Solve Advisors received investment from Credit Suisse Asset Management’s NEXT investors, who target minority growth opportunities in private technology and financial services companies globally. Credit Suisse Asset Management NEXT investors will appoint two members to the company’s board of directors. The level of investment made in Solve Advisors was not disclosed.

Founded in 2011, Solve Advisors’ platform addresses data fragmentation and the lack of transparency in bond trading, through large data sets of real-time bids and offers in securitised products, corporate bonds, syndicated bank loads, credit default swaps and municipal bonds.

“As fixed income markets become more electronic over time, Solve Advisors offers a trailblazing solution to help bring greater price transparency to the market, benefiting market participants. We are pleased to bring our deep market structure expertise to help support the company as it continues to grow,” said Greg Grimaldi, co-head and portfolio manager of Credit Suisse Asset Management’s NEXT investors.

Solve Advisors’ flagship platform,SolveQuotes, uses machine learning and natural language processing technologies to aggregate and visualise data points from clients’ unstructured messages. Solve Advisors said that the resulting data provides buy-side, sell-side and accounting firms with price discovery and new trade ideas.

“SolveQuotes data aggregation provides a tangible competitive advantage to our clients who are able to monetise transparency in addition to improving operational efficiency,” added Eugene Grinberg, co-founder and chief executive at Solve Advisors.

“Recent demand for price transparency has been bolstered by proliferation of algorithmic trading, fixed income ETFs, best execution and TCA initiatives. We are excited to partner with Credit Suisse Asset Management’s NEXT Investors team to continue innovating our products and driving the growth of our team and client base.”

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The research, conducted by Brown Brothers Harriman (BBH), showed that a greater number of Mainland China investors have warmed to investing in ETFS. Over 60% of respondents in Mainland China have at least a quarter of their total assets under management (AuM) in ETFs, and 77% plan to increase their ETF allocations.

In the context of the global exchange traded fund (ETF) market, Greater China represents a small proportion, accounting for only 2.1% of the $5.1 trillion industry. However, international investors are beginning to pay attention to the region – comprising of Mainland China, Hong Kong and Taiwan – which promises rapid growth even though adoption of ETFs is still significantly behind the rest of the world.

“These findings highlight the unique investor preferences and differing stages of ETF use across Greater China. ETFs are becoming an increasingly important component of institutional investors’ portfolios across the region,” says Chris Pigott, senior vice president, BBH Hong Kong.

“Looking forward, regulatory development and enhanced ETF market infrastructure are areas of focus that will provide the foundation to support the expected growth.”

The catalyst

Behind this push is the MSCI’s inclusion of China A-shares at the beginning of last year, followed by the Bloomberg Barclays inclusion of Mainland bonds to its benchmark index in April.

In March, MSCI announced it would quadruple the weighting of A shares on its Emerging Markets index from 5% to 20%, which is expected to attract international fund flows of $80 billion.

As a result of these developments, 70% of European and US respondents of the BBH survey plan to invest in the China capital markets this year via ETFs or through the Mainland-Hong Kong Connect programmes.

Of these respondents, half said they would invest in an ETF, while others stated they will buy stocks or bonds via the Connect or the two qualified foreign institutional investors (QFII) programmes.

As well as these capital markets developments, ongoing education efforts around the structural benefits of ETFs are resonating with investors in the region. Mutual funds in the region have increased their awareness of smart-beta ETFs, as nearly all of them within the survey said they have at least one smart beat ETF in their portfolio, and 38% purchased a smart beta ETF to replace an actively-managed mutual fund.

The report outlined how regulatory developments will continue to be the catalyst for further investor adoption of ETFs. “In Mainland China, the regulatory landscape is evolving with a clear focus on deleveraging and strengthening the asset management industry. The development of the third-pillar pension scheme is a key factor to watch, as ETFs and other passive products may become important building blocks for target date funds,” the report stated.

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Typically used for trading in more illiquid markets, such as fixed income, exchange-traded funds (ETFs) or derivatives, RFQ allows traders to ‘request a quote’ from counterparties based on the security and quantity. However, various senior figures on the buy-side have expressed their scepticism of deploying RFQ in the equities world, questioning the logic behind launching such a tool in a liquid market. Despite this, two major trading venues confirmed plans to launch RFQ functionality for equities trading six months into the MiFID II lifespan, with plans to go-live by the end of 2018.

As one of the early pioneers of the electronic RFQ protocol in fixed income, derivatives and ETFs it’s perhaps little surprise that Plato Partnership knocked on Tradeweb’s door with the idea of building an RFQ platform for cash equities, known as eBlock, which aims to provide buy-side traders with the ability to source and view in aggregate broker principal risk and execute orders on a regulated venue via Tradeweb’s multilateral trading facility (MTF) using RFQ.

The London Stock Exchange Group (LSEG) is the latest to launch an RFQ system for equities, following in the footsteps of Tradeweb, and agency broker Instinet which was first off-the-mark in January. The exchange operator said that it had taken the traditional and manual RFQ functionality it has for ETF trading and upgraded it for equities to provide a more automated solution. The tool looks to provide traders with a fully automated, on-exchange and centrally-cleared RFQ service, removing the need for various bilateral relationships, and alleviating the technological costs and burdens often associated with sell-side access.

