Goldman loses its grip on stock-trading lead

The company is scrambling to protect its equities arm, which could face declining volume and revenue as competitors close the gap.

By MSN Money Partner Apr 16, 2014 5:23PM
Goldman Sachs Group Inc. signage is displayed on the floor of the New York Stock Exchange (© Jin Lee/Bloomberg via Getty Images)By Justin Baer and Scott Patterson, The Wall Street Journal

Under pressure from unhappy clients and losing market share to rivals, Goldman Sachs (GS) is trying to jump-start its stock-trading business.


At recent trading conferences with top clients, including Fidelity Investments and BlackRock Inc. (BLK), and in private conversations, investors have vented their concerns with the way Goldman and other firms trade stocks, people familiar with the matter said.


Amid the mounting frustration, Goldman has sought to take a more public role in the debate over the market's future. The firm has encouraged employees to stress to clients its views on market mechanics, and in March the firm's president wrote an opinion piece about those ideas in The Wall Street Journal. Goldman's effort also has included discussions over the future of its Sigma X private stock-trading venue. The Journal reported April 8 that Goldman was considering shutting it down.


At the firm's latest trading conferences, held this year at a Deer Park, Utah, hotel and Goldman's London office, money managers said they feared the stock market had grown too fragmented and complex, leaving everyone exposed to technological mishaps, and that banks often routed too many of their clients' trades to their own private trading venues, so-called dark pools, and gave unfair advantages to high-speed traders.


Such concerns could lead big investors to trade less, reducing volume and crimping revenue at Goldman and its peers, people familiar with the matter said.


The campaign reflects a scramble by Goldman to protect an equity-trading business that is losing its grip as the leader among big banks. Competitors are closing the gap at a time more stringent regulations have left bond trading and other corners of Wall Street facing an even more uncertain future.


The push also shows Goldman's desire to stay ahead of any new rules that regulators might impose on the stock market. "They're trying to make all people happy," said Glenn Schorr, an analyst with research firm ISI Group. "The world changes, and they try to stay a couple steps ahead -- or catch up."


Meanwhile, weakening revenue from trading securities tied to bonds, currencies and commodities is weighing on the bank's results, placing even more importance on equity trading.


Goldman collected about $7 billion in equities revenue in 2013, roughly 17 percent of the total market among large global banks, according to ISI. That was down from 21 percent in 2012. Goldman's lead over Morgan Stanley, its biggest rival, shriveled to 1.2 percentage points in 2013 from 5.7 percentage points in 2012.


Brad Hintz, an analyst with BernsteinResearch, predicted this month that Goldman's stock-trading arm would report first-quarter revenue of $1.78 billion on Thursday, down 9 percent from a year earlier. On Monday, Citigroup Inc. said quarterly revenue from its equity business rose 13 percent to $883 million.


Goldman's dark pool, Sigma X, has been one of Wall Street's biggest private venues. But in recent years, the platform lost market share as other firms beefed up their technology investments in their own venues.


Sigma X and other large bank-owned dark pools are only a small slice of banks' trading revenue, bringing in several hundred million dollars in annual revenue, people familiar with the matter said. Sigma X has seen transaction volumes fall since the end of 2011, while rival dark pools run by Barclays PLC, Deutsche Bank AG, Morgan Stanley and UBS AG have risen, according to Tabb Group.


For example, Goldman's dark pool traded, on average, some 72 million shares a day in March, according to Tabb. In the same month in 2011, Sigma X averaged 125.5 million shares a day.

With the business shrinking, Goldman has started rethinking whether it should run a dark pool at all.


The venues "create a host of conflicts that are very challenging to manage and are difficult to communicate with clients about," said David Mechner, chief executive of Pragma Securities LLC, which sells computer models to firms that help them get the best price on stock trades.

Goldman might choose to keep Sigma X running, and a decision isn't imminent. Many big investors have said they want banks to offer dark pools because they offer more anonymity and lower trading costs.


Over 50 investment firms that trade through Goldman last year told the firm they would like it to send trades to a new dark pool that caters to long-term investors, IEX Group Inc. IEX was the focus of the Michael Lewis book, "Flash Boys," which raised the volume on the debate over high-speed trading.


Many of the firms cited concerns that their orders were being mishandled by brokers and that high-speed traders on public exchanges were stepping in ahead of them, a Goldman representative said last year.


Goldman is making other moves to show clients it has their interests at heart. It has encouraged employees to "add our voice as a significant market participant on the current issues facing today's equity market structure," according to an internal document obtained by the Journal.

In the opinion piece last month, Goldman President and Chief Operating Officer Gary Cohn said "the speed and complexity at which our markets operate aren't being matched with the operational and control environment to support them." At last month's trading conferences, Cohn urged clients to become vocal with their concerns, the people said.


"When Gary comes out and says these are four things he'd like to see, for sure, you can bank on the fact that Goldman is feeling some of the heat," one senior trading executive said, referring to Cohn's opinion piece calling for changes to the way the market is structured.


While other banks' stock-trading arms delve further into dark pools, Goldman is weighing a pullback and growing more outspoken on the market's fragility, hoping its more cautious approach attracts clients.


Goldman has experienced the market's technology vulnerabilities up close. A key moment in Goldman's shift came in 2012, when Knight Capital Group Inc. racked up $460 million in losses in just 45 minutes after it lost control of a computerized trading system. Goldman profited from the hiccup after it agreed to take on a chunk of Knight's trading positions, but the episode left the firm's executives alarmed, according to people familiar with the matter.


Goldman's senior executives ordered an extensive review of all its trading systems, people familiar with the matter said. The firm's technology employees had been working their way from trading desk to trading desk last August when a glitch struck a business they hadn't yet reviewed: its stock-options unit, which sent waves of erroneous orders on the market. The misstep, traced to a software program, cost the firm less than $100 million.


—Bradley Hope contributed to this article.


More from The Wall Street Journal


 

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