There was a day not so long ago when a big portfolio manager in Canada only needed a couple numbers on speed dial if ever a problem moving a block of stock arose.
As long as there were liability traders, portfolio managers with heft and connections wouldn't be stuck for long. The liability trader's job was to stand in and buy the stock, even in the knowledge that there was not a ready outlet to sell. But the best always had an idea where to move the shares.
Any losses traders sustain through these arrangements are euphemistically termed facilitation losses – the cost of aiding a good client's quick exit out of a stock. The reward for taking a problem off a client's hands was lasting loyalty, a favour that would be repaid later when the trader's firm needed to sell some stock, or get in on a deal. A belief that what goes around comes around helped to absorb such losses.
The business could also show off a trading desk's ability to place a big block of stock in a hurry – a selling point when it came time to convincing a company about to issue stock to use the nimble trader's firm as an underwriter.
In recent years, however, the ranks of the big-time liability traders are thinning. Last week saw the departure of John Esteireiro from Canaccord Genuity, a firm that he helped to create, in a reshaping of the trading desk leadership there. Mr. Esteireiro was one of the best known in that business for a long time, never in the limelight as much as Michael Wekerle, who ran the desk at rival GMP for years, but certainly one of the go-to guys.
To be sure, they are just two. Even with Mr. Esteireiro gone, and Mr. Wekerle having left GMP two years ago, there are still liability traders and there probably always will be. But they operate in straitened times. Their firms are less willing to give them the capital to buy the big blocks, at least not without proof that it will generate business down the road. Their employers are much less tolerant of big losses in the name of facilitation, with a sharp focus on driving down the so-called loss ratios.
Nowadays, a portfolio manager is as likely to send an order through a computerized trading system that chops it into bits to sell it, or move it into a so-called dark pool designed to surreptitiously line up buyers and sellers, or use some combination of such methods. The block trading market share list, once a measure of who was really who in the trading world, doesn't rate nearly the attention it previously did. Instead, many firms trumpet their ability to quietly and quickly move stock without moving markets.
Once, the goal was to be seen, now it's the opposite.
"The old days of star traders getting paid by the street, with algorithmic trading, pools, pricing pressure on the buy side, those days of building a business solely around commission trading, they're gone," Harris Fricker, the chief executive of GMP, said in the wake of Mr. Wekerle's departure from that firm. "For us, trading is a weapon, but it's got to be integrated with a highly cohesive plan that includes investment banking, research, sales and trading."
What remains is a liability trading business that is much less an art than a science, as trading desks try to determine more precisely how much revenue a certain portfolio manager can generate, or how much underwriting revenue an issuer can be expected to generate, in return for losses taken as a favour. Firms won't allocate capital to liability trades in stocks unlikely to generate underwriting fees.
Market conditions have exacerbated the shift. In a bull market, whatever stock positions are sitting there waiting for a buyer may well rise in value. But in the volatile and thin market that prevails in many Canadian stocks, there are few buyers and too many chances for the position to end up losing money while the liability trader searches for a home for the stock. In speaking with those who run trading desks, it is clear that liability trading losses are getting harder to avoid.
The problem will especially pinch smaller investment dealers who face a troubling choice. They can avoid liability trading to dodge potential losses in the knowledge that it will be harder to win underwriting business if they don't look busy trading the names that they want to work with on the banking side. Or they can gut it out and play the liability game, taking the risk that the losses will pile up and eat capital before any underwriting business comes to pass.
In the meantime, the days of the liability trader who can make the split-second decision to write a big cheque with the firm's money to save a portfolio manager in a bind are fast fading.
(Boyd Erman is a Globe and Mail Capital Markets Reporter & Streetwise Columnist.)
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