Fixed income trading

Last year I wrote about the radical transformation into a ‘no-touch world’ of equities trading, where more market participants are switching to electronic and automated trading. Stocks are well-suited to these faster, cheaper and more efficient systems, due to the relatively limited number of equity securities in existence and the structure of the equity market.

Bonds, on the other hand, are less obvious candidates for automated trading, mostly on account of the sheer number of debt securities in issuance around the world. Nevertheless, exciting progress has been achieved in fixed income automation.

In the absence of a central limit order book, large sell-side institutions have been using technology to enhance the trading process. Effectively, these firms are now using algorithms to make prices in seconds (‘auto-quoting’), delivering a more seamless trading experience for asset managers. At LGIM, we are working with several third-party electronic trading platforms to capitalise on this progress. Our trading team can look at all the orders raised by portfolio managers and make routing decisions based on certain parameters. If a given order is deemed to be ‘low touch’, then the trader can route that order with one click to auto-execute via one of these electronic platforms.

The value of automation to an asset manager and its clients will depend to some extent on the firm’s mix of business. At LGIM, we buy and sell securities on behalf of both index and active investors. This means automation can play a big part in our journey towards building a scalable fixed income trading process.

We have identified three key benefits of automated trading:

• Speed to market – automation can reduce the time lag between a decision by portfolio managers and the execution of a trade. Reducing this lag means we can trade more dynamically.
• Counterparty selection – this is vital in a predominantly ‘request for quote’ market. Counterparty selection built on incomplete data can lead to poor outcomes. But when it is data-driven, automated and based upon a clear set of parameters, we believe it can lead to better outcomes. It enables our trading team to use the vast amount of data we generate on a daily basis for the benefit of our clients.
• Efficiency gains – finally but equally importantly, automation enables traders to focus on higher-value orders that may need more input from a member of the team. Our fixed income business is vast, encompassing notional turnover each year of more than £250 billion and over 100,000 tickets. Through automation, we can help keep our fixed costs down.

Source: LGIM, as at end of Q3 2019

For now, automation is only relevant for a sub-set of our activity within fixed income, typically low-value or low-risk trades across both rates and credit markets. But the direction of travel is clear – and so are the benefits. The future is bright.