Portfolio trading volume in the United States continues to enjoy heady growth, leading to lower research costs for institutional investors, and increasing pressure on the sell-side, according to new research from Greenwich Associates.

The average U.S. institutional investor increased its portfolio trading volume by 25% from 2005 to 2006 following an increase of 35% the prior year, it reports. Total portfolio trading activity among the 122 U.S. institutions participating in a new research study from Greenwich increased to US$1.4 trillion, it adds.

Based on these results, Greenwich currently estimates the total market-wide volume of U.S. portfolio trading at approximately US$2 trillion within its targeted universe of 180 buy-side trading desks. (Greenwich Associates’ portfolio trading data includes only institutional portfolio trades and excludes proprietary trading and other sources of volume included in data calculated by the NYSE and other sources.)

“The increasing use of portfolio trades is generating considerable cost-savings for U.S. Institutions,” it reports. The typical institution interviewed for Greenwich Associates’ portfolio trading research study executed about 46% of its total equity trading volume as portfolio trades during the 12-month period ending February 2006, it says. On average, this business was done at a commission rate of 1.9¢ per share, which is less than half the typical commission rate on a standard NYSE agency trade.

“The results speak for themselves,” said Greenwich Associates consultant John Feng. “Even though market-wide equity trading volumes were robust between 2005 and 2006, the pool of institutional commissions paid to U.S. equity brokers was basically flat.”

Buy-side portfolio managers and traders are also enjoying reduced research costs, Greenwich suggested. According to the new Greenwich report, more than 80% of U.S. institutions directed agency portfolio trades to brokers as compensation for fundamental equity research last year — an increase from 60% that reported using portfolio trading volumes to meet broker research commitments in 2005.

Among institutions using portfolio trades as research compensation, the proportion of portfolio trading volumes designated for this purpose also increased to more than 70% of their total, it said. “Doing the math, these numbers suggest that about 40%-45% of the entire commission flow generated by program trades is being directed to brokers as payment for research and other services,” says Greenwich Associates consultant Jay Bennett.

“If the 1.9¢ per share average commission rate on portfolio trades does indeed represent a near execution-only cost, then brokers are getting squeezed hard by the practice of using this business to pay for research,” says Greenwich Associates consultant John Colon. “Indeed, the sell side is beginning to complain that institutions are not differentiating between 4¢ agency business and 2¢ portfolio trading business when accounting for their payment of brokerage equity research commitments.”