LECCIÓN COMPLEMENTARIA
3. Reemplaza una preposición
An electronic trading platform (ETP) allows traders to place orders for financial products across a computer network. ETPs are an alternative way to trade in markets which have been dominated by more traditional methods such as open outcry and telephone trading through dealers. Electronic trading has been developed notably in order to service clients at a lower cost. An ETP can be a single or multi- dealer platform, where the network is connected to one or many financial institutions. Theoretically, by removing geographical restraints and allowing multilateral interaction, ETPs can enhance liquidity by matching buyers and sellers more effectively. There is some evidence to suggest that ETPs decrease spreads242, increase trading volumes243 and decrease volatility244. Electronic trading can facilitate the dissemination of trading information and improved transparency.
241 See for example IMF (2015), “Navigating Monetary Policy
Challenges and Managing Risks”, Global Financial Stability Report, April 2015.
242 Aitken, M. J., Frino, A., Hill, A. M., and Jarnecic, E. (2003)
“The impact of electronic trading on bid-ask spreads: evidence from futures markets in Hong Kong, London, and Sydney”.
243 Orlowski, L. T. (2015) “From Pit to Electronic Trading: Impact
on Price Volatility”.
However, several factors limit the impact of ETPs on market liquidity, particularly in quote-driven markets.
Structural market factors
Trading platforms are best suited to standardised products and smaller size transactions for which a sufficiently large number of orders can be matched on a regular basis; this is the case for spot FX markets for the most liquid currencies. The demand for diversity in issuance in fixed income markets means that it is less suited to electronic trading than other asset classes such as cash equities and futures. Later in this section we also discuss the benefits for flexibility in bond issuance.
As a consequence, ETPs have generally failed to gain traction in fixed income markets and the bulk of the trading is executed over the phone. There is
significant variation in the use of ETPs in trading across asset classes. Figure 5.5 shows the
development of the electronic market by asset class, with a clear relationship of high levels of electronic trading for more standardised products and lower levels of electronic trading for more customised products.
Figure 5.5: Electronic market development by asset class, 2012
Source: FEMR245
Note: includes multi-dealer RFQ
244Al-Khouri, R. and Al-Ghazawi, N. (2008) “The effect of
electronic trading on market volatility and liquidity in emerging markets: Evidence from Amman Stock Exchange”.
245 FEMR (2014) “How fair and effective are the fixed income,
foreign exchange and commodities markets?”, Consultation document. 0 20 40 60 80 100 C a s h e q u it ies (B ) Fut u re s C D S - I n d e x FX - s p o t U S Tr e a s u ries (C ) E u ro p e a n g o v . b o n d s P re c iou s m e ta ls FX - f o rw a rd s A g e n c ies C o v e re d b o n d s FX - o p tion s S h o rt -t e rm in te re s t ra te FX - s w a p s R e p o s S ta n d a rd is e d I R Ss In v e s tm e n t g ra d e - c a s h C D S - s ing le n a m e H igh y ield - c a s h B e s p o k e I R S S tr u c tu re d r a te s /c re d it % of trading volumes
As set out in Figure 5.5, with the exception of US Treasuries trading, the use of ETPs in fixed income and bespoke derivative markets remains less than 50%. Whereas electronic trading of US treasuries is around 55% of total trading, this falls to around 10% for high-yield corporate debt. This is consistent with our discussions with market participants. Dealer-to- dealer trades in fixed income are predominantly electronic while dealer-to-client trades are less so. Discussions with market participants suggested Treasuries and some real estate financing instruments were those instruments within fixed income with most potential for electronic trading. According to the Treasury Market Practices Group:246
E-trading represents more than half of the overall trading volume in the US Treasury securities.
Automated trading strategies account for more than half of the trading activity in on-the-run US Treasury securities that occurs on e- platforms.
The development of automated trading came together with a concentration of volumes (the top 5 dealers accounting for more than 55% of dealer-to-client volumes according to
Greenwich Associates).
Over the longer term market participants expect the share of electronic trading to gradually rise.
