What is a Block House
A block house is a particularly type of brokerage firm that deal is large trades, in particular it specializes in locating potential buyers and sellers for the large trades. A block house typically deals with institutional clients rather than individual investors, since a single large trade may represent millions of dollars.
Breaking Down Block House
A block house, like any brokerage firm, facilitates transactions between buyers and sellers, who pay the firm commissions and other transaction fees. Unlike most brokerage firms, block houses deal primarily in so-called block trades, which, by definition, exceed $200,000 worth of bonds, or 10,000 shares of stock, not including penny stocks. In practice, block trades tend to be much larger. These transactions occur off exchange, or outside the open market.
Because of the potential impact that large-volume trades can have on the market value of the securities being traded, block trades usually go through block houses. Block houses break up the trade into several smaller chunks and channel them through separate brokers to keep market volatility to a minimum. That said, even well-executed block trades can significantly impact the market, and some analysts watch block trade activity to anticipate market trends.
Block houses’ institutional clients include corporations, banks and insurance firms, as well as mutual funds and pension funds that assume significant security positions.
The Block House Alternative
Institutions seeking to avoid brokerage fees and commissions also may conduct block trades directly, without employing a block house as an intermediary, on the fourth market. While primary, secondary and third markets are public markets accessible to every kind of investor, the fourth market is more exclusive and less transparent. Fourth-market trades are restricted to institutions and are only made public after the transaction is complete.
It’s this last feature of the fourth market that offers another advantage to institutions initiating block-size trades besides low transaction fees. Because the trade is conducted with less transparency, there is less risk that the market will shift before the transaction is complete.
The fourth market also precludes the possibility that a block house trader will use knowledge of an impending block trade in a fraudulent practice known as front running. In 2013, a senior equity trader at Dallas-based Cushing MLP Asset Management, was caught conducting his own trades just before block trades from his firm’s clients that were likely to boost the stock’s price. Not only did his scheme unethically benefit him by at least $532,000 over the course of 132 transaction; it set his own interests in opposition to those of his clients, who specifically relied on him to manage price exposure.