Tradeweb and LSEG are both in the early days of the launch of their respective RFQ systems for cash equities, and both systems are similar in terms of what they offer, although there are several key differentiators between the two. For example, LSEG’s RFQ functionality offers automated execution, central clearing and the opportunity to request quotes anonymously if the trader wishes to do so. On the other hand, Tradeweb and Plato Partnership’s tool functions with no anonymity and full disclosure of the counterparties involved in the transaction, but with the ability to hide if they are looking to buy or sell from the RFQ. Such differences are key to the concerns outlined by the asset managers on RFQ for equities.

Last chance saloon

With the context of market structure changes caused by MiFID II, the logic behind launching RFQ for equities trading comes into focus. MiFID II encourages risk trading and on-exchange activity, having banned broker crossing networks (BCNs) and placed restrictions on dark pool trading via the double volume caps (DVCs), which trigger bans on certain types of trading when a transaction accounts for 4% of the total activity on a single dark venue, or 8% of total trading market-wide. Under the regulation, RFQ is listed as one of five pre-trade transparent trading methods, meaning it is exempt from the DVCs and it is considered to be lit trading activity.

Regardless of this, genuine demand for the product on the buy-side has been difficult to find. Senior heads of desks and traders have instead expressed their bewilderment about why a trader would willingly and voluntarily send out signals to a market usually considered to be liquid and risk creating a lot of unnecessary noise. Many buy-siders didn’t foresee the rise of RFQ in equities and remain uncertain about where the execution protocol will sit in a market which is still adapting to MiFID II and the introduction of new block trading venues, periodic auction systems and SIs.

“RFQ for equities is just a potential alternative way of accessing different sources of liquidity, and a lot of buy-siders are sceptical about the idea,” says Dan Nicholls, head of trading at Hermes Investment Management. “Since MiFID II has tried to limit access to traditional liquidity sources with the DVCs to drive liquidity to lit venues, the sell-side is forced to develop alternative routes to match the best price. To misquote Jurassic Park: ‘Liquidity finds a way’. The RFQ works well for fixed income and ETF trading, but these are very different instruments to equities.”

Nicholls adds that the RFQ is often perceived on the buy-side to be the ‘last chance saloon’ when sourcing liquidity, explaining that information leakage tops the list of concerns around RFQ for equities, and remains curious as to why a trader would RFQ a sell order in a rising market and, conversely, a buy order in a falling market.

“The signal to the market is that the order is in the same direction as the market move and that you can’t find any natural liquidity, which is powerful information,” he says. “I would be happy to use RFQ for equities to finish an order on risk, because the liability for the unwind then lies with the risk provider. However, I would not use RFQ at the start of a multi-day order, as there is no way of knowing the origin of the price. If it is natural or an unwind, then great, but otherwise the order starts to compete with the unwinding of the risk price.”

For Neil Joseph, head of equity trading at JP Morgan Asset Management, and Ed Wicks, global head of trading at Legal & General Investment Management (LGIM), the RFQ for equities trading is a compelling trend. But similar to Hermes’ Nicholls, overarching concerns with information leakage means that it is unlikely the system will be widely used across their respective equities trading desks.

Joseph adds that the reasons behind the development of each RFQ for equities platform are unique, but scenarios where the RFQ would be used tangibly, and as the platform providers hope, are in some ways restricted: “There are conceptually some valid use-cases for RFQ in equities, although these are currently limited,” he says. “For our specific order flow, it will likely be utilised for a lower proportion of orders than RFQ for ETFs and in a different manner.”

LGIM’s Wicks recognises that RFQ for equities has its relevance for some market participants, but for smaller players that don’t have the ability to transfer risk as seamlessly as Legal & General, alongside integrated actionable indications of interest (IOIs) and direct-to-capital type arrangements with brokers, could experience problems.

“The equity RFQ model as it stands is an interesting concept and it will have relevance for some people,” says Wicks. “If I am very honest, it is not number one on my to-do list, I don’t see the relevance for our book of business currently. There are other ways to transact your business that result in potentially less information leakage. I can see that procedurally you may be able to tick some boxes from a best execution perspective, but you have to be cognisant that you are surrendering information when you are going out on an RFQ.

“As long as you are aware of the risks and you mitigate them to the best of your ability, then it can have relevance for certain asset managers, and maybe it will for us in the future, but as the model stands, I don’t think it is something we are going to be driving particularly aggressively.”

Information leakage

Among the buy-side, information leakage is considered to be more of an issue with the Tradeweb-Plato Partnership RFQ model, as eBlock is fully disclosed, meaning that both counterparties are identifiable throughout the process. In contrast, the LSEG RFQ platform provides the user with the option to trade anonymously.

Adriano Pace, managing director for equity derivatives at Tradeweb, and Richard Bateson, product manager for equities, who was hired by Tradeweb from Macquarie in May 2018 to lead the RFQ for equities project, argue that the tool should be used cautiously and with information leakage in mind. Pace stresses that eBlock is not an uncontrolled RFQ, but it was designed to provide the buy-side trader with authority on the negotiation and control of information, particularly when it comes to interaction with market makers, or liquidity providers (LPs).

“The buy-side user has full control over who they go to and the type of IOIs they interact with – all of that is at their complete discretion,” Pace adds. “So the control is completely with the buy-side, and in fact, they can decide which type of orders they want to send to RFQ – knowing the name, and size of the trade, the LPs they want to interact with, which should give them a lot of comfort in that regard.

