The corporate bond revolution will be streamed

Dealers are piping feeds of live, executable prices direct to select clients

  • The corporate bond market is seeing the emergence of a new way of trading as banks have started streaming executable bond prices to real-money clients.
  • AllianceBernstein is taking in streams from JP Morgan and plans to connect to more dealers this year.
  • Bank of America, Barclays, Citi, Goldman Sachs and Morgan Stanley are also in the business but the service is limited so far to just a handful of clients.
  • Asset managers, under severe cost pressure, want to save money where they can and believe new trading protocols like streaming will help.
  • Technology to connect with different banks and trading platforms is still developing but is seen as a key element in the future growth of this trading protocol.

In today’s on-demand culture, consumers receive what they want, when they want it. Music and television is piped into our houses in personalised streams. Social media feeds are tailored to our tastes.

This revolution is now extending to an unlikely area of the financial markets: corporate bonds.

Over the past 12 months, six of the largest corporate bond dealers have begun streaming live, executable prices directly to a small number of their top clients, in a development that threatens to upend the traditional methods of trading, via phone and screen.

“In time this could be a seismic shift, but it is just starting,” says Sonali Das Theisen, head of fixed income market structure at Bank of America. “The whole market is not moving in this direction yet, but we’re at the precipice of change to create more efficiency.”

Bank of America began streaming corporate bond prices to buy-side clients in the fourth quarter of 2019. Barclays and Goldman Sachs are also understood to be offering direct liquidity streams of corporate bonds to select clients.

Among investment managers, AllianceBernstein already receives quotes for investment grade and municipal bonds direct from JP Morgan and is looking to add streams from a further five dealers, including Citi and Morgan Stanley, in the first half of the year.

Direct streaming as a concept is not new. Dealers began embracing the technology some years ago for US Treasuries as a response to platform fees on trading venues, and it has long been common practice in foreign exchange.

The driver for streaming corporate bond prices is similar. Under pressure to cut costs amid the shift to passive investing, buy-side firms are seeking to optimise execution by automating trades. A direct pipeline between dealer and investment firm also enables users to bypass trading venues such as MarketAxess and Tradeweb, saving on platform fees. And because the streams are customised, bond prices can be tighter than those available on-venue.

“If we have the ability to route our enquiry out, aggregate the liquidity back, pick the best price, then that’s a home run for us,” says Jim Switzer, global head of fixed income trading at AllianceBernstein. “Our goal is to always be in a position to see the deepest liquidity pools and secure tier-one pricing from our trading partners.”

Investors are attracted to the idea of direct streaming because they can control the amount of information they give away prior to a trade. Request-for-quote (RFQ), by definition, tips off dealers as to the type and volume of trades an investment firm intends to conduct.

If we have the ability to route our enquiry out, aggregate the liquidity back, pick the best price, then that’s a home run for us
Jim Switzer, AllianceBernstein

“BlackRock and Pimco don’t want to talk to the banks,” says the head of credit execution at a bank. “They want your price and, if they can get a stream of pricing without telling some banks what they want to do, then that’s what they want.”

Widespread streaming of corporate bonds is one step towards transforming the market into something more akin to equities, where trading is electronic and algorithmic, execution is fully automated, and costly human intervention is minimised.

But this world is a long way off, and banks are tight-lipped about their plans. Dealers declined to reveal the number or types of bonds for which they offer streamed prices. Risk.net understands streamed prices are available for some US investment grade and high yield corporate bonds as well as municipal bonds issued by local government agencies.

It is also unclear how many asset managers are receiving direct streams for corporate bonds. One banker says only “a small handful” of clients have access to them currently.

This is partly because the vast majority of buy-side firms do not have execution management systems (EMSs) that can handle direct streams. AllianceBernstein built its own EMS to consume price streams from dealers.

Jumping the RFQ

Direct streaming is a big change for a market that has largely resisted automation and electronification. The majority of corporate bond trades – 65.6%, according to consultancy Greenwich Associates – are still done over the phone. The rest largely happens under the RFQ protocol, which allows buy-side clients to put dealers in competition with one another via trading platforms.

