Since the financial crisis, bond market liquidity has dominated headlines the world over as market participants have turned to new technologies to assist them.
A report from PwC claimed that liquidity in European corporate bond markets declined by 45% between 2010 and 2015.
With this notable reduction, financial experts have become increasingly spooked, with regulators and commentators all warning of the possibility of a fixed income-triggered crisis in the future.
Among those to put the market under scrutiny is the US Treasury’s Office of Financial Research.
Richard Berner, director of the OFR recently gave a speech to the Brookings Institution, in which he stated that “[Bond market] liquidity appears to have become increasingly brittle.”
He said: “Although liquidity… looks adequate during normal conditions, it seems to disappear abruptly during episodes of market stress.”
This is a concern that is repeated frequently in the global financial media.
Peace of mind
Technology is going some way to assist with liquidity problems and perhaps one of the most important roles for technology is the efficient use of analytics and data.
Analytical technologies allow users to see statistics on venue toxicity, slippage and arrival prices, and average prices before and after execution.
Etrading Software is the company behind the Neptune bond platform, launched in August 2015 to match up the protocols on different trading venues.
It is supported by some of the largest financial institutions in the world such as Goldman Sachs and Morgan Stanley.
Etrading Software has been one of the beneficiaries of the rush to technology by liquidity seekers.
While the company has done well from the search for liquidity, the directors of the business say that there will need to be a focus on bringing lower cost technologies to market over the coming 12 to 18 months.
They say this is essential in order for technology to continue to appeal to more new customers seeking liquidity although this will not be the complete solution.
Fragmentation worries
Sassan Danesh, managing partner at Etrading Software, said standardisation is key if fixed income markets want to unlock liquidity.
He said: “A lot of market participants are trying to solve the issue of liquidity with technology, but there is too much fragmentation and incompatibility of those technologies. Vendors and providers need to come together to agree standards for technologies.”
Fellow managing partner Grant Wilson said it’s all well and good introducing new technologies, but people’s mindsets need to change if the liquidity crisis is to truly be resolved.
He explained: “Technology can only help if habits change. Fixed income has historically been opaque because of the liquidity of the product itself.”
One of the latest arrivals to the fixed income party is Liquidnet.
Mark Pumfrey, Liquidnet’s head of EMEA, said Liquidnet’s success lives and dies by its technology and the innovation in which the company has invested.
With an average of $8 billion worth of daily liquidity available to its users, Liquidnet has gone some way to piecing together the liquidity puzzle.
He said: “This number will grow as we add new members. We are using innovative technology and our unique positioning in the market to achieve this.”
Experts in the market know that the buy-side are more important than ever before in finding liquidity.
In 2014, BT’s Financial Technology Services business reported that “… complex strategies… need human interaction to find liquidity… We see the need for high touch intervention to complement low touch automation on both the sell-side and the buy side.
“In the past, our technology has appealed mostly to the sell-side, but the collaborative tools we can now offer are also of interest to the buy-side as it takes more control of trade execution.”
Liquidnet’s Pumfrey echoes these thoughts.
He said: “Dealer liquidity has become highly constrained as a consequence of regulation post the financial crisis. As a result a successful solution to the growing liquidity crisis needs to unlock buy side inventory.
“Liquidnet does exactly that – we have built a liquidity platform which concentrates buy side fixed income orders and indications.”
Touching up
There has been more widespread progress from high touch to low touch technologies in fixed income, however.
A report by The Bank for International Settlements found the ‘electronification’ of fixed income is building pace.
It said: “This, and regulatory changes that enhance market transparency, have helped reduce average trading costs and mitigate the impact of reduced liquidity provision by traditional market-makers.”
Etrading’s Grant Wilson explained that the fixed income markets need to adopt similar technology to that employed in the equities markets, but acknowledged that this wouldn’t be easy.
He explained: “The issue around technology is working out how to bring some of the tools and transparency from the equity market to the fixed income market, while still be conscious of the product and it’s liquidity profile.”
Market participants agree that technology isn’t enough to source liquidity, technologies must be paired with a venue that can create opportunities for trades in illiquid environments.
Liquidnet’s Pumfrey added: “It’s a combination of technology via Order Management System connectivity and the positioning and nature of the venue which will create new opportunities for trades to occur in relatively illiquid fixed income bonds.
“This is likely to increase usage of OMS systems in fixed income in the US which are currently behind the adoption we see in Europe.”