01.20.2015
By Terry Flanagan

Under the Buttonwood Tree

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When a group of traders met under a buttonwood tree on Wall Street in 1792, they agreed to deal only with each other, and commissions were set at 0.25%.

The world may have changed significantly in the ensuing 223 years, but trading costs have apparently not. Today, commissions have fallen but execution costs have gone up, so net trading costs are pretty close to what they were then.

“When we look at today’s level, we’re at 21 basis points in total trading cost, where we started out in the Buttonwood Agreement at 25,” Bill Conlin, president and chief executive of Abel/Noser. “It’s amazing.”

The rise in execution costs is directly attributable to market impact. “In those days, when the members got together and agreed to a trade, there was no market impact because there was no bidding and offering,” said Conlin.

According to an analysis of trading costs by Abel/Noser, which provides transaction cost analysis services, in 2001 commissions were 10 bp and execution costs were 14 bp. Today, commissions have dropped to six bp but execution costs have stayed the same.

“It costs more now to get into the name or out of the name you want,” Conlin said. “In 2001 it cost about 14 bps. The total cost therefore would be 24 bps. That hasn’t really changed much.”

When large buy-side institutions want to sell large blocks of shares, they often find themselves up against other large institutions also wishing to unload large blocks in the same name. This fact, coupled with the rise in high-frequency trading, has made it much harder to work large-sized orders.

“When a stock is hot and people want to buy it, it’s like a herd mentality, they’re all buying together,” Conlin said. “They’re all buying through the big guys, so the big guys now have competing orders in the name the institutions want to trade.”

He continued, “You used to be able to bid and offer for 5,000 shares, 10,000 shares, and If you hit that, they had to do that trade. Now the bid/offers don’t mean much. They’re on 100 shares, and they’re changing dramatically each second, much more than they used to because of these HFT guys feeling out what’s going on. I think what happens now is you’ve got less of a central marketplace. You can’t get as much done as you used to.”

Featured image via Wikimedia commons under creative commons

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