“When the buy-side trades on the lit exchange they don’t know who they are trading with, maybe an ELP or through an ELP with an SI. At least with our protocol if they want to trade with an ELP, they do so with their eyes wide open and that’s under their control. For them, that is potentially a better option than trading anonymously with a smart order router with an ELP and getting picked off.”

Discussing the LSEG’s RFQ for equities model and the topic of concerns over information leakage, Scott Bradley, who currently heads up sales and marketing for LSE cash markets and Turquoise, explains that there are certain situations where a trader would not necessarily want to RFQ anonymously, but providing users with the option to request on a named and unnamed basis is key to ensuring the buy-side is truly in control – which is particularly important for interactions with market makers.

“If you choose to be named you are making that informed decision that you wish for activity to be highlighted to a selected number of LPs because you have chosen to be named,” Bradley says. “But that’s where the power of bilateral relationships come into play because you will choose to go named when you have a good relationship with that market maker. So the requester in both cases, named and unnamed, is really taking control over that information sharing. So the expected order size, the fact you can control who you request a quote from, and whether you decide to be named or unnamed are all facilities that enable the requester to take full control of the information.”

Value questions

For the buy-side, information leakage seems to be at the top of the list of concerns with using an RFQ system in equities, but it isn’t the only apprehension. Fabien Oreve, global head of trading at Candriam Investors Group, highlights that with actionable IOIs now firmly placed in the market, it’s difficult to see where RFQ will add value to equities trading.

IOIs have suffered a bad reputation in the past, in terms of defining which indications were representing true liquidity, but were reformed a few years ago following the introduction of an industry Code of Conduct which was put together by the Investment Association and the Association for Financial Markets in Europe (AFME).

“We do not see any interest in using electronic RFQs for cash equity, because we currently have easy access to IOIs from our brokers who advertise reliable, tradable sizes and prices,” Oreve says. “IOIs have gained much in quality since the European industry agreed on an IOI reform and a new code of conduct some years ago. The IOI reform introduced a classification model which has improved transparency and helped investors like us find liquidity. This model is helpful, as it makes a clear difference between IOIs that reflect natural liquidity and those that reflect non-natural, principal liquidity.”

Oreve adds that by using IOIs, decent size orders can be filled in their entirety with predictable market impact: “From my point of view, the RFQ protocol in cash equity does not add value to the current IOI model in place. RFQ is best suited to fixed-income where many instruments do not trade very frequently.

“Electronic RFQ has also become popular in some derivatives like options and in the ETF space where the role of market-makers is predominant. RFQs help evidence best execution but, if they are overused, they can make a lot of noise and risk moving the market. Investors need to be very careful how they use them.”

In terms of where the IOIs fit in this particular space it’s important to note that the LSEG RFQ for equities model does not interact with IOIs, but the eBlock model allows risk providers to stream actionable IOIs into the system. In response to the notion that RFQ is redundant with IOIs firmly placed in the market, Tradeweb’s Pace highlights that not all asset managers have the technological power to manage such streams of information, but the eBlock platform opens up that avenue for those buy-side firms that are perhaps struggling to consume IOIs.

“The reality is the wider part of the buy-side community doesn’t have that easy access to IOIs or don’t find them particularly helpful,” he says. “It’s not every buy-side that has the luxury of having access to the tier one bank quotes, and the ELPs might not be within that construct. With eBlock, we are essentially widening out and getting a much broader universe with the ability to interact with the actionable IOIs.”

Central clearing

Alongside questions around information leakage and the importance of IOIs, there is also concern among the buy-side when it comes to central clearing. The LSEG’s RFQ for equities tool provides automatic central clearing upon completion of a trade, similar to trading in the exchange’s central limit order book. Centrally cleared RFQ in equities means that the buy-side do not need to be papered with the market makers or risk providers on the platform. This benefits both counterparties by freeing up balance sheet and providing liquidity without necessarily entering into multiple bilateral relationships.

In contrast to this, the Tradeweb-Plato Partnership RFQ model does not provide central clearing for users, so the buy-side has to settle trades directly against the counterparty, and in some cases, that will be with an ELP. Neil Bond, head of trading and partner at Ardervora, says he finds it “a little odd” that the industry is excited about the rise of RFQ in equities as the buy-side weren’t necessarily “screaming out for it”. Noting its validity in less liquid markets, he adds that he is unsure how the trend will play out in the future, but eBlock’s lack of central clearing could prove to be problematic for Tradeweb and Plato.

“Without central clearing you have to clear against the counterparty, but there are very few buy-side’s that have direct relationships with the ELPs,” Bond explains. “I think the RFQ venues are expecting the buy-side to onboard with those ELPs directly and settle against them, but I don’t think that will happen in a significant way. When connecting directly to an ELP, what happens is you have someone firing in thousands of bids and offers a second, so you must have the infrastructure to handle that type of information flow. The buy-side simply doesn’t have that and that’s why I don’t think you’ll have users going direct. But that could all change.”

Tradeweb’s Pace counters that on the risk side, when clients trade bilaterally either through direct capital or an actionable IOI with a broker, they effectively net down against that broker at the end of the day, unless it’s on-exchange. He adds that this will be no different with the RFQ for equities protocol. Looking back on the success of Tradeweb’s RFQ functionality for other asset classes, Pace is confident that as the universe of dealers on the equities platform expands, so will the buy-side’s comfort in interacting with them. 

