Do The Right Thing


It’s rare that we witness an industry participant forego a potential profit for the sake of doing the right thing.  But that is exactly what Cowen did yesterday when they announced that they “made the strategic decision to discontinue the midpoint matching offering within the Millennium ATS (Cowen took over the Millennium dark pool when they completed the acquisition of Convergex).  Cowen CEO, Jeff Solomon, issued this statement:

“Over the past several years, many of our clients have expressed frustrations with the amount of fragmentation in U.S. equity markets.  Some have also raised concerns regarding conflicts of interest that can arise in broker order routing.  At Cowen, we have built our business around providing innovative and non-conflicted execution capabilities for our clients.  Cowen does not operate an equity trading venue.  We have never operated an equity trading venue.  That has been by design.  As we grow our trading business and look forward, we will continue to innovate to help our clients find liquidity in a fragmented trading environment.  However, we do not feel operating a dark pool matching engine is consistent with these efforts or our core values as a firm.”

We’ve known Jeff for a number of years and he has our utmost respect.  Our market structure conferences that we have co-sponsored with Cowen over the past three years have been thought provoking and filled with content that you normally don’t see at a broker-sponsored event. So we really can’t say that we were surprised when we read that Jeff was bypassing a short-term profit opportunity to ensure that his firm remained conflict-free when it comes to owning a dark pool and routing customer flow through the fragmented US equity market.

By shutting down the matching part of the Millennium ATS, Cowen has reduced US equity market fragmentation by one more venue (there will now be 30 ATS’s).  While there is still a long way to go to reduce venue  fragmentation to a manageable number, we applaud Jeff and Cowen for doing the right thing.

Now, let’s contrast this to a broker doing the wrong thing.  In their first ever blog post titled “The Truth Behind Broker Routing: Don’t Believe The Hype”, our good friends Jeff Alexander and Linda Giordano from Babelfish Analytics, walk us through an example of a broker prefacing their own dark pool at the expense of potential liquidity at another venue.  They show precisely how this one broker, over the course of three months, preferenced their own dark pool with 30-60% of their routes as opposed going to another venue which consistently produced more fills.  They concluded that there was a very weak relationship between fills and routes with this broker and this was the opposite of how they would expect a liquidity seeking algorithm to behave.

Babelfish also concluded:

Algorithms like the one described earlier have poor venue level performance, a negative impact on performance, and leave traders frustrated.  Brokers explanation of “complex heat maps” and “dynamic order routing” are rarely supported by data, and data analysis is the only way the buy-side can truly understand, and correct, the nature of inefficient broker routing.”

The above two stories highlight how owning a dark pool could distort where a broker routes your orders.  Cowen knew that owning a dark pool might cause a conflict so they nipped it in the bud right away to make sure they would not be put in a compromising situation.  But what about other brokers that route your flow?  Do they own a dark pool? Do they have a reciprocal relationship with another dark pool? Have they told you one thing but are actually doing something else? How are their routing tables set up?  These are all good questions but sometimes the answers are hard to find.  That is why we think services like Babelfish are extremely important to consider. Babelfish analyzes not just equity execution but execution routing.  In other words, they will be able to tell if your broker is doing the right thing.