Over the past several years, the new issue market for investment-grade fixed income instruments has broken new records as annual volumes routinely pass the US$1 trillion mark globally. Key contributing factors have included low interest rates and a hunger for yield. There has been an effective virtuous cycle in the primary markets: issuers have gained access to capital; ‘hungry’ investors have gained access to high-grade debt; interest rates have remained enticingly low; and sell-side firms have been able to successfully match issuers and investors.
Simultaneously, due to the market’s increased volatility, the time participants have to analyse deals, indicate interest, price, and allocate has decreased dramatically – to the point where today we see most deals launched and priced in one day. It is clear that with the converging dynamics of a significant increase in demand and speed, alongside a determined need to be compliant and transparent, even the best processes can be strained.
As a solution provider that helps over 100 syndicate desks manage the new-issue process globally – and interacts with both sell-side and buy-side firms on a daily basis – here are some common themes we’ve observed:
The buy-side trader is hit from many different directions with the same information in an often unorganised fashion, and is challenged to summarise and communicate that information to the relevant portfolio managers and analysts at her firm in a way that is targeted and useful.
Given the speed of deals, often done in a single day, the portfolio manager and analysts need as much time as possible to evaluate new issues and run them through their portfolio management, risk, or trading systems;
The buy-side trader often manually maintains portfolio manager interest and must constantly reconcile this with what she has told each of the sales people that cover her; and
The team in trading operations often scrambles to clear and settle trades because information – such as the prospectus or terms and conditions data – isn’t always available in a single place.
All parties stand to gain from well-thought-out improvements to address the challenges identified in today’s process. Achieving this in the fixed income market means taking the best of what the market does now, and making it scalable. To do that well, we need to identify the pain points of each role in this process alongside those high-touch steps that add value and should be preserved – and then determine how we can find mutually agreeable solutions. Ultimately, these solutions will most likely incorporate technology, but first we need to understand the many facets of today’s process.
Over the past decade in the primary markets, we have made great strides in bringing automation and efficiency to certain aspects of the new issuance process. From the Ipreo perspective, we’ve invested considerable time and capital (both intellectual and financial) in addressing key aspects of this increasingly complex landscape: developing bookbuilding solutions to manage demand, implementing syndicate-to-syndicate communication networks, and providing tools for the syndicate to keep issuers informed on deal progress. Now that our clients – and the markets in general – have embraced this technology, they are looking to better understand their options to solve other challenges in the new issue market in a comprehensive way, particularly as relates to the management and sharing of deal-related information between appropriate participants. This is an evolution. The time to start a dialogue about the next wave of improvements is now.
By taking a look at the pain points for both the buy- and sell-side, we can better understand today’s process and discover new ways to improve upon it.
Keeping up with increased demand
The sell-side faces two significant challenges/opportunities, centred around deal communication and workflow.
The seemingly simple process of communicating deal terms is, in actuality, a lot of work. Today, that entire process requires a lot of coordination. It involves setting up the deal in internal systems, developing deal communication ‘blasts’ with other members of the syndicate, setting up the deal for trading with the appropriate parties (requisitioning CUSIPS/ISINs, etc.), and finally releasing that information to sales and investors at the appropriate time in the deal’s marketing period. Syndicates must communicate deal-related information consistently, accurately and quickly – for every deal in the market that day.
The more steps in the process, the greater the pressure to get things done consistently and correctly. When deal volume is high, even the best people struggle to keep up with all the required workflow. Could that process be simplified and improved from a timeliness and consistency standpoint? When we discuss this with our clients, the general sentiment is that this is very possible and a single management point for the capture and communication of deal-related information would be immensely helpful. I will take that sentiment one step further and say that it’s also very achievable.
Putting together a deal, or multiple deals, is one challenge; marketing it is another. Each institutional sales team needs to determine which of their firm’s clients would be appropriate investors in each of the deals being offered on a given morning, and how they can best approach these individuals. This decision is based on understanding the deal’s registration types and selling restrictions as well as knowledge of what kinds of deals a particular client is interested in. On a slow day, with only one deal occurring, none of those questions would be much of a burden. But as volume increases, and the amount of data increases around the day’s multiplicity of deals, the pressure to get everything right and on time once again becomes a factor.
With all this said, there has been a lot of positive progress towards achieving effective synergy between high-touch and automated processes. The sell-side challenges we’ve just described are prime examples where the thoughtful application of technology to support, not replace, human interaction could create significant potential benefits.
Can the same be said of the buy-side?
Data overload from all sides
At first glance, it might seem that the buy-side trader faces a few challenges similar to those faced by her counterpart on the sell-side. A new deal needs to be communicated to interested internal parties, and new deals don’t form an orderly queue, waiting their turn to be processed. Additionally, the buy-side trader has multiple responsibilities. In most firms, the trader dealing with primary market deals will also be immersed in secondary market trading. As this suggests, a new deal will be just one of a number of potential opportunities facing the trading desk on any given day. It must be assessed on its merits, but also assessed in relation to whatever other opportunities might arise in the market at the same time. If we envision a busy day in the secondary market that is also a busy day for new issues, we begin to see a more complex version of a familiar problem – traders can quickly become stretched very thin.
The communication challenge for the buy-side is to disseminate that message appropriately (and accurately) to the correct range of interested parties. The buy-side trader’s job (alongside that secondary market ‘day job’) is to make sure that the portfolio managers and the rest of the firm are kept informed on what’s happening in the primary market. Not everyone wants to know everything, and of course not all deals go to the same audience. If we add in the ‘busy-day’ factor, we begin to see the opportunity.
Information and data come in to the buy-side through multiple channels. In the fixed income market, the buy-side trader will receive messages via email, Bloomberg, and other instant message platforms. Any buy-side trader, on a busy day, is getting hit with a lot of information, and some of it (like the announcement of a new deal) is the same information from multiple sources. The buy-side trader then faces the challenge of figuring out what is relevant to which internal constituents – portfolio managers and analysts – and determining the best way to issue the collated information.
While news of a potentially interesting primary market deal is reverberating through a buy-side firm, there is another fundamental challenge. For the buy-side, a new issue is an as-yet-unknown security. The firm’s systems don’t know about it and won’t recognise it. There is a process to be undertaken around setting up the security in the portfolio management system, the trading system and the compliance system. Often, the person that is charged with this task is armed only with a text-based email with a sub-set of the deal terms, and possibly a preliminary prospectus. It’s a manual process and not all systems can accommodate a new security without a minimum set of data. Often, portfolio managers are forced to make a decision about participating in a new issue without all of their tools fully enabled.
Even so, the buy-side trader must gather interest from her PMs, and take that back to the sell-side. But the process of collecting interest on a primary market deal is a bit different from order management in the secondary market, and many order management systems can’t support this. As a result, traders often resort to their own spreadsheets, within which they attempt to track interest (at either a PM or fund level), aggregate that demand, and note what they’ve actually indicated to the sell-side. Hedges are calculated manually and tracked here as well. For many firms, it’s the best option they have, even if it lacks the auditability and process controls that are built into other secondary market systems.
Communicating to the sell-side involves a strong human element. In our conversations with the buy-side, they have been careful to point out the value they see in their sell-side sales coverage – especially as it relates to new issues. Nevertheless, there is a lot of redundancy as the buy-side trader will often manually repeat her order to each of the salespeople that cover her at each syndicate bank – both initially and then once again with every modification.
When each deal is allocated, the process reverses. The sell-side salesperson informs the buy-side trader of their allocation and – because most deals result in a partial allocation of the original order – the buy-side trader must fairly allocate the deal to the portfolio managers or accounts within her firm. Firms have fair allocation policies, and it is up to the trader to follow this policy even with the manual process in place for new issues, respecting minimum lot sizes and other constraints.
Finally, the trades must be matched, cleared and settled. The trading operations team must ensure that the new security accepted by the post-trade systems and processes in order to confirm that the trades make it to the correct accounts and that the security is properly set up in any position-keeping systems at the firm.
What are logical paths forward?
From the sell-side perspective, there is an opportunity to look at the challenges more broadly and figure out how to best preserve the high-value, high-touch nature of the sell-side relationship, while empowering syndicate and sales to work more effectively.
From the buy-side perspective, anything that can be done to improve the process of gathering, analysing and investing in all the new issue deal flow in the market would be welcomed, creating a better way to manage the burden of getting unstructured or semi-structured data set up in their systems.
We believe that there’s an opportunity to solve this data problem in a holistic way – giving the sell-side a powerful tool to more easily manage their deal set-up and communication workflow and, as a result, make the delivery of terms and conditions to the appropriate accounts as simple as adding a click in this process. On the buy-side, we know that the solution has to take into account that some firms will want to consume this data in an integrated deal calendar with filter, sort, search and drill-down capabilities, while others will prefer to consume this information into their internal systems via an API. These are just a sample of the many considerations that need to be tackled.
In Europe, nine investment banks have partnered with us on a project called Investor Access, which provides electronic communication of orders and allocations on primary market deals between the buy-side and sell-side. This is one example of how technology can be applied to help achieve synergy between high-touch and automated processes. We also see further opportunity to partner with clients on innovative buy-side specific initiatives to manage the aggregation, hedging, and fair allocation of primary orders, as well as deal-related document management that provides a searchable repository of deals and their prospectuses. And while this discussion has been focused on investment grade, we are undertaking similar initiatives for high-yield, loans, and equities.
The dialogue matters
My purpose in this article has been to promote a dialogue about the future of the fixed income new issuance market. The market is alive and well and serving its customers and stakeholders effectively; but as deal flow has increased, core processes have come under pressure. We have learned a lot in recent years about how to deploy technology effectively in support of best practices. These are increasingly important topics, and we are committed to bringing participants together to focus on them. Would you like to have a seat at the table? Let’s talk.
This article was written by Herb Werth, managing director, global buy-side, Ipreo for The TRADE’s 2015 Fixed Income Handbook.