Electronic Trading in Fixed Income Evolution not Revolution

Electronic Trading in Fixed Income Evolution not Revolution

Copyright 2015 by Hatstand Ltd or a Hatstand affiliate/subsidiary company. All rights reserved. No part of this document may be reproduced or transmitted in any form or by any means,

electronic, mechanical, photocopying, recording, or otherwise, without prior written permission. 2

TABLE OF CONTENTS

1 eTrading Overview _________________________________ 3

2 Trading Protocol Primer ____________________________ 5

3 Current Platform Providers __________________________ 7

4 Implication for IT __________________________________ 9

5 Cost Considerations _______________________________ 10

6 Regulatory Considerations _________________________ 11

7 Opportunities ___________________________________ 12

8 Platform Considerations ___________________________ 12

9 How we add value ________________________________ 13

10 About the authors ________________________________ 14

11 Trading Systems _________________________________ 15

12 About Hatstand __________________________________ 16

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Electronic Trading in Fixed Income Evolution not Revolution

Copyright 2015 by Hatstand Ltd or a Hatstand affiliate/subsidiary company. All rights reserved. No part of this document may be reproduced or transmitted in any form or by any means,

electronic, mechanical, photocopying, recording, or otherwise, without prior written permission. 3

1 eTrading Overview

Electronic trading in fixed income cash securities is not new. Many of the trading protocols have been around for the past 20 years, with the most successful being the request for quote (RFQ), which simply automates a prior voice workflow. Granted, eTrading adds efficiency as well as added accuracy, ensuring “right first time” by capturing trade affirmation with straight through processing. With over forty eTrading platforms having entered the arena, or about to launch, one would question whether there is anything revolutionary on the horizon or are these vendors simply efficiency plays, i.e. more efficient ways to discover liquidity and to execute. And like RFQ are these just additional ways to automate heretofore manual or voice processes. And yes, to cut to the chase, these are evolutionary plays rather than fundamentally changing the market structure.

Many platforms tout “liquidity begets liquidity” by promoting their trading software as the panacea to the lack of liquidity in the market; providing the link to the liquidity sources through their trading protocols. As more firms use these platforms and make available their laundry list of securities to trade, they collectively create the market place. However, reality often falls short of theory. One finds the exact same liquidity available on many of the platforms, negating the need to connect to them all, and there exists a bias amongst the users not to show their hand (i.e. axes), in whole or in part, which may in turn precipitate a market movement away from them.

Finding liquidity in the fixed income markets, even at the best of times, is challenging due to the fragmentation of the market place and that many securities are considered to “trade by appointment only”. This is especially true for corporate and less liquid bonds, which become considered “off the run” or illiquid just six months after their issuance date and where the majority of the liquidity is sitting on the buy side balance sheets. The good news is that the electronic trading platforms out there today will contribute to the solution; providing tools that can facilitate pre-trade analysis, execution and post trade processing.

One platform will not give you access to all of the available liquidity sources or necessarily align to your various trading strategies and priorities.

Electronic Trading in Fixed Income Evolution not Revolution

Copyright 2015 by Hatstand Ltd or a Hatstand affiliate/subsidiary company. All rights reserved. No part of this document may be reproduced or transmitted in any form or by any means,

electronic, mechanical, photocopying, recording, or otherwise, without prior written permission. 4

One multi-purpose tool, or platform, will be insufficient to manage one’s trading needs. While quite a few platforms do cover multiple trading protocols, no one covers them all adequately. In addition, one platform will not give access to all of the liquidity providers out there nor facilitate alignment to an institution’s various trading strategies and priorities. The trick is to have the right combination of systems that can work seamlessly in your environment to match your traders’ strategies depending on the size of the trade, execution time frame and sensitivity to information leakage pre-trade.

The trading protocols for the more than forty Fixed Income eTrading platforms available today range from request for quote (RFQ), orders in a central limit order book (CLOB)/streaming prices, orders in a matching session, indications of interest (IOI), and orders/IOI’s in dark pools. All provide advantages and disadvantages in terms of speed of execution, ability to price improve by being a maker versus a taker, ability to evidence best execution, and minimization of information leakage.

Firms should have a well-documented trading strategy that covers not just asset class, but within asset class what they are trying to achieve. Once articulated, the next step is to align the objectives against the platforms in order to derive your best mix of platforms to support your business.

Copyright 2015 by Hatstand Ltd or a Hatstand affiliate/subsidiary company. All rights reserved. No part of this document may be reproduced or transmitted in any form or by any means,

electronic, mechanical, photocopying, recording, or otherwise, without prior written permission.

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