“You have to offset the fact that it’s bilateral, so you settle directly with the view that in being bilateral and disclosed, we believe it gives clients more pricing power by not being anonymous,” Pace explains. “I get that being anonymous and centrally cleared RFQ might save 10% in terms of compression, but we believe that being disclosed far more outweighs the pricing power clients get compared to participating as an anonymous counterparty.”

Conditional trading

Regardless of the distinctions between the systems, advantageous or not, it appears as though the RFQ for equities model has been developed and established without any serious demand from the market. But the LSEG, Tradeweb and Plato Partnership are not the pioneers of this particular trend. Agency broker Instinet quietly developed the function at the same time MiFID II came into force across Europe, with the firm highlighting that the demand for the product came from its own business.

Ben Stephens, head of business development for Instinet Europe, explains that the RFQ for equities has been central to Instinet’s MiFID II strategy and it solved the problems the regulation presented through restrictions in over the counter (OTC) trading. He says Instinet required a venue that would allow it to trade in a regulated fashion by moving the matching on-venue whilst at the same time aggregating and recombining the liquidity out there to help clients navigate the new landscape.

“Instinet operates a trading venue and we are a broker,” Stephens says. “We felt we had to build the best venue out there to solve the problems we were facing as a broker as a result of MiFID II. There was no way we could have preferenced our dark pool over another, unless there was something special about it. This is the same for our RFQ venue – if we can’t get a better performance out of the RFQ venue then we can’t really use it.

“For our own broker to use our own venue we have a much higher bar to cross, hence we did a lot of thinking around how we could solve our own problem as we couldn’t see a solution in the market. If you’re a bank or you trade as principal, then you have SI options that can solve a lot of problems, but we don’t and MiFID II prevented us from trading OTC and doing client crosses on the desk, therefore RFQ is very much central to our MiFID II strategy.”

Instinet’s BlockMatch RFQ is fully automated, centrally cleared and allows participants to stream IOIs straight into the system. Regulatory changes in Europe and Instinet’s position in the market meant that it prioritised conditional trading opportunities and the RFQ was key to this. Stephens adds that order size is another important specification here, with both LSEG and Tradeweb targeting larger-sized orders with their respective RFQ models. Tradeweb has said that its RFQ is aimed at orders in the value spectrum of around $500,000 to $3,000,000, whereas LSEG has said the RFQ is for trades from a minimum of 25% of LIS or £50,000, the larger of the two.

Instinet’s BlockMatch RFQ, on the other hand, accepts trades at any size, which Stephens adds is significant for the conditional trading opportunities the broker wanted to centralise for its clients. “We have gone the whole way and said we can do RFQ trades at any size, and that’s a key differentiator between our RFQ venue and others,” Stephens explains. “What happens is, if the quote is able to be seen on the platform then it has to be public. This is in contrast to other models where quotes are all above LIS and nothing is made public, then after a certain amount of time, there’s an auto-execution. This is significant because it means that someone has to commit ahead of time to trade, whereas ours is inherently conditional.”

Ardevora’s Bond echoes Stephen’s sentiment on targeted trade size and says that the RFQ has worked successfully in the retail industry for a long time, but has failed to translate into the institutional world because those investors require larger sizes. However, the RFQ for equities models targeting large sized trades in equities, as both LSEG and Tradeweb have, could face another barrier to adoption from the buy-side.

“The two new services are looking at doing larger size, and that works well for fixed income and ETFs when you’ve got the broad-based underlying securities or large balance sheets behind it, but with individual equities, I’m not sure there will be the appetite from market makers to provide large in scale quotes inside at the touch or better for single equities.”

Since going live with BlockMatch RFQ at the beginning of the year, Salvador Rodriguez, Instinet’s head of electronic trading for Europe, the Middle East and Africa (EMEA), claims that of all the asset managers currently onboarded and using BlockMatch RFQ, Instinet is yet to see a buy-side firm opt out of the service.

“We have effectively reengineered a new process that allows all of our other systems, including our algo trading, our EMS blotter scraping technology, smart order router and FIX connectivity, to access conditional opportunities,” Rodriguez adds. “The power of conditional trading in a MiFID II world has been something we have focused on and that’s why the RFQ matters. Ultimately, we’ll have one router if you like, and if you show interest we will find you the other side. From a client-facing perspective, it’s about how do we solve the liquidity conundrum and increased fragmentation that we’re seeing.”

Work ahead

Listening to buy-side sentiments on the idea, RFQ in equities may have quite a way to go before it achieves market-wide adoption. eBlock, with no central clearing, no automation and no anonymity has a seemingly more difficult journey, but with Plato Partnership behind it, the importance of industry relationships may play a key role in getting the new platform off the ground.

 LSEG’s RFQ for equities service doesn’t necessarily come up against the same concerns in terms of system specifications as Tradeweb and Plato, but the question remains as to whether the industry really needs the protocol. Finally, Instinet has come up with a rather innovative solution to the problems it found when preparing for MiFID II. Regardless of industry adoption, the agency broker has used RFQ to solve those problems in order to carry on serving clients in much the same way as it did before MiFID II came into force.

