New market dynamics are driving an increase in the use of technology for credit market trades to increase efficiency and reduce costs, as asset managers’ struggle to obtain execution quality.
In a new Woodbine Associates report, ‘Execution benchmarking for credit instruments: Fiduciary Reasonability and Best Business Practices,’ the consulting firm outlines elements asset managers should implement to improve performance.
Regulation including the Dodd-Frank Act and the European markets infrastructure regulation are changing the way the market operates, especially how firms provide and source liquidity, which in turn impacts firms’ ability to obtain best execution.
Basel III capital requirements, for example, has lead to an impact on liquidity in many OTC products, the report said, particularly the corporate bond market, which has failed to return to pre-crisis levels.
As a result, the report found firms were using technology to trade, leverage a firm’s capabilities, increase efficiency and reduce costs.
Dealer platforms are increasingly linking up to existing venues such as MarketAxess, Bloomberg and Tradeweb to compete for institutional trading volume. And asset managers are adapting by actively seeking alternative methods for sourcing liquidity, turning to electronic venues for larger-sized trades, the report said.
ETFs are also being increasingly utilised because of cost efficiency and the ability of firms to gain exposure to broad benchmark indices.
The report argued asset managers also need a ‘best execution framework’ to refine their strategies and trading. Firms need to calculate and monitor performance for different types of trading strategies, including assessing execution quality across trading scenarios: trade size, venue, counterparty and degree of execution risk.
“Asset managers must ensure they are achieving best execution for their customers,” Sean Owens, director of fixed income and the report’s author, said.
“This has become increasingly difficult due to changes in liquidity and trading. It is absolutely necessary to step back and create a framework that incorporates broad-based, objective metrics for assessing trading strategy and execution. Clients and regulators demand it.”
The report also concludes firms should consider benchmarking methodologies that combine volume-weighted average price and credit spread duration analysis.