The Electronification of Markets

A discussion about the electronification of Financial Markets by OTCX's Robert Gray

The electronification of markets (again!). Yes, it is a word and in the Oxford English Dictionary to boot. A noun described as the Conversion to or adoption of an electronic mode of operation or production.

As previously written, and not just by me, the continued electronification of markets is now firmly sitting with OTC Derivatives. We’d witnessed it in Equities, and I saw it first-hand in the “Open Outcry” Futures markets in the late 90’s and FX has been a huge success in more recent times. The efficiencies in cost, collateral, operational risk, scalability, price discovery (I could go on) not to mention regulatory pressures have put pressure on old fashioned manual workflows in the FX Derivatives, Interest Rate Derivatives and Equity Structured Products space and no doubt Commodity and Energy Derivatives too.

The “buy side”, Corporates and Hedge Funds, Asset Managers and Private Banks have an increasing need to send multiple RFQ’s to multiple issuers and market makers for multiple products in, yes you guessed it, multiple asset classes. Keying requests manually into several Single Dealer Platforms, a handful of ECNs plus email and chat is just not sustainable and you can throw a few phone conversations in there too.

For Banks it is even more critical with huge challenges to cut cost (or in other words –people) and increase revenue. With “prop” trading a thing of the past it is crucial to price out to customers quickly and profitably factoring in any costs whilst attracting the flow and offering a great customer experience. To this end the smart guys have fully automated the pricing response to RFQ’s from multiple sources of all but the very complex or illiquid products. This frees up sales desks to concentrate on high notional but crucially, high margin complex trades to key clients while the box in the server room ticks over pricing and executing and automatically updating the Banks risk for all the “bread and butter” flow. Equally this automated process has been instrumental at internalising much flow that would ordinarily have been executed elsewhere by various desks within the organisation. But these banks are not just smart, they are large, with IT teams, quant teams and financial engineers to get this job done.

So, what of the rest? They are smart too, right? However, resource is pressured or just focused on other things such as upcoming regulatory deadlines or a Brexit strategy (I had to get Brexit in here somewhere, sorry)or implementing their shiny new back office system –for the next 5 years! Fortunately, the future is bright, the majority(if not all), of the SDP’s, ECN’s Back Office