Source: Bank Credit Analyst
Source: Bank Credit Analyst

What is causing the plunge in trading volume (and volatility)?

Today's chart comes to us from Chen Zhao of the Bank Credit Analyst, who writes in a research report:

The financial services industry have (sic) begun to feel the pinch of the fallout from low volatility and zero interest rates. The average return delivered by hedge funds has fallen sharply since the beginning of the year. Pension funds are under pressure because of highly depressed bond yields. The brokerage and investment banking industries have also been under siege by the rapid decline in trans-action volumes and deal flows.

I can identify at least three forces, other than Federal Open Market Committee policy, driving trading volume lower.

  1. Exchange-Traded Funds: The rise of passive, low-cost indices is a key driver of lower trading volume. Look no further than the $2 trillion in assets run by Vanguard and the $4 trillion by Blackrock and you can account for a large chunk of that missing volume. Despite the best efforts of the carnival barkers, stock picking simply isn't what it used to be.

  2. A Shift from Brokerage to Advisory: As my colleague Josh Brown has written, much of the market's transactional business has morphed into asset management. This is a low-cost, low-turnover business.

    Morgan Stanley Wealth Management has become the world’s largest retail brokerage/investment advisory firm. Last year, its wealth management unit took in $51.9 billion in fee-based asset flows. Thirty-seven percent of its wealth management client assets are now in fee-based accounts. That's a record high.

    The same is true for Merrill Lynch. The company's wealth management group had $48 billion in flows to long-term assets under management last year. Forty-four percent of the group's advisers had at least half of their client assets operating under a fee-based relationship, according to the Wall Street Journal.

  3. Mom and Pop Have Left the Building: Following the dot-com, housing and commodities busts and the last market crash, Main Street is abandoning investing. Market participation is low, cash holdings are high, and active trading -- or, heaven forbid, day trading -- has become almost nonexistent.

Is it any wonder trading volumes have plummeted?

To contact the author of this article: Barry Ritholtz at britholtz3@bloomberg.net.

To contact the editor responsible for this article: Alex Bruns at abruns@bloomberg.net.