RFQ and phone-based trading are essentially the same model: an asset manager invites one or more dealers to price their orders, before choosing the best and executing the trade.

After the financial crisis, cracks began to appear in that model as dealers slashed inventory and buy-side bondholdings grew. Primary dealer investment grade and high yield bond net positions now sit at roughly $11 billion from a height of more than $250 billion pre-crisis, according to Federal Reserve Bank of New York data. This dearth of liquidity has spurred the bond market to explore other trading methods, such as exchange-traded funds for fixed income, dark pools, all-to-all trading, and portfolio trading.

Crucially, direct streaming is not just about improving liquidity. It is an efficiency play for asset managers caught in the pincers of rising costs and falling revenues. Regulations such as Mifid II and the need to invest in new technologies are a drain on buy-side resources, while the popularity of passive fund management is hitting fee revenues.

According to Moody’s, expense ratios for a host of different investment types are down across the board since 2013 – by as much as 40% in the case of passive fixed income.

“There is an increasing focus on electronification, in part because buy-side firms are under pressure from a fee perspective,” says Alexander Sedgwick, former e-trading head at T.Rowe Price, who last year set up an advisory firm, Fincisive Strategies. “So if you’re at an active manager, you’re trying to catch up with the fees being charged on passive products, and as a passive manager it seems like it’s a race to zero.”

If you’re executing against a streaming price, you don’t necessarily have to have a person sitting in front of a machine pushing buttons. You can auto-execute against those prices instead
Alexander Sedgwick, Fincisive Strategies

This has led to an era of cost cutting among the asset management community. Saving money is now the main motivation for some investors when assessing new trading protocols.

“When we evaluate different platforms and different execution methods, the driver for us is first and foremost operational efficiency along with the cost savings,” says Josh Barrickman, a senior portfolio manager and the head of bond indexing in Vanguard’s fixed income group.

Barrickman, who runs the largest fixed income fund in the world – Vanguard Total Bond Market – with assets under management of $247 billion, says he is aware of the move towards direct streaming. He adds that Vanguard continuously evaluates “new sources of data and liquidity”.

He did not confirm whether Vanguard is receiving streaming liquidity for corporate bonds.

James-Switzer
Jim Switzer, AllianceBernstein

For many financial firms, the surest route to operational efficiency is automation. By receiving streamed quotes from counterparties directly, an asset manager can effectively construct its own order book for bonds it wants to buy and sell, and auto-execute against that.

“If you’re executing against a streaming price, you don’t necessarily have to have a person sitting in front of a machine pushing buttons. You can auto-execute against those prices instead,” says Sedgwick.

Furthermore, by consolidating streams in-house at an asset manager and executing off an EMS rather than a third-party trading platform, firms can limit fees paid to execution venues – which is a consideration for clients.

“Some clients want this because they’re tired of paying variable transaction fees to trading platforms,” says a managing director in the fixed income division at a bank. “So reducing transaction costs is the most tactical reason for getting direct streams. Other clients believe they will see price improvement versus what is on those third-party, multi-dealer platforms via RFQ.”

Platform proposition

Trading platforms also have protocols akin to direct streaming. MarketAxess has its Public Axes protocol within its Open Trading business, which allows both buy- and sell-side firms to stream prices anonymously to a select group of firms. Bloomberg has had a dealer-to-client streaming service via its platform for a number of years.

Last May, MarketAxess also launched Live Markets, which allows dealers to stream prices of $5 million or under to populate an order book. Tradeweb has a similar service that it expanded to institutional clients in March. These prices, however, are not customised for each individual client in the way that direct, bilaterally streamed prices are.

“We could see that dealers had automated pricing for RFQs, so why not put a model together where banks continuously stream?” says Chris Concannon, president and chief operating officer at MarketAxess, speaking about the Live Markets launch.

