More than two-thirds of asset managers want to improve their data collection for bonds as regulations have introduced new transparency, reporting and best execution requirements.
MiFID II, which came into force in the European Union in January, extended best execution regulations into the fixed income market for the first time. Firms now need to take all sufficient steps, rather than all reasonable steps to obtain best execution, and evidence this process. In addition, MiFID II introduces pre-trade transparency and post-trade transaction reporting into fixed income for the first time.
A survey of global asset managers by institutional trading network Liquidnet, Future Tech—Trading Bonds Post MiFID II, found that 86% of firms are currently in the process of re-configuring workflows and 68% are improving data collection.
Rebecca Healey, Liquidnet
Rebecca Healey, head of EMEA market structure for Liquidnet and author of the report, said in a statement: “Firms are now beginning to recognise the central role technology plays in making workflows more efficient, allowing trading desks to better evaluate the true cost of execution and not solely focusing on the lowest price possible as that is not necessarily ‘best execution.’ This will ultimately help portfolio managers to build more resilient strategies that take liquidity conditions into account at the point of investment selection, not just execution.”
The report continued that firms need to address changes in behaviour as well as technology. The report said: “Liquidnet foresees an extension of the role dealing desks play in implementing investment strategies from merely executing a portfolio manager’s instructions to a true execution partnership, while still ensuring separate trading functions to avoid any perceived conflict between execution and advice.”
A panel of fixed income heads of dealing of asset managers at the FIX Trading Community EMEA Conference in London last week said order management systems have not met the demand for data required to evidence best execution, such as a snapshot of the market at the time of the execution.
Liquidnet said the size of the firm, as well as the range of assets traded, will dictate the technology that firms use, which will apply not only to electronic trading, but also to new initiatives such as artificial intelligence and distributed ledger technologies.
Morgan Stanley and consultancy Oliver Wyman said in a report, Winning Under Pressure, that market structure shifts, including continued electronification in fixed income and the unbundling of execution and research commissions in equities, is one of the factors that will slow the rise in the fee pool for banks from institutional clients to a compound annual growth rate of 2%.
The study continued that the most attractive economics in market-making are where a bank is able to establish a dominant position in price formation, rather than just connecting a client to a venue, especially if they can provide the best view of market liquidity at any given point in time. Morgan Stanley and Oliver Wyman estimated that banks today generate between $40bn (€33bn) and $45bn of revenues in this way, primarily in flow over-the-counter fixed income and equity derivative trading.
“Banks are investing in tools to better codify, analyze and use data captured through both voice and electronic channels, and maximize the value of their own client network. But this is a scale game, and there are strong network effects,” added the report. “Larger client networks drive richer datasets on demand, enabling better pricing and liquidity, and in turn attract more clients.”
However, banks face competition from fintech firms, exchanges and other third parties looking to connect buyers and sellers. Emerging products include best execution agency trading models that allow the complete 'insourcing' of buy-side desks for foreign exchange and fixed income; proprietary tools such as risk analytics engines; and building broader operational in-sourcing platforms for the buy side. Asset managers have a total cost base of $210bn, of which 20% to 25% is currently outsourced, and a further 15% to 25% could potentially be moved to that model.
“Many banks are already active in this market through their fund services activities, currently worth $10bn,” added the study. “A range of exchanges, technology firms, trust banks, fund managers, hedge funds and broker-dealers are building propositions here – the race is on to own the critical parts of this ecosystem and to position themselves as platform providers.”
