As more markets go electronic, the move forward must include integrating pricing and flow across asset classes, leveraging a firm’s investment and experience in technology in mature markets.
According to new TABB Group research, potential roadblocks to this evolution often boil down to a firm’s approach to risk taking.
The fixed-income industry is rapidly being reshaped, says TABB Group analyst Radi Khasawneh, who wrote “Meet Your (OTC Market) Maker: Return on Market Share,” analysing banks’ efforts to consolidate pricing models and IT in the shifting fixed-income dealer (FID) landscape.
“As markets become increasingly order-driven and competitive only those firms able to algorithmically automate cash trading while maintaining profitability will become market leaders. Specifically, these FIDs need to invest to revamp, integrate and automate ahead of an accelerated change looming in market structure,” says Khasawneh.
FIDs have focused the brunt of their IT innovation on the most mature end of the marketplace – the FX spot, CDS index, cash Treasury and Treasury futures markets – but as markets become increasingly restricted, they need to create a lucrative alternative to illiquid, manual over-the-counter (OTC) trading through technology and pricing now used in other asset classes. According to Khasawneh, the solution is for dealers to leverage alternative sources of liquidity and pricing data in a more agency-based and less capital-intensive business model.
For this report, TABB spoke with 14 trading desks, including heads of electronic market-making and quantitative pricing and market making across the firms, at banks operating global fixed-income businesses during the second quarter of 2014. It examines their approach to pricing across asset classes, benchmarks for success and the scope for future change in fixed income as the business model responds to changes in the market structure.
“While strategies will change and pricing will evolve the key challenge is for market makers to remain relevant. Technology is an integral part of that but the acid test will be comparable, consistent pricing across asset classes in a way that still makes money,” says Khasawneh.