In November, Citi announced a partnership with trading platform Trumid which allows the bank to stream live markets to clients via the execution venue.

chris-concannon-2
Chris Concannon: "Why not put a model together where banks continuously stream?"

Bond tech firm Algomi has also developed a way for banks to stream executable prices, which it hopes to make available for users of its Alfa service later this quarter, says Scott Eaton, the firm’s chief executive. Alfa currently collects trade information from multiple platforms and offers it through a single portal.

“We are now live with one dealer and we are working to go live with a handful of dealers,” says Eaton.

Some say third-party platforms will still serve an important function in providing price streams to the majority of market participants – for example, investors that don’t offer the volume of business or have the technology budget to get a personalised stream of prices from dealers. The global head of credit trading at a bank is “ambivalent” about whether his firm sends prices directly to clients or via an execution venue.

BofA’s Das Theisen believes platforms will continue to be important.

“The conversation is not about replacing venues with these direct connections,” she says. “Venues serve a very important purpose to create a street corner of liquidity, and if you don't know exactly where to go to buy or sell a bond, then going to a venue makes a lot of sense.”

While some asset managers are keen to move forward with streaming, others are more cautious given their experiences to date. Oberto Alvarez, a senior trader in investment grade credit at Western Asset Management, says dealers are not always quick to update live prices and sometimes notifications of stale quotes are received after clicking on a price.

“I definitely do not see it replacing the traditional RFQ protocol, at least for Western Asset,” he says.

The conversation is not about replacing venues with these direct connections… Venues serve a very important purpose to create a street corner of liquidity
Sonali Das Theisen, Bank of America

Western Asset Management has access to streaming liquidity via Trumid but Alvarez says this accounts for a very small percentage of the firm’s volume.

Tradeweb reported for January that, of total investment grade credit traded on its platform, 43% of average daily volume was executed “fully electronic” – an increase of 79% year-on-year. However, direct streaming does not make up the largest area of its activity, with traditional RFQ and the new functionality of portfolio trading accounting for more, the firm says.

This could be in part down to the number of individual bonds that can be directly streamed in the corporate bond market. Dealers are wary of putting an exact figure on how many bonds can be streamed for now, but unlike more liquid fixed income markets like on-the-run Treasuries, bond liquidity is more fragmented, with some individual names not trading for months at a time.

“If you’re trying to stream 10,000 corporate bonds but you don’t know if you’re going to get a single trade in any one of those, that’s a lot of investment to keep up a fresh price that actually works at the time a client wants to trade,” says Chris Bruner, head of US credit at Tradeweb.

According to Tradeweb, just 70 investment grade and 20 high yield bonds account for around 20% of daily secondary market activity.

The value of ones and zeros

Regardless of concerns over liquidity in certain areas of the bond market, streamed prices offer an opportunity for buy-side firms to capture valuable data, say participants. Data can give investors insight into pricing trends, which in turn can help improve execution.

“By receiving live markets, you get a lot of additional information, such as true depth in the market at a point in time, the executable bid/offer, transaction costs, and does liquidity vary over the course of the day,” says the global head of credit trading.

Here, direct streaming has an edge over streaming via platforms, because users may not always be able to capture and store price information displayed on venues. Firms have reported difficulties in harvesting post-trade information from some platforms and data providers under European transparency rules.

For banks, too, there are advantages in streaming prices direct to clients rather than routing liquidity via a third-party platform. One electronic trading expert at a bank says his firm is chiefly concerned by data compromise and believes that is the reason why clients are open to looking at alternative trading arrangements.

“The risk of data leakage, where a client’s or dealer’s information is shared broadly with their competitors in real time, is eye-opening to a lot of the buy side. With that sensitivity, and its impact on profit and loss, comes an increased sense of urgency to find a more secure trading channel, which is often a direct connection,” the expert says.

Risk 0220 Ben Hasler nb illustration
Ben Hasler, www.nbillustration.co.uk

The shift to electronic trading for fixed income products has led to a big increase in available data. But some buy-side firms have struggled to develop their internal technology to keep pace with changes in the market. As a result, tech vendors are pitching new execution software to consolidate the avalanche of platforms, trading protocols and data coming clients’ way.

