(Questions and responses taken from an interview with President, Scott Freeze)
When an order comes in from a client to buy an ETF, how do you fill that order?
There's no concrete thing that we do every single time. It depends on how many shares need to be bought or sold and what the underlying volume of the ETF is.
If you're trading the S&P 500 SPDRs (NYSE Arca: SPY) or any of the other very liquid ETFs, there's a ton of liquidity in the open market and it's really up to the customer as to what they're looking for in an execution. Some want to work the trade over half an hour; others want to just print the order immediately.
If we're going to trade an ETF for a client in the open marketplace, we'll look at the short-term stochastics to see if the fund is overbought or oversold. We'll also look at what's happening in the sector and if any news is coming out anywhere. We'll also consider the macro outlook of the market, whether it's ripping up or might pull back a bit and we'll trade based on that.
We use dark pools, the open market, internal crossing and position bids. We do not advertise orders, but we do know where the bodies are buried. If a client needs to trade 200,000 shares of an ETF that usually trades thinly, you can usually get it done in a few minutes. We'll get some liquidity in the market, and then get a position bid if it's really oversized.
By 'position bid,' you mean ... ?
The way I do position bids is I ping [all the liquidity providers on the Street] instantly, and everybody comes back with a bid and an offer. I then take the best bid and the best offer. The best bid maybe from one company and the best offer from another. I show that to the customer. So no matter where else they go, I should always have the best market, because I take the best of what's out there from all the providers. We also tend to get tighter markets from AP’s and market makers since they know they are competing for an order with other AP’s and market makers.
Do you act as a principal or an agent in the trade?
Agent. We will act as principal if someone is selling a small position and the position bids are wide in our opinion; but generally, we're an agent.
What do you charge?
Generally, we work on commission. Some customers want to do a net markup on the trade, and we'll do that. But generally, we charge from .0075 to .02 (cents per share) depending on volume.
What's the minimum order size where it makes sense for an investor to use your services?
If you can sit at your desk and go through your open market system and buy 5,000 shares of a very liquid ETF, and they will charge you half a cent to do that, obviously it will be cheaper for you to place the order that way.
But if you're going to be moving the market more than 2 cents on your order, you should use someone like us. The true cost of trading for an investor is not only commission, but also market impact on the issue they are trading. If you are going to have market impact, you should come to us with the order and let us help you minimize that impact there by reducing your true costs of trading.
The other caveat is that, if you custody your funds at Schwab, TD, Pershing, etc., you have to know what your "trade-away" fee is. If your trade-away fee is $30, your order has to be sizable enough-maybe 10,000 or 20,000 shares-to justify covering that charge. [That's especially true] if you don't have an omnibus account set up through your prime broker. Of course, if you are an assets based account as opposed a transactional pricing model, then you probably will not have trade away fees assessed to your accounts. A call to us can clarify if you will see any fees from your custodian.
How easy is it to set up an account with your firm? Can I trade with you and custody the funds elsewhere?
You can custody wherever you want. Custody and trading are two separate things. From our perspective, it's better for an RIA to custody at TD or Schwab or Pershing or someone like that. Those companies do custody well. But on the trading side, you can get better executions elsewhere.
Ninety-nine percent of accounts can be traded and opened the same day as long as the paperwork is in place.
What are Street One Financial's distinguishing characteristics?
We are a firm of experienced professionals who have been trading ETF’s since Spyders began trading in 1996. Many of us started on the buy-side and understand the concerns, both internal and external, that most buy side firms have to deal with. We work very hard to build relationships, as opposed to just look for trading volume, and to that end we assist PM’s in outlining the products that gives them the best exposure to the sector they desire, offer technical analysis and trade ideas, as well as other unique value-add services.
For instance, we have a 72-page Excel spreadsheet detailing the companies and sector exposures of all ETFs. If a portfolio manager wants exposure to some specific part of the marketplace, he can pull it up and see, well, there are four different ETFs in this space. He maynot necessarily want the first or most popular one. We work with RIAs and PMs to help them decide which ETF gives them the exposure theyare looking for.
We also offer a technical analysis system that's ETF-centric. It's not as pretty as bulge-bracket shops will give you, but it's ETF-focused and provides straight forward advice on support, price trends, ETF picks, etc.
We don't charge for research, it is part of the value-add we deliver.
How does Street One handle ETF Creations/Redemptions?
The creation and redemption process is at the heart of the ETF product wrapper. Open-ended issuance, as the process of daily creations is called, enables ETFs to grow to accommodate demand. Then, when demand reverses and the underlying are no longer in demand, Authorized Participants (APs) are able to redeem positions. This is one of the reasons that ETFs tend to trade within a tight band around their NAV. The forces of supplyand demand are manageable with this just-in-time inventory process.
There is massive amount of confusion among the ETF client base about the creation and redemption process. For many years, the C/R process has been advertised as the way to access the hidden underlying liquidity in the ETFs. While it is true that the liquidity is from the underlying basket, it is a mistake for clients to think theyare actually doing creations and redemptions. The C/R process is basically just the back office functionality that enables APs to manage their positions on the trading books. It allows trading desks to be more aggressive in making markets and providing liquidity. The APs have registered with the issuers to deal on the primary market on a daily basis. They are providing the liquidity, either via executing a basket for the client or trading in the ETF, and cleaning up the their positions with either a creation or redemption. Clients are able to achieve an NAV execution plus or minus small fees. But clients are not doing the creation/redemption; they are having it done on their behalf. What makes this distinction so important? The semantics are important because many clients think the creation process restricts them to certain sizes that they must do in order to gain access to a specific ETF. Although that may have been true several years ago, in the current world, there are plenty of providers who are willing to aggregate the order flow, so clients can get NAV executions in almost anysize they desire. (excerpt from page 179 of "The ETF Handbook", by David J. Abner)
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