Inside “Buy-Side” Intelligence

Two Sides of Wall Street

Like any street, Wall Street has two sides. If retail investors are on the sell side (sold at the offer) then large institutions are on the buy side (bought at the bid.) For them, stock is an investment that must achieve certain returns in the face of various macroeconomic factors.
Generally, buy-side refers to professional money managers, each of which is contractually bound to act as a fiduciary for the people who pay him.

The issue is sometimes confused because investment banks also have buy-side parts to them, which manage money for others. In an effort to stop any leaks and clear up any confusion, investment bank managers create a legal device called a Chinese Wall.  The "Wall"  is a series of policies which aim to prevent information exchange between those selling to the public and those buying for institutions.

Buy-side institutions include:

• Mutual funds
• Pension funds
• Hedge funds
• Institutional firms
• Sovereign wealth funds

The Buy-Side Silence

Who speaks does not know, who knows does not speak - Lao Tzu

Any buy-side analyst can get as much information as any retail investor on a given company. Using only that information would violate prudent standards, however. Institutions know the potential for abuse with sell-side literature and duty to investigate with due diligence any such claims. For some managers, that means reviewing publicly available accounting reports and then analyzing them in a specific, proprietary way.

Other managers will actually visit the companies and talk to employees on a plant tour. These tire kickers think they can get a better idea of whether or not to invest by actually looking over the place. In either case, the buy-side analyst gathers information in order to create his own vision of the future. In effect, the management team of an actively managed fund tries to predict the future. There is no advantage to investing if you don’t know “just a little more.”  The vision they create remains private; no one shares it with the world.

When Advertising Masquerades as Information

Whenever you hear of an upgrade, downgrade or price target, you’re listening to an advertisement. The buy-side keeps its opinions to itself, because it has a duty to do so. Its members have paid for the research they produce. The public has no right to it.

Buy-Side Meets Sell-Side

It used to be that large institutions and small investors were consigned to meet in one place: The New York Stock Exchange. Trading also took place on “the curb” (the AMEX) as well as in Philadelphia. However, New York offered a central location for those with the greatest liquidity needs. Buy-side managers used to place large orders with specialists on the New York Stock Exchange (NYSE) and these firms would gradually execute the orders throughout the course of one or several days. In cases where large blocks of stock needed to change hands, a sudden market order would upset the price to the disadvantage of the institution.

Greater information exchange over the internet and even television made large trades too visible to speculators. Today, your simple online trading platform (which you can get for free from a discount broker) will show you where the liquidity in many issues lies. You can see large blocks of stock offered for sale or you can see prices at which buyers will take thousands of shares. This information makes buy-side managers very uncomfortable, as it should. A smart speculator who sees where liquidity lies or detects changes can insert his own order and make a buy more expensive or a sell less profitable for an institutional manager.

Now, buy-side institutions make their trades away from the prying eyes of speculators in “Dark Liquidity Pools.” This mysterious sounding phrase refers to a series of electronic trades that can take place in small bits on many exchanges across the world without giving anyone a clue that a particular fund is divesting or investing in a company. Contrast this with the orders that retail investors use, and you’ll see that any edge you might have as an individual will be particularly hard won and entirely non-existent if you do not take into account the way that these sophisticated managers work. The moral of the story is simply this: If you engage in retail trading, and you buy a stock from someone, you should ask yourself what that person knew that made him want to sell it to you.