Efficiency. That is the watchword for AllianceBernstein, says Jim Switzer, global head of credit trading, who believes it will cure the evil of illiquidity in the bond markets.
The company has been on an efficiency drive since Switzer joined in mid-2011. His background on the sell-side with Societe Generale and UBS Principal Finance, where he worked on the proprietary trading desk, helped him look through a broad lens for AllianceBernstein, at a time when the market was going through its most significant upheaval of the modern era.
“When I got here everyone in the market was talking about liquidity and how poor it was,” says Switzer. “Dealer balance sheets were down and electronic platforms were popping up everywhere. While we recognised the liquidity issue I thought the biggest problem was efficiency. Until we solved the efficiency issue we weren’t going to be able to solve the liquidity issue.”
For Switzer, who oversees some $135 billion in credit assets, efficiency encompasses three things: processes, people and technology. The company got straight down to it beginning with changing personnel on the trading desks. The idea was to transform trading from a pure clerical, execution model to one which required expertise in markets. The result was hiring experts in relative value, cash and synthetics who could buy into the trading process and offer new trade ideas and risk management for clients. Getting the people in was important given the wider changes the market has gone through in the last seven years.
“Because the dealer community is moving to a riskless model instead of widely broadcasting their positions dealers are making targeted, discreet phone calls to select institutions,” says Switzer. “We want to be on the receiving end of those calls so we need to make sure our traders are knowledgeable and empowered to act.”
The issue of liquidity has, of course, impacted AllianceBernstein’s fixed income business—like it has with the rest of the market. These days it is no longer possible to put an investment strategy first—the initial consideration is whether it is possible to source liquidity in the underlying asset.
“Before liquidity was at the end of the process—now before you do anything you have to think about liquidity first,” says Switzer. “The question is: ‘is it executable?’. Everything we are doing revolves around this process.”
To solve the conundrum, AllianceBernstein has people from research, fundamental analysis, quants and trading all having a seat at the table. In total Switzer has a team of around 24 traders working under him. It has also been looking to go global – it currently has two traders in London – with a third due in the near future – and two in Hong Kong.
The move to a global approach allows the asset manager to be currency agnostic when executing trades. And, like many other asset managers, AllianceBernstein is trying to run the business as lean as it can. This leads to the next big change—technology.
Fixed income investors have always been slower to embrace technology than their equity counterparts. But the fluctuations in the business since the financial crisis as dealers withdrew from risk-taking have made it more important to embrace new methods of liquidity discovery. To that end, AllianceBernstein has created Automated Liquidity Filtering & Analytics (ALFA), a programme so wide reaching and useful that it could soon become a standard technology in the investment management business.
The genesis of ALFA began in early 2015 with discussions between Switzer and Ashish Shah, AllianceBernstein’s head of fixed income and chief investment officer of credit. Initially ALFA was devised as a way to organise information.
“Everyone was looking to source liquidity and with so many new platforms out there we thought there was so much information coming towards us and we didn’t have a way to process it in an orderly fashion,” says Switzer. “We discussed that I either needed to hire more traders because information is so bifurcated or we needed technology.”
The company chose the latter. Tim Morbelli, vice president of credit trading, came up with the idea and then spent six months with the AllianceBernstein technology team—AB Labs—to create the first version of ALFA.
It pays to be a provider
It began as a way to collate information more efficiently from all different platforms and venues in the market but over time this has developed. ALFA has proven a goldmine for organising information and getting clarity on where liquidity lies. The technology sits on top of the company’s Fidessa Minerva order management system and will scour the market aggregating multiple liquidity pools from various external bond pricing sources and trading platforms together into one interface. At the same time, portfolio managers can create an algorithm through which they can find the securities they need themselves and not have to go through a trader. It has taken the pressure off the trading desk.
“ALFA provides us an unprecedented level of pre-trade transparency,” says Switzer. “By aggregating formerly separate pockets of market data into one single interface ALFA enables the trader to instantly see the price of a security before engaging in a trade allowing us to be price makers rather than price takers. We are also mining data from this and sending it to quants who can look at a huge range of findings on cost and spread analyses, such as future new issue concessions and liquidity cost scores.”
The improvements in efficiency are telling. As an example, in the past, for a specific buy-and-maintain client portfolio the asset manager would have bought 100 bonds out of which it would send back 60 to 70 because they were not liquid enough.
The programme also helps to look for opportunities where the asset manager can be a liquidity provider. It will tell it when there is a buyer or seller looking for a counterparty where AllianceBernstein can step in and potentially fill the hole. “It pays us to be a liquidity provider,” says Switzer.
But, despite all the talk of the buy-side stepping into the market making void left by dealers, Switzer does not want to push this too far. It is not the buy-side’s job to assume the intermediary role from the sell-side. While there is more scope to be a price maker, this is only so when it suits clients.
“The buy-side are not the new market makers,” he says. “Being a liquidity provider is good when it suits clients. We can be a price maker, but to think we’re going to solve liquidity problem is short-sighted. If the buy-side helps liquidity it is good but they won’t replace the role of the dealers.”
In any case, ALFA is soon to be distributed more widely. AllianceBernstein sold it to Algomi in May which is building and commercialising it with a target date of year-end for roll out. The company has already spoken to 30 to 40 asset managers about buying ALFA and has got interest from across the board, including via heads of trading, quants, compliance officers, portfolio managers and technology heads.
Times are changing
This drive to technology is going hand-in-hand with a broader move towards trade electronification. Switzer says AllianceBernstein is looking to move to a purely electronic trade pricing and execution process by the end of the year.
“We don’t want to write a paper ticket—we want everything to be electronic,” he says. But there remains a big place for the phone in the market. Around 75% of tickets AllianceBernstein writes are done electronically but that represents only 20% of the volume—the bulk is still conducted on the phone.
Switzer says the main issue preventing full electronic trading is the lack of pre-trade transparency in the fixed income markets. It is something that has prevented more efficiency in the business and the sell-side can take part of the blame for this.
“I think in my entire career nothing had changed but now, very recently, it seems things are,” says Switzer. “There is more of an acceptance on the sell-side that things have to change and more willingness by them to transmit price and other information in a more user-friendly format which enables buyers to slice-and-dice that data in custom ways such as in utilities like ALFA.”
While there have been more electronic platforms introduced into the market—and more ways to find liquidity—overall this has not yet pushed spreads down. The cost to trade remains high, particularly in the illiquid segments of the market where most help is needed.
“Reports say that bid/offers are back to pre-crisis levels,” he says. “I disagree. Observable bid/offers are back to pre-crisis levels but that’s more a function of riskless order-taking in parts of the corporate bond market than to do with efficiency. The reality is that if an investor needs something immediate or in size we haven’t seen bid-offers go down there. It is going to take full pre-trade transparency across the board for all types of trades to really bring in spreads.”
Things are changing. And they must. Where once the buy-side was used to being shepherded through the process by the sell-side, it is time for it to modify its behaviour and embrace new ways of doing business. Switzer is all for it.