Sell-side videos

The sell side has historically been defined as those firms who sell securities on behalf of issuers. These were typically investment banks and / or brokers. These firms were also market makers, members of exchanges who made prices on the exchanges for buyers and sellers of listed securities; equities, futures and options.

More recently the sell side has begun to encompass any firm whose business is to make prices in securities. Where market makers once referred to those dealers which were obliged to make markets as part of their exchange membership, increasingly it refers to any firm whose business model is to generate returns by trading, as opposed to holding securities.

That means the ranks of banks and brokers have been joined on the sell side, by firms which trade high volumes of tickets electronically, through high-speed, technologically enabled analysis of liquidity and price data. These firms are typically known as high-frequency traders (HFTs), electronic liquidity providers (ELPs) or if they only trade their own money, as opposed to investor money, proprietary trading firms (PTFs).

The firms for who they make markets are investors of every sort, including those going long i.e. firms buying and holding assets expecting their value to rise, and those going short i.e. firms selling borrowed assets at the current market rate and then buying them after their price has fallen, to be returned to their owners.

Market makers charge a fee or set the bid-ask spread for a security to create a margin for themselves. As market makers generate revenue through the trading and not the holding of assets, the risk they carry is that the price of securities they are buying and selling for clients moves against them during the period in which they are holding those assets. As a result, increasing efficiency of pricing / trading and reducing market risk are key to the sell-side.

This risk increases when markets are volatile and prices are either moving up and down rapidly, or during a sell-off at which point the value of the assets is sure to fall for the period of the sell-off.

Traditional market makers will carry inventory of assets that their client might want to buy, while offloading assets that are being sold. The cost of holding inventory for bank has been driven up by regulatory capital requirements, which set the amount of capital a bank needs to hold against risk. As the risk for holding illiquid assets is higher than that of liquid assets, that makes it harder for banks to keep inventory – and therefore make markets – in less liquid assets such as fixed income instruments. Ironically, these are the markets in which market makers are most needed.

ELPs are able to trade in and out of positions without holding inventory overnight, which significantly reduces their exposure to market risk. At the same time the margins they make are often tighter than traditional market makers.

Sell-side trading desks need to rapidly price and locate securities to buy and sell, with the firm then also hedging against risks often using futures, options and swaps, which allow the firm to acquire securities at a known price point, or pay for an exchange of risk in conditional circumstances.

As automated trading evolves, traditional dealers are able to engage more efficiently in making markets and begin to develop capabilities that match those of ELPs.

The increasing levels of electronic market-making and trading reflect better access to data and the development of technologies that allow more automated decision-making to be made in part or all o the trading workflow for those securities. In less developed markets, often emerging markets or very active local markets, trading is more likely to be conducted via voice than electronically.

This can increase the costs of trading, but also allows local or niche sell-side firms to handle liquidity in these markets.