One scenario, laid out by Ardevora’s Bond, could see wide-spread adoption of RFQ in equities trading. As MiFID II ushered in the age of periodic auction systems, systematic internalisers and block trading venues, regulatory review and consequential reform in the near future could prove to be a game changer for Tradeweb, Plato Partnership and the LSEG. But those lingering concerns laid bare by the buy-side will have to be addressed if those venues want to stay in the game.

“MiFID II closed down broker crossing networks, which the buy- and sell-side found very useful, and some of that business has moved into periodic auction systems,” Bond says. “Those systems are now under scrutiny, and if action is taken, I think that flow could move towards the RFQ model.

“The big winners will probably be those that offer automated trading with central clearing rather than the large negotiated RFQ venues. Large negotiated RFQs that don’t have central clearing and are not automated won’t be able to pick up that flow which may move from periodic auctions in the near future.”

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Developed using reference data sourced from ETF composition data provider Ultumus, the upgraded system aims to give users a navigation tool for the fragmented ETF market through key metrics for market share and quality.

The Liquidity Cockpit platform will now cover 7,500 ETF listings across Europe, with liquidity comparisons across issuers, benchmarks and venues, time-weighted spreads, and additional data aggregations based on global daily ETF data from Ultumus.

The solution aims to provide greater transparency into the European cross-border ETF market, where fragmentation occurs due to widely varied spreads, through consolidated reporting of bid/offer spreads and volumes.

“This enhancement to our Liquidity Cockpit suite of solutions to include ETFs follows our recent addition of a Double Volume Cap (DVC) dashboard and demonstrates the ability of our team to innovate to meet the needs of our clients,” said Mark Montgomery, business strategist at big xyt.

Big xyt added data on DVCs under MiFID II in mid-September, allowing users to examine the changes at each of the seven review dates, review patterns of liquidity shifts for suspended and for lifted stocks, and analyse the impact by trade categories including dark or periodic auctions.

All our product enhancements are as a result of extensive discussions with clients and potential users about their requirements and we take great pride in providing solutions to their challenges,” commented Robin Mess, chief executive of big xyt.

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The average passively managed dollar, according to Morningstar, still outperforms its active rival. Nicholas Edwards, chief executive of Alternative Asset Management in London, is convinced that the future is passive.

Edwards argues that about 70% of all market activity now relies on algorithms, and says that this is impossible to compete with unless traders are at their desks 24/7 and have the ability to make decisions within milliseconds. Omnipresent algorithms, he asserts, will continue to reduce the scope for market arbitrage. “Automation drives pricing,” he says. “If people can move quickly, they will.”

Active investors, in Edwards’ view, are doomed to a shrinking minority in the future: “Most active managers underperform and pension fund managers won’t take the risk.” A small pool of investors will continue to provide the underlying due diligence Edwards says, however, those who perform that due diligence do not see things in quite the same way.

The financial crisis made traders more fearful, according to an equity derivatives trader in Paris who preferred not to be named. In a context of low interest rates, “people became much happier with returns of 5%-6%” and saw passive strategies as the safest way to achieve them.

As the memory of the financial crisis recedes, and with interest rates likely to rise, the trader expects that outperformance via more active strategies will be sought. “People are more likely to take risks when things are going well.” This suggests that, at different times, active and passive approaches may both be appropriate. However, the choice of passive or active strategies is not simply a question of the economic cycle.

The game changer

The rise of artificial intelligence (AI) has the potential to redefine both approaches, as the various facets AI are likely to be used by fund managers to collect information much faster than in the past. This will allow them to replicate the performance of a chosen index more accurately and cheaply, the Paris trader says. But AI cuts both ways and also has the potential to improve active strategies.

The trader gives the example of the release of a new iPhone. The stock price of Apple is sensitive to initial customer reaction and comments posted by new purchasers on online forums are highly valuable information. Collating and synthesising this feedback to form an overall verdict has in the past been labour-intensive and time-consuming, but, says the trader, AI can dramatically accelerate the process.

Advancements in technology, which made passive investing possible in the first place, is now threatening to break down an old and misleading distinction. Santiago Braje, global head of credit trading at ING Bank in London, believes that these developments can serve both active and passive investors.

Braje leads “Project Katana”, which started life about 18 months ago and is paid for by ING’s innovation fund, building out a tool which combines artificial and human intelligence. Braje cites the huge amount of information needed to make a trading decision. Processing that information, he says, often still takes place in the mind of the individual trader using “rudimentary” tools such as Excel spreadsheets. “Katana”, the Japanese word for sword, was first used to give ING’s own market makers a fast overview of market conditions. In a real-time environment, “every second that is saved in scanning for that information is valuable,” Braje says.

Traders are supported by, and control, the technology rather than being replaced by it, he argues.”The universe is simply too big” in terms of available tradeable securities, and “Katana” can quickly reduce that universe to a manageable size. Braje says that this is where the prototype can add most value. As well as developing a tool with a large active asset manager client, ING is also in discussions to apply the technology for a passive manager, where Braje believes it can be used to improve the efficiency of execution. Braje expects that the prototype can be turned into a working system for clients within a few months.

A false dichotomy

Passive investment does not equate to passive investors. Such investors continue to control holding periods, and these can be much shorter than might be expected. Epoch Investment Partners calculate an average holding period of less than nine days for the SPDR S&P 500 exchange-traded fund, the largest on the market, in 2016. It seems more useful to think of active and passive as points on a relative scale, rather than as opposing strategies.