However, there is still expected to remain a need for trading to take place OTC for the foreseeable future, given issuer demand for flexibility in funding choices. A study by ICMA (2014) also suggests that although the electronification of the credit market is making an impact in Europe, it is not a substitute for OTC liquidity.
One proposed solution for achieving greater
standardisation, particularly in corporate bonds, is to concentrate market activity in a smaller number of bonds with greater issuance volumes and similar features247. This has occurred to some extent in government bonds, futures contracts and CDS that benefit from much better liquidity and the ability to be exchange traded as a consequence of larger and more standardised features. There are also some examples of structures used to aggregate borrowing
246 Treasury Market Practices Group (2015) “Automated Trading
in Treasury Markets: white paper”.
247 BlackRock (2014) “Corporate bond market structure: The time
for reform is now”, September 2014.
248 For example, the smaller UK water companies - with the
assistance of RBS - created a pooled financing structure called the Artesian Finance facility. It worked by containing issuers with
requirements for broadly similar lenders but adoption of such structures has not been widespread.248
However, we have found little evidence of support for greater standardisation in the corporate bond market. As indicated in the Bank of England’s Fair and Effective Markets Review, issuers value the flexibility of having specific maturity and coupon structures to match their underlying cash flows. Treasurers tend to issue debt for a specific purpose and term, and they value the flexibility of raising funding as and when it is required. Greater standardisation may also lead to greater
fragmentation, in that banks and multinationals are in a better position to issue standardised corporate bonds, whereas smaller issuers may end up issuing debt via private placements (which are ineligible for index inclusion), which will further perpetuate the bifurcation of liquidity between large and small issuers.
A study by the International Capital Markets Association (ICMA) shows that issuers were also concerned about the implications of standardisation on maturity concentration and roll-over risk. Large amounts of debt due for repayment at the same time would concentrate refinancing risk for issuers, and make it more difficult for investors to establish relative values between bonds with different tenors. A concentration of standardised maturities may also create additional volatility, which would not be the case under staggered maturities, which appeal to investors with different investment strategies and horizons. In addition, while banks and investors observed that standardisation could realise liquidity benefits, a more homogenous corporate bond market could make portfolio management more difficult from a diversification perspective.249
Liquidity fragmentation
Second, the growth of ETPs, which has been partly driven by regulatory changes, has given rise to liquidity fragmentation, where the liquidity of main markets are diffused across alternative trading venues. This results in more competitive, but less deep markets, with any less ability for an individual venue to absorb large trades, reduced price discovery and reduced efficiency. For example, there are 13 different exchanges and 40+ dark pools in US equity
similar credit risk and a used credit wrapping from a monoline insurer to protect investors.
249 ICMA (2014) “The current state and future evolution of the
European investment grade corporate bond secondary market: perspectives from the market”.
markets, and it is unclear whether these platforms provide a unique offering to investors.250
Discussions with market participants were also sceptical at this time about the potential of ETPs to attract sufficient “critical mass” of trading volumes and to retain liquidity without further consolidation in platforms.251 Many participants commented that the large range of bond trading platforms made it difficult to know where liquidity is concentrated and therefore which were worth investing in. Although larger firms were in a position to test the viability of different trading platforms, smaller firms are likely to delay their adoption until they can identify the trading platform that is likely to meet their trading needs, with sufficient volumes, into the long-term. Respondents were also sceptical of whether ETPs would succeed with a ‘buy side to buy side’ model, with dealers excluded as they felt this undermined an important additional source of liquidity.
Liquidity in a stress event
Finally, there is some scepticism currently over the ability of ETPs to maintain market liquidity in stress situations.
In summary, the introduction of ETPs are unlikely to result in a step-change in liquidity conditions in financial markets in the short-term. The
development of ETPs is still in its early stages, and could potentially have a positive impact on future liquidity and improving market efficiency. As noted by SIFMA’s Asset Management Group, the
development of new ETP protocols that bridge the gap between the RFQ and central limit order books (CLOB) could help reduce dependency on dealer capital by bringing latent liquidity to the market.252