Presented without commentary, taken verbatim from SAC Capital's just relased Form ADV Brochure
Research and Other Soft Dollar Benefits
SAC may select broker-dealers in recognition of the value of various services or products, beyond transaction execution, that they provide to a SAC Fund or SAC. Selecting a broker-dealer in recognition of the provision of services or products other than transaction execution is known as paying for those services or products with “soft dollars.” The amount of compensation (including markups, markdowns and commission equivalents on principal transactions with market-makers) a SAC Fund pays a broker-dealer who provides such services and/or products may be higher than what another, equally capable broker-dealer might charge. Any research service received through a broker-dealer may be used by SAC in connection with client accounts other than those accounts which pay commissions to such broker-dealer. The research service received by SAC, through a soft dollar arrangement, may benefit clients’ accounts, regardless of whether such account or accounts paid commissions to the broker-dealer through which such research service was received. When SAC uses client brokerage commissions (or markups or markdowns) to obtain research or other products or services, it receives a benefit because it does not have to produce or pay for the research, products or services out of its own resources. SAC may have an incentive to select or recommend a broker-dealer based on its interest in receiving the research or other products or services, rather than on its clients’ interest in receiving the most favorable execution. The extent of any such conflict depends in large part on the nature and uses of the products and services acquired with soft dollars.
SAC may use a SAC Fund’s soft dollars to acquire a variety of brokerage and research products and services. Section 28(e) of the Exchange Act recognizes the potential conflict of interest involved in this activity but protects investment managers such as SAC from claims that the activity involves a breach of fiduciary duty to advisory clients, even if the brokerage commissions paid are higher than the lowest available, if certain conditions and requirements are met. To be protected under Section 28(e), SAC must, among other things, determine that “commissions” paid are reasonable in light of the value of the “brokerage” and “research” products and services acquired. For this purpose: “commissions” include both commissions paid on agency transactions and mark-ups, mark-downs and commission equivalents paid to dealers in “riskless principal” transactions in securities under certain circumstances; “research” means products or services used to provide lawful and appropriate assistance to SAC in making investment decisions for its clients; and “brokerage” products and services that relate to the execution of a trade for SAC’s clients (including a SAC Fund) from order transmission until the delivery of securities or the credit of funds to the account.
The types of “research” SAC may acquire include, but are not limited to, the following:
- reports on or other information about particular companies or industries;
- economic surveys and analyses;
- consulting services regarding products, technologies, issuers or industries;
- recommendations as to specific securities;
- non-mass-marketed financial publications (delivered in hard copy or electronically);
- financial database software and services;
- computerized pricing and market data services;
- pre-trade and post-trade analytics, software and other products that generate market research, including research on optimal execution venues and trading strategies;
- advice from brokers-dealers on order execution, including advice on execution strategies, market color and the availability of buyers and sellers (and software that provides such market research);
- the portion of proxy analysis services that are reports and analyses regarding issuers and industries (but not the portion used to vote proxies); and
- other products or services in the categories listed in Section 28(e) or regulations thereunder or SEC interpretations that enhance SAC’s investment decision making.
“Brokerage” products and services (beyond typical execution services) include, but are not limited to, the following: (i) trading software used to route orders to market centers, (ii) software that provides algorithmic trading strategies, (iii) software used to transmit orders to direct market access systems, (iv) connectivity services between SAC and an executing broker (including dedicated lines between SAC’s order management system and the executing broker, lines between the executing broker and order management systems operated by third parties, and message services used to transmit orders to brokers for execution of SAC Fund transactions), and (v) short-term custody of funds and securities relating to effecting, clearing and settling particular transactions.
SAC’s current policy provides that the use of “soft dollars” to pay for research products or services will fall within the safe harbor created by Section 28(e). SAC may, however, in the future, use “soft dollars” to pay for products or services outside of the safe harbor created by Section 28(e).
Brokers and dealers from which SAC obtains soft-dollar services or products generally establish “credits” based on past transactional business (including markups and markdowns on principal transactions, such as transactions with market-makers for NASDAQ securities), which may be used to pay or reimburse SAC for specified expenses. In some cases the process is less formal; a broker or dealer simply may suggest a level of future business that would fully compensate the broker or dealer for services or products it provides. A SAC Fund’s actual transactional business with a broker-dealer may be less than the suggested level but can, and often will, exceed that level, and credits established may exceed the amounts used to acquire products and services. This may be in part because the SAC Fund’s investment activities generate aggregate commissions in excess of the levels of future business suggested by all brokers and dealers who provide products and services. In addition, it may be in part because those brokers and dealers may also provide superior execution and may therefore be most appropriate for particular transactions. SAC may ask a broker or dealer who is executing a transaction to “step out” of a portion of the transaction in favor of a broker or dealer who has provided or is willing to provide products or services for soft dollars. That is, the executing broker or dealer will allow a portion of the overall commissions or other compensation to be paid to the soft-dollar broker-dealer. This assists SAC in acquiring products and services with soft dollars while continuing to seek best execution.