The question, as for the Vanguard index-tracking pioneers of the 1970s, is ultimately about fees, and trust. The only tangible forward-looking certainty about a fund is its cost: Investors don’t have anything else that they can be sure about. A lack of trust arises when an active manager charging high fees achieves returns that look like those of a closet tracker.

According to James Sore, chief investment officer of Syndicate Room in Cambridge, UK, and fund manager at Fund Twenty8, which claims to be the only passive fund for early-stage investing, one of the most important factors fuelling the continued rise of passive index investing is the “huge pressure to create accurate, comprehensible and comparable disclosure of fees. 

“Post-fee performance comparisons have exposed a persistent under-performance of actively managed funds compared to passive. Furthermore, a number of actively managed funds were not clearly demonstrating their total fees – top-line fees were competitive but excluded other, less visible fees. Active managers need to deliver value for fees.It is that simple,” he argues.

Passive investors then are active investors who have found a way to reduce costs. Sore predicts that “as fund performance comparisons become more intelligible, the true champion active funds will begin to shine and attract an increasing amount of capital and those that fail consistently to beat passive funds will die away. That leads to a less volatile and varied actively managed funds market, but one that actually delivers value.”

After all, investors wanting to avoid assets that may at times be overvalued by any objective measure have only two choices: active management, or avoiding the market altogether. Morningstar data shows that active clearly outperformed passive during the market crashes of 2000-02 and 2007-09.

All this suggests that there is something artificial and misleading in the distinction between active and passive. A decision to track an index, after all, still involves an active decision to purchase the securities in that index. There are few, if any, passive investors who have a portfolio that accurately weights all globally investable assets. Many funds track a local benchmark index – a clear piece of active asset allocation. There seems no obvious reason to assume that an investor who is reluctant to pick individual securities will be any better at asset allocation. Ultimately, technology is open-ended and will serve whichever trading style is cleverest in embracing it.

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Speaking at the ETFs Global Markets Roundtable in London this week, panellists agreed that with around 18,000 data points, a standardised consolidated tape is a “desperate need” for the industry.

“Currently, the level of visibility on trading volumes is the biggest obstacle to the growth of ETFs,” said Gregoire Blanc, head of capital markets at Lyxor ETFs. “It’s extremely difficult to locate and go through those data sets, and growth and price formation could be prevented from being fully unlocked as a result.”

Henry Reece, head of sales at Susquehanna International Group, added, “The lack of a consolidated tape is a major factor.

“We need this as a market maker to get to know the industry better and our buy-side or institutional clients. Staying on top of that is a real challenge,”

The panel also said that despite concerns having been raised around ETFs and liquidity, the product has stood up to the test of market volatility with very little impact to primary markets.

Jason Xavier, head of EMEA ETF capital markets at Franklin Templeton Investments, reiterated the importance of ETFs in times of market stress and agreed that the industry is in desperate need for a consolidated tape.

“When Brexit happened and we saw volatility, authorised participants (APs) and market makers stepped in and provided that liquidity. I am still yet to see a trade fail because nobody stepped in to provide liquidity,” Xavier said.

Furthermore, the introduction of MiFID II has been a positive for the industry with more transparency providing greater investor confidence. However, to offer clients comprehensive and useable data, regulators need to introduce a consolidated tape.

The panel also decided that exchanges need to do more to compete against the request-for -quote (RFQ) trading method. Reece told delegates that exchanges are important as they offer visible liquidity and they centrally clear transactions, although RFQs offer more comfort in knowing who you are trading with.

“RFQ is in a difficult position at the moment with best execution requirements and there is a greying distinction between RFQ and exchanges trying to win optimum flow,” he said. 

“A large part of our business is over-the-counter (OTC) but we try to stay agnostic to preferences. Exchanges have to solve the issue of maintaining a bilateral agreement that the RFQ method offers.”

The post ETFs growth threatened by lack of consolidated tape appeared first on The TRADE.

For years CBOE Holdings, the exchange group which operates the largest US options exchange, has had to watch its rivals from across the street make acquisition after acquisition. For years it had to deal with persistent rumours that it would eventually be taken over by the CME.

Yet in September the markets were stunned when it was revealed that CBOE will acquire Bats Global Markets in a $3.2 billion deal, creating a new global exchange behemoth to challenge the likes of ICE, CME Group and Nasdaq.

The tie-up would bring the largest US equity and index options market with the largest pan-European equities market by market share, and the second largest US stock market by shares traded.

Kansas-based Bats Global Markets was founded by a team including now-chairman Joe Ratterman in 2005. In 2008 it opened in European equities and now operates the largest European equities venue by market share. In 2010, it ventured into the US options market, and now operates two options exchanges. The exchange group is the largest destination for ETF trading globally, and went public in April this year.

The acquisition for CBOE moves the exchange group out of the confined space of the Chicago derivatives scene and into new global product areas.

Certainly this mega-merger is set have significant implications for both companies. We sit down with CBOE Holding’s chief strategy officer and head of corporate initiatives, John Deters, to discuss the reasons behind the merger and what is in store for the two companies.

Joe Parsons: Why is now the right time for CBOE to expand with the Bats deal?              

John Deters: When I think about timing with the Bats deal, we were coming at it from the point of view that both CBOE and Bats have strong growing franchises and very healthy growth records, so we asked, ‘what opportunities are there to accelerate the strategies we have in place?’ CBOE came to the conclusion that Bats represented the best opportunity to help us do that. We are aiming to complete the acquisition in the first half of next year, subject to shareholder and regulatory clearance and approval. 