“The number of venues that you need to connect to has gone up dramatically and you need to connect to all of them,” says Paul Reynolds, head of fixed income at TradingScreen, whose service connects to 15 platforms in fixed income. “In turn, the amount of incoming data has also gone up even more. So you need to have an infrastructure that not only connects to all of the venues but can consume, store, match, and retrieve industrial quantities of data.”

All investors use order management systems which are capable of connecting to different trading venues and data sources, staging orders, and enabling straight-through processing to improve efficiency. But these systems are unable to determine the best price to trade at, and to auto-execute those trades. For this job, asset managers need EMSs, say tech vendors.

Fixed income EMSs do exist. Vendors, including Bloomberg, Charles River, FlexTrade, Portware and TradingScreen, offer them and some are widely used by asset managers. However, experts say many of these systems cannot route orders to multiple venues, which limits their usefulness.

Some asset managers are busy creating their own tech instead. AllianceBernstein has done just that, building an EMS for investment grade and municipal bonds. It plans to roll out the system for the rest of its fixed income franchise in the first half of 2020. Tim Morbelli, a senior credit trader at AllianceBernstein, believes developing the firm’s own EMS – rather than buying one off the shelf – was the right call.

We, as a firm, are looking at an EMS that would allow us to connect directly to different dealers and to execute on direct streams or live streaming markets
Oberto Alvarez, Western Asset Management

“There are EMSs out there but they come from the equities ecosystem and they don’t have the ability to release orders to multiple venues, so they’re not perfect,” he says.

In the past this would have been too expensive a project for asset managers to consider. It may still take months to build, but Morbelli says the cost is a fraction of what it was five years ago.

Vanguard, too, is weighing its options about how to deploy an EMS.

“We’re thinking a lot about it,” says Barrickman. “There’s not really any off the shelf or dominant provider in that space right now, but it’s definitely the next step in the evolution.”

Alvarez at Western Asset is also exploring the possibility: “We, as a firm, are looking at an EMS that would allow us to connect directly to different dealers and to execute on direct streams or live streaming markets.”

Paul-Reynolds
Paul Reynolds, TradingScreen

“It’s the beginning of the revolution,” says TradingScreen’s Reynolds. The firm developed a fixed income EMS five years ago without much success. But that all changed last year. “In 2018, we were knocking on people’s doors, trying to get them interested. In 2019, it flipped around the other way. I don’t think I made a single outgoing call. They were all incoming.”

Algomi and Charles River confirm they have initiatives in the works that would enable live prices to be streamed direct to their buy-side EMSs.

For now, market participants agree the ability to send and receive direct streams is limited to just a handful of participants. But as direct streaming progresses, it opens up a number of opportunities for banks with their clients, says BofA’s Das Theisen.

“There are many directions that would be mutually beneficial to the industry. Once the base case of single bond execution is achieved, a logical extension would be the exchange of lists, factors, or other customised content which might be useful for portfolio construction,” she says.

Streaming may also expand into further areas of fixed income. On-the-run Treasuries have had this capability for a number of years now on various platforms, and Bloomberg is understood to be the latest provider coming into the field, but that shift has now moved to off-the-runs, too. Tradeweb and fellow bond platform OpenDoor Securities are understood to be considering a move to direct streaming for these Treasuries. LiquidityEdge, now owned by MarketAxess, has had streams for certain liquid off-the-run Treasuries since 2017.

These platforms have their limitations, however. Switzer at AllianceBernstein says the market needs a utility beyond a traditional trading platform to help manage all the connections that banks may want to set up with their top clients, which could range in the hundreds.

“Think of it like a US interstate highway,” he says. “If there was a utility out there that would serve as the connections from the sell side to the buy side and back, so people could just jump on to those pipes, that would be better than dealers having to maintain hundreds of different connections.”

Editing by Kris Devasabai and Alex Krohn

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