Transaction cost analysis (TCA) is mostly viewed as an after-the-fact function, or at best, a task that is performed alongside transactions in real-time. However, some service providers are beginning to think about and develop “pre-trade” TCA as a new element of risk management. Pre-trade TCA also could re-shape data management by accounting for smart order-routers’ performance and trading venues’ performance in filling orders.
“Many want to try to understand the impact of a trade and take an assessment of the risk or the potential opportunity,” says Robert Moitoso, senior vice president and general manager at SS&C Technologies. “What happens when I trade into the market? What could potentially happen? What’s the best algorithm for me to use in this particular situation? While these aren’t necessarily new concepts, taking action in response to these questions will continue to get easier as innovation in technology and information processing continues to move at a rapid pace.”
Pre-trade TCA can deliver greater accuracy in key metrics for assessing transaction plans, Moitoso explains. “Over the last few years, advancements in technology have allowed for greater computing power,” he says. “We’re now able to not only analyse larger volumes of data, but do so faster and with more precision than ever before,” he says. “It’s getting easier to get a lot closer to being accurate — but, like a weather forecast using multiple models, you can still get it wrong.”
Companies have been trying to develop “predictive” solutions like pre-trade TCA for years, according to David Murray, chief business development officer at Corvil. “Understanding general price movements lets you establish a greater level of determinism about trades you’re making,” he says.
Achieving this “deterministic approach” can be done by “understanding what your historical performance is on a given venue or with a given counterparty over time,” says Murray. “Then you understand how you are performing, how the underlying systems are performing at a certain volume of activity.”
By extension, if one discovers that an order is going too slowly through a firm’s system and is not being filled at a designated venue as a result, pricing information can become outdated, and a question is raised about whether that is the venue’s fault, Murray explains. “The ability to get a rich view, down to an individual order, matched against different venues, to see where it’s most effective — if I can look at information trending over time on a real-time basis, I can adjust how the smart order-router sends orders,” he says. “That can then be input into a model for predictive purposes.”
As Murray and Moitoso describe it, pre-trade TCA has arrived for the industry now because the available technology and ways to deploy that technology have caught up to the need for such pre-trade analysis. Companies such as Corvil and SS&C are figuring out how to apply TCA to order router and trading venue operations and evaluate possible transactions.