What was the rationale behind the deal?

It diversifies our product offering, so we extend beyond US equity derivatives and into US and European stocks, exchange-traded funds (ETFs), and also US, European and Asian FX trading. That is a very powerful diversification for us because those types of products have very little overlap with what we do today.  We hope to be reaching new customers through their association with Bats’ current product offerings.

What areas of the deal excite you the most?

One opportunity for us is access to the vast ETF market and ways to interact with that product set. For example, we could use our existing index provider partnerships and marry those with Bats’ listing venues in the US and Europe.

We believe that passive investing is currently the largest investing trend. We believe investors will trade the package that makes the most sense for them, whether it is because of the way their infrastructure is set up or it is cheaper for them, so we don’t want to force them to trade in a futures/options package if an ETF is the best way to fit that passive strategy. This deal, given Bats’ position as a growing listing venue and the largest exchange for ETF trading, allows us to speak to that customer base.

In addition, it opens up new index opportunities. We have an active custom index business, and we are very excited about bringing that capability to the Bats customer base, the issuers and sponsors of ETFs that Bats has such fantastic relationships with.

Finally, in Europe we think about derivatives on equities and FX, which is a huge opportunity. We think delivering our capabilities in derivatives onto the Bats European platform is extremely important.

Will these products be jointly listed under the same brand?

The theme in this deal is streamlining trades and processes. The end-user is becoming much more global, the asset owners are becoming more global, and it is absurd for someone to have the same exposure replicated in two places but not be able to offset their margin positions or report in the same way. We plan to break down those barriers by having one technology platform underlying our marketplaces across the world. As long as the regulations allow it, we aim to make the trade processes as simple as possible.

How much of an opportunity will expanding in market data be?

In terms of market data and non-transactional revenue for CBOE, we stand to grow from 30% of total net revenues on a standalone basis to 40% in combination with Bats. A big part of that is Bats’ strong market data expertise—about half of Bats revenue is non-transactional.  As investment strategies become more complex and more global, market data helps participants’ back-test strategies around global macro trading. This also relates to our engagement with ETFs as market data drives products such as ETFs.

Bats has had a tremendous amount of success with its pricing strategy on market data. We don’t want to turn away users because they feel the cost of market data is too high.  It would be a disservice if we do that.  Our expected approach will be to grow the pie by accessing new users and providing value-added market data products.

How will the expansion into ETFs cross over with your core listed derivatives offering?

We believe the new opportunities lie in Europe when it comes to derivatives on ETFs. The concept of an option on ETFs is a challenging one for European market participants — effectively it does not exist. We know that is a need that can be addressed because options on ETFs are strongly embraced in the US market. Whether that will be approached through a US-type product, but with different characteristics that meet European regulatory considerations, or through index-related products that give participants similar exposures is to be determined. It is an interesting opportunity to explore.

Is the end-goal a CBOE European exchange?

Bats already has an exchange registration. A European registered investment exchange (RIE) license is fairly flexible, and slightly different than one in the US, which is more specific to commodities or securities trading. The RIE allows for a broad range of products to be traded. It is now a question of gauging market demand, speaking to regulators about what other approvals are required, and the new product process.

What was the rationale behind your investments in CurveGlobal and Eris Exchange?

With CurveGlobal, you have a group of banks sitting around the table with us and the LSE with a blank sheet and an opportunity to create new products, clearing into a very logical CCP for fixed income products. So we loved that concept. Eris Exchange is built on products designed to solve problems around margin inefficiencies of traditional swaps products.

We have learned that if you have a product that is relevant to market participants in rates or FX, you have to go where those participants are. It is challenging to expect to list a product on an exchange that caters to one type of market participant and expect everyone else to connect. With those perspectives in mind, it made a lot of sense to make those two minority investments.

The post The Big Interview: John Deters appeared first on The TRADE.

Exchange-traded funds (ETFs) have been one of the US market’s big success stories of recent years, yet Europe and Asia have been unable to replicate this. This webinar, which will take place on 9 November 2016 at 9.30am GMT will look at the dynamics of the current ETF market and how it will develop over the next few years.

The webinar is free to attend for all Trade readers, simply click HERE and register your details to attend the event on 9 November 2016 at 9.30am GMT.

The post Trade Derivatives announces webinar on growth, development and regulation of ETFs appeared first on The TRADE.

In July this year, KCG announced it had agreed to buy Swedish broker Neonet as part of a strategy to push into Europe. CEO at KCG Europe, Philip Allison, spoke with The TRADE about the reasons behind the purchase and discusses what’s in store in the future for KCG…

Hayley McDowell: KCG recently acquired Neonet, what was the rationale behind the purchase?

Philip Allison: The acquisition of Neonet was a chance for KCG to accelerate its strategy in Europe which is to leverage our market leading technology to provide liquidity and best execution for clients. Looking at Neonet, it was an opportunity to invest in a company that has very similar values to KCG. They have a 20-year history and a real culture of execution quality by deploying technology, tailored and designed to help their clients. As a result of their long history in the European equities space, Neonet has very strong client relationships - particularly in the Nordic region - but across Europe. I felt it was a very natural, cultural fit.

From a Neonet client perspective, the acquisition allows us to offer a broader range of services than Neonet traditionally could. We are able to bring very deep liquidity to US equity markets, for example. From a KCG client perspective, we will deepen our liquidity in the Nordics while gaining additional technology talent to further enhance our offerings.

Technology is a huge focus for KCG on an on-going basis. The vast majority of people within KCG are technology literate and across all of our businesses, most of the work going on is about deploying technology with the right quantitative models, to provide better liquidity and a better execution quality for our clients.

HM: KCG has a big presence in the US wholesale space. Is this part of KCG’s strategy for Europe as well?

PA: Interestingly, in Europe the wholesale space is more mature than I think people are aware of and we are one of the leading players in this space at the moment. As a whole, the retail business is smaller in Europe than in the US for cultural reasons. Typically, there are less direct investors for European retail, but the needs of the retail clients are very similar across the two regions. Most importantly, you have to remember that every single order is potentially someone’s sole investment into a market that year. So, you need to be incredibly diligent on every execution. When we look at servicing that new client base, it’s about providing a tailored offering to exactly they what want.

For most clients in Europe, they have a need to trade their own domestic market, the rest of the European market and typically the US market. KCG has a very good ability to connect with its clients because we can handle this for them. For example, an Italian broker may not have traded the rest of Europe historically. So as they begin to expand their client offering, we can provide solutions for them. Those solutions take a variety of forms. We meet some of clients on the Equiduct Exchange, through the UK RSP model and also on the systematic internaliser - which is something we can see growing under MiFID II.

KCG is pleased about the focus on best execution under MiFID II. It’s a helpful catalyst for us to move our business forward in Europe and as a market maker, the systematic internaliser framework is a natural one for us to operate in. In general, we recognise the challenges for the industry as a whole, but we are constructive and believe MiFID II will improve execution quality for the end-client. We are setting up to be successful in that environment, rather than worrying about the challenges of it.

HM: The buy-side in Europe has historically been concerned about conflicts of interest with brokers who are both market makers and agents. How do you manage those concerns?

PA: I have a fundamental belief that to really know a market, you have to trade a market. That’s really the core of our DNA as an organisation. Anyone who has tried to be a market maker on a public exchange knows that the market is very good at keeping you honest. This means everyday we have real research and development in the market making side, which gives us insight into exactly how the market is changing. If there’s an exchange upgrade or a change in any part of how the market infrastructure is put together, we generally see that very quickly in the market making function.

It’s certainly a material conflict, which is why we are very focused on managing it carefully and diligently through a range of methods. Firstly, we are extremely transparent with our clients, secondly we have physical separations of people and technology systems. Finally, its entirely up to our clients as to whether they choose to  opt in to our market making liquidity - there is no pressure on them to do so and for some clients it may not be appropriate.  For others, the value of interacting with retail order flow which is often contra to institutional order flow, is a very attractive option.  Increasingly, the trend we see is that our clients appreciate the edge we give to them because of the edge we have obtained through our detailed understanding of how the markets actually work.

HM: What does the future hold for KCG?

PA: I am encouraged by the growth we have seen since I have joined the firm. In the near future, we believe the ETF space is ripe for rapid growth and we are investing heavily in the area as we believe it is uniquely well suited to a firm structured like KCG. Currently we are lead market makers in over 500 ETF products and 1200 ETF listings in Europe. As agent, principal, through our retail and franchise desk KCG touches every part of the ETF ecosystem. With regard to other asset classes, we continue to have great aspirations to do more.  In some areas, we need the market structure to help us, however. For example, we trade a lot of on-the-run US treasuries in both Europe and the US and with greater price transparency would expect our footprint to grow. In Europe, were MIFID II to create an opening in European government bonds we would certainly be keen to participate.

The one thing I have learnt, however, is that you cannot go faster than the market structure allows. To that extent we are watching and waiting now. With the equity asset class, we genuinely feel the MiFID II direction is becoming much clearer and we think systematic internalisers will be a key component of that. We will be very focused on that product offering to deliver the best liquidity we can for our clients. 

The post The Big Interview: Philip Allison appeared first on The TRADE.

The acquistion will provide CBOE, which in the past has stayed away from takeovers, a gateway into the European equity and exchange traded fund (ETF) market.

“We believe that bringing together CBOE Holdings’ product innovation, indexing expertise, and options and volatility market position, with Bats’ proven proprietary technology infrastructure, global ETP listing and trading venues, global foreign exchange marketplace and market data services,” says Edward Tilly, CEO, CBOE Holdings.

“Bats’ market data expertise will allow CBOE Holdings to develop new products using the company’s index calculation capabilities.”

After news of a possible takeover of Bats broke out last week, shares in the exchange operator surged 20% to $31.74, the biggest rally since its initial public offering (IPO) in April this year. According to its release, CBOE will purchase Bats at $32.50 per share.

“This transaction offers our stockholders immediate cash value and allows us the opportunity to continue our great growth trajectory by combining with another market innovator in CBOE,” said Chris Concannon, Bats’ CEO.

Following the transaction, CBOE expects to incorporate Bats proprietary trading platform, as well as launching a new set of market data services. 

The takeover of Bats, which also operates a US options exchange, dwarfs the acquisition of the International Securities Exchange (ISE) by Nasdaq earlier this year for $1.1 billion. 

The post CBOE in $3.2 billion deal for Bats Global Markets appeared first on The TRADE.