securities for investors to trade against, must lower their costs as they seek to increase their business, Martin Mannion, chief operating officer at Citadel Execution Services, said on a panel at the conference.
“It’s become more of a scale business,” Mannion said. “When volume and volatility decrease the ability of market makers to profit, managing costs becomes more important,” he said. “You have to do more to strip costs out of the equation,” he added.
Market makers usually make more money when volume and volatility rise, Andresen said.
“They’ve been Home Depot-ized,” he said on the panel. Market makers must compete in areas such as labor, technology and the trading industry’s equivalent of “supply chain management,” he said. “If you’re going to compete, you’re going to have to compete against Home Depot, Wal-Mart, Lowe’s. It’s either scale or death.”
Stocks with smaller market values have become less liquid, or easy to trade, Joseph Ricciardi, a managing director in Knight (KCG) Capital Group Inc.’s market-making unit, said on the panel. Knight, one of the largest U.S. market makers for securities listed on exchanges and those unavailable on those markets, is a so-called designated market maker at the NYSE.
“We’re deploying a lot of capital right now in the small- cap market,” Ricciardi said. Knight is “carrying multi-day positions” resulting from trades with retail customers instead of unwinding its purchases or sales within minutes or hours because there’s less trading in those companies, he said.
Institutional investors such as mutual and pension funds that use trading algorithms to break up larger orders into smaller pieces must rethink their choice of automated strategies in a period of low volatility, Tusar said on the panel. They may want to shift to algorithms that employ more passive tactics to avoid higher costs, he said.
Retail investors are likely to benefit the most from low volatility, Tusar said. Goldman Sachs began an equities wholesaling business about a year ago to execute orders from individual investors using discount brokers, he said.
Discount and other brokers that cater to individual investors often turn to wholesalers for orders that can be traded at the market’s prevailing price. Equity wholesaling is dominated by firms including Knight Capital Group Inc., UBS AG, Citadel and Citigroup Inc. (C), whose market-making units execute trades within their own walls.
The bank’s “very large diverse pool of natural buyers and sellers” makes Goldman Sachs competitive, Tusar said.
What most worries Andresen as a provider of liquidity is the “specter of an unpredictable regulatory action” that affects market participants’ incentives to trade, he said. Tusar said his chief concern is “investor confidence and interest in the equity marketplace remaining low” for a long period.
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