‘RBC Nice’ Pays Off Amid High-Frequency-Trading OutcryEric Lam and Doug Alexander
The culture of “RBC nice” is paying dividends for Canada’s second-biggest bank.
Royal Bank of Canada has become the standard-bearer for a revolt among investors against so-called predatory high-frequency trading practices on both Wall Street and Canada’s Bay Street.
The technology, ideas and personnel behind the upstart IEX Group Inc. alternative stock market in the U.S. and the proposed Aequitas Innovations Inc. exchange in Canada can be traced to Royal Bank, portrayed as an outsider on Wall Street in “Flash Boys,” Michael Lewis’s book exposing the U.S. market’s obsession with trading speed.
“Certainly our clients, as I look at our electronic trading numbers, are doing more business with us,” said Greg Mills, head of global equities at Royal Bank. “We have more requests for meetings, we have more people coming to us and saying ’Help us understand this problem again.’”
Royal Bank’s RBC Capital Markets unit spent years supporting Brad Katsuyama’s quest to understand the effects of high-frequency trading on Wall Street, ultimately developing software designed to protect against traders using speed as an advantage. Katsuyama, the protagonist of “Flash Boys,” left RBC to found IEX, which began trading in October, and Royal Bank has since publicly supported it.
Royal Bank has emerged as a leader against predatory high-frequency trading at a time of increasing scrutiny from both regulators and the public after the release of Lewis’s book, which claims the stock market is “rigged” against investors. The bank is described by Lewis as fostering an “RBC nice” culture with its “no asshole rule” on hiring.
High-frequency trading isn’t inherently good or bad, Mills said. The problem arises when certain market players use technology to take advantage of others.
“That’s what we need as an industry, to see regulation mature to the point where it can begin to eliminate those predatory practices, and that’s where we’ll level the playing field,” Mills said in a telephone interview yesterday.
Royal Bank, along with seven partners, owns a stake in and helped found Aequitas, a market with similar goals to IEX. The Toronto-based bank is Canada’s second-largest lender by assets.
“One thing that’s clear is that RBC is the common denominator between IEX and Aequitas,” said Jos Schmitt, chief executive officer at Toronto-based Aequitas, in an April 1 interview at the company’s headquarters in Royal Bank Plaza. “It tells you something about where they come from, what they stand for and what they seek to achieve. They translated that to being the spark in a change on Wall Street and on Bay Street.”
High-frequency trading firms have been accused of ripping off investors in the $22 trillion U.S. stock market by using tactics including paying for the right to trade in dark pools and placing their servers as close to the exchange as possible to speed up trading.
Royal Bank saw what its competitors were doing and decided to go in a different direction, Mills said.
“We were going to stay on the side of being an advocate as opposed to an adversary for our clients,” he said. “That’s not an easy thing to do, because there’s no playbook when you zag and everybody else is zigging.”
Royal Bank has taken several steps to counter the advantages enjoyed by high-frequency traders. The lender developed the THOR software; refused to create its own dark pool, and supported the creation of IEX by sending the first order on the exchange last October. The bank also hired Schmitt to run Aequitas after approaching him to investigate problems in the market in late 2012.
Being associated in the public eye as a champion for hard-luck human investors against robots helps the bottom line for Royal Bank, said Som Seif, chief executive officer of Toronto-based Purpose Investments Inc.
“This is good business for RBC,” Seif said. His firm manages about C$400 million. “I don’t want to overplay the Canadian perspective, that Canadians want to save the world. If they’re identified as a player that cares, it will build business.”
According to Lewis’ book, Royal Bank surged up the Wall Street rankings after it developed THOR and demonstrated the software to other firms. Royal Bank, which placed No. 19 in Greenwich Associates’ 2009 internal stock market rankings, jumped to No. 1 by the end of 2010, the book said. Greenwich Associates ranks the banks annually based on surveys of fund managers, analysts and traders.
Joan Weber, a spokeswoman at Greenwich Associates, declined to comment and said the rankings are private data owned by the company.
New York Attorney General Eric Schneiderman has begun a probe of equity markets, and the Federal Bureau of Investigation is reviewing high-frequency trading firms’ practices to see whether they break the law.
“Most of the large brokers in the U.S. in the last five years have put their bets down on not slowing things down,” Sang Lee, a partner with Aite Group LLC, a research firm, said in a phone interview from Boston. “RBC came in late to the marketplace. They could’ve spent a gazillion dollars to get up to speed, or find another way to deal with the problem. They chose the path less traveled.”
Katsuyama, the founder and CEO of IEX, had his start as a trader in Royal Bank’s New York offices and first alerted the bank to what he thought was odd behavior on his trading screens, including disappearing bids and prices that jumped right after he placed his orders.
His subsequent attempts to resolve the problem led to the creation of THOR, software designed to normalize the amount of time it takes for data to travel to an exchange, removing the speed advantage of high-frequency firms. Eventually, Katsuyama and his team left Royal Bank to form investor-owned IEX. The market, open for about five months, delays reports of order executions by 350 millionths of a second, enough to take out the advantage of the fastest firms.
The bones of the THOR software, patented by Royal Bank, can be found in the smart order routing system of Aequitas, Schmitt said. Along with that technology, Aequitas will use speed bumps and fees to discourage high-speed trading. Both firms reject the maker-taker model, which pays rebates to market makers for providing bids and offers.
Aequitas revised the rules of its planned exchange after an initial proposal was rejected by regulators in January due to concerns about equal access to orders, and is still on track to roll out its services in the first half of next year, Schmitt said.
Royal Bank’s involvement and perception as a “thought leader” makes sense as Canadians have been innovators for decades, thanks to the market’s smaller size, said Doug Clark, managing director at ITG Canada. The Toronto Stock Exchange listed the world’s first exchange-traded fund, the Toronto 35 Index Participation Units, in 1990.
“If this is driven by our thought leadership, vision and conversations that came out of Canada, as Canadians we should be proud,” Aequitas’ Schmitt said. “We’ve developed a unique culture here of saying that not everything that happens in the U.S. is right.”