Gareth Coltman, head of European product management for fixed income trading platform MarketAxess, said the firm is developing machine learning to improve price information and to automate execution as electronic volumes increase.
MiIFID II, the European Union regulations coming into force for financial markets at the beginning of next year, introduce new requirements for pre-trade transparency, trade reporting and best execution in fixed income, which has traditionally been dominated by voice trading. However increased capital requirements have led to dealers shrinking their balance sheets and cutting back on market making, boosting electronic trading.
Coltman told Markets Media that MiFID II will accelerate the shift from voice to electronic trading in fixed income and automated trading will develop, as in equities.
“Approximately 40% of fixed income is currently traded electronically and that will grow rapidly,” he said. “Some clients have told us that on January 3 they will switch from voice to electronic trading.”
MarketAxess also owns reporting platform Trax, which has been approved under MiFID II as both an approved publication arrangement (APA), which streams continuous live price and volume data on certain financial instruments, and as an approved reporting mechanism (ARM) for trade reporting. Coltman said clients can already use Trax data to improve execution, even if all their trades are not executed on MarketAxess.
“Some clients are using our post-trade data to identify pre-trade opportunities e.g. for liquidity sourcing, and also benchmarking execution from different trading platforms,” he said.
As MiFID II strengthens best execution requirements across asset classes, including fixed income, MarketAxess is working on providing improved price data, especially for less liquid bonds.
“We are working on using machine learning to develop implied pricing from certain data sources and automation of execution,” Coltman added.
If pricing can become more automated, then the process of executing on those prices can also become more automated.
A recent report from consultancy Greenwich Associates, The Technology to Succeed in Fixed-Income Trading, said an increasingly large portion of requests for quotes received by a dealer desk can be handled by an autoquoting system. Algorithms can quote a price in milliseconds using public and private data about the security, combined with data on the counterparty and current market conditions.
Kevin McPartland, head of research for market structure and technology at Greenwich Associates, said in the report: “These calculations are non-trivial, multi-faceted and are being done many times a second throughout the day for what could be dozens of clients. If done properly, such an algorithm connected to the right distribution technology will put the bank ahead of its peers with better pricing, higher margins and reduced risk.”
McPartland continued that fixed income dealers are turning to third-party technology providers to help boost their own profitability and fixed-income trading venues are also an important part of the story. He added that MarketAxess now handles almost 20% of corporate bond trading volume in the US while Bloomberg, NEX Group, Tradeweb, and TrueEx have gained share across government bonds and interest rate swaps.
“Recent Greenwich Associates research pointed to the opportunities second- and third-tier banks in particular see in trading electronically through these venues," said the report. “They provide not only distribution and an opportunity to gain new clients via aggressive pricing, but also unique data tools to help sales and trading functions alike.”
In addition to managing more data, buyside traders also have to manage new sources of liquidity. There has been an increase in all-to-all trading, where multiple parties in a network come together – rather than the traditional model of only banks supplying liquidity to the buyside - such as MarketAxess’ Open Trading network.
Rick McVey, chief executive of MarketAxess, said during the company's second quarter financial results in July: “Open Trading continues to see increased client adoption and, during the second quarter, reached a new record as a percentage of our total trading volume."
Open Trading volumes were $57bn in the second quarter, with average daily volume up 42% from the same period last year. The firm reported that liquidity providers or price makers on the platform drove a 104% increase in price responses in the second quarter while liquidity takers saved an estimated $22m in transaction costs.
McVey continued that MiFID II will lead to more fixed income being traded or processed through regulated venues.
“As we make the rounds with dealer and investor clients, the combination of best execution requirements for both investors and dealers and the onerous trade reporting regime has most market participants coming to a conclusion,” he added. “That it is just going to be easier to comply with those regulations when the trade goes through a regulated trading venue.”
McVey said the firm was especially pleased with the progress made with large institutions for their MiFID II trade reporting mandates, which should eventually lead to more market data.
“Over time, I think there will be more and more transparency requirements where all regulated trade reporting entities have to participate in a consolidated tape,” said McVey. ”But our base of data should continue to be strong post-January with MiFID II.”