Fixed Income's Ascent to the Screen Can't Forget the Human Element

There were three stories published on WatersTechnology.com this month that made me think about the nature of market structure, and whether a single-minded focus on technology can be both a good and a bad thing in equal measure.

In traditional asset classes, not least of all equities, fixed income, foreign exchange (FX), and even derivatives in the futures and options spaces, markets are highly developed in an electronic sense. Central-limit order books (CLOBs), stock exchanges, swap execution facilities (SEFs), and both inter-dealer and dealer-to-client platforms are well established, and trading is at the very least on the way to being conducted in a majority electronic fashion, which has brought its own challenges.

Waters has been at the forefront of covering these challenges over the years—the growth and decline of high-frequency trading (HFT) and the fury from some sections that accompanied its rise, algorithmic trading and the individual problems that has posed to financial stability, and of course, the particular issues in FX markets that have arisen from market manipulation.

But there is value in also considering the human part of the equation. Some areas of the market are seeing huge, foundational shifts in how their business is conducted. Take the municipal bond markets, for example, where the growth in electronic platforms has tightened spreads, but it’s also put pressure on the revenues of experienced sales traders, who are often paid by commission and struggle to keep up with the lower fees generated by electronic trades. Stories of salespeople going months without any take-home pay are not uncommon.

For the buy side, this has been a tremendous development on many levels. Liquidity has never been easier to source, while trade costs have come down sharply. But there are questions about how the loss of experience in these markets, which comes as long-time specialists are forced out, will affect them in the future.

Structural Concerns

Two other stories piqued my interest in this regard. One is the continuing digital-currencies saga, where a number of businesses are attempting to move bitcoin trading and activity in similar instruments to a more regulated, traditional market model. There are benefits to be had from this—the current structure of digital currency markets is, as Paul Gordon of Quantave explained to me, flawed. Too often, the central points of the market wear too many different hats, and this engenders problems when things go awry, particularly if exchanges are also acting as brokers or custodians of client assets. Regulated intermediaries would seem to have a part to play here, but it’s hard to attract institutional interest without this scaffolding, thus creating a chicken-and-egg scenario.

Along the same lines, a recent report on European credit repo markets by the International Capital Market Association (ICMA) highlighted the lack of technology penetration in everyday practices there. Information is still widely circulated through relatively primitive means, trades are largely conducted by phone or a limited number of dealer-to-dealer platforms, and in general, the market is pretty old-school. 

Andy Hill, senior director of market practice and regulatory policy at the ICMA, who authored the report, posits that these traders are likely “the busiest people in the financial markets.”

The thing is, despite being labor-intensive and highly manual, the system kind of works. It sounds like a mess, sure, but outside of any widespread catastrophes it ticks along on a day-by-day basis, issues of supply and bank dependency notwithstanding.

Technology will make inroads, and some automation is inevitable, thanks to regulations around data collection and the like, but progress shouldn’t be made just for the sake of progress. Evolution, after all, is a process: Creatures adapt according to their needs and those of their environments. Tinkering too much with that formula may well create problems rather than solve them.