Part one
Before diving into the multiple ways that automation such as AI and ML can optimise the trading desk, we wanted to take a closer look at the landscape for the industry. We also want to recognise the key factors driving investment firms to implement new technology to automate various areas of the trading process.
With the advent of a host of new regulations, including MiFID II, fixed income traders have had to adapt to a more complex environment in order to measure and increase liquidity to stay one step ahead of the competition. According to our survey results, risk management is the top priority for many traders in 2019 for navigating these changes appropriately.
A risk management-focused approach is helping fixed income trading companies navigate how the business will incorporate new compliance mandates and other regulations in Europe. Such an approach can also help to develop and improve new company policies and procedures in order to reduce the effects of these new rules on the firm’s bottom line.
Fixed income trading desks have found a number of reasons to integrate automation into their business processes. Among these, freeing up trade time so they are able to focus on more important and less liquid trades was ranked as the most popular reason to adopt automation according to our survey.
Firms have also found that automation can help reduce overhead and allow fixed income traders to achieve better execution. Low-touch orders often require a greater level of manual processing and, subsequently, a greater chance of human error which can create operational risks.
Presently, according to our survey results, the areas within the fixed income trading desk already witnessing the highest rate of automation are exchange-traded funds, closely followed by fixed income derivatives. It’s safe to say that the transition to automation will take hold faster in the most liquid trading products, such as global rates, while the areas of fixed income trading least impacted by automated processes will be more complicated orders.
There is no denying the many benefits that automation offers to fixed income trading desks across Europe nor the potential for AI and ML to push traders further into the future.
Risk management tops the list because of the increasing complexity in trading fixed income products. Over the last several years, we’ve seen a growth in the number of venues, protocols and products used to access liquidity. Strong risk management is critical to managing these changes.
– Alex Sedgwick, Market Structure and Electronic Trading Consultant, Fincisive Strategies
As asset managers gain comfort in their risk management and reporting capabilities, we should see a structural shift in investment toward automation and achieving the fixed income trading operating model of the future. This will allow us to further reduce costs and focus even more on adding value for our clients.
– Chris E. Wrazen, Head of Bond Indexing, Europe, Vanguard Asset Management Ltd
Traders are being smarter with their time and focusing their efforts to where they can capture the most alpha. All trades are equally eligible for adhering to best execution; however, the methodology is a key part in this.
– Carl James, Global Head of Fixed Income Trading, Pictet Asset Management
When figuring out what should be automated, repeated manual processes are a good place to start. A manual process is prone to error and creates operational risk – to the extent you can automate it, you’re mitigating these risks. Repeated manual tasks also consume significant amounts of time, which means you’re likely to have the largest gains for any investment in automation.
Expensive human capital should be focused on high-impact, value-add work, not mundane, lowtouch trading. So investing in automation technology is a value trade in and of itself. As a by-product, it helps with employee engagement, as traders and PMs are driven by more challenging, less operational work.
Fixed income automation is expected to increase by an average of 24% in the next five years
The trajectory for automation of execution is set. It is just a matter of time. The catalysts for the adoption will be varied and depend on individual firms. Potential catalysts could be costs, regulation, best execution.
As traders get more comfortable with automation and the technology itself matures, you will start to see adoption across different trading desks and larger, more complicated orders, where perhaps there is less liquidity, beginning to be automated. What will be left will be more complicated orders for either securities that don’t trade electronically, orders which are combined into a package or are of such a size that careful management is required to prevent adverse market impact.
– Ravi Sawhney, Global Head of Trade Automation and Analytics, Bloomberg L.P.
The large gaps between the current and projected automation rates suggest that we are still in the early stages of automation. The transition will happen more quickly in the most liquid products like global rates. Automation rates will plateau at different points depending on the asset class and concentration of activity in large trade sizes. Even then, expect there to be a long period of fine-tuning these automation tools – similar to how equity algos continue to evolve.
We would like to automate as much low-touch trading as we can to free up our resources to focus on adding value for the client while reducing their costs.
The results suggest that the increasing use of technology on the trading desk is an opportunity for managers to gain a competitive advantage. The small number of respondents keeping trades face-to-face is actually encouraging, indicating the majority of the industry is leaning into changes taking place in the market. Those who do not embrace new technologies will be challenged to keep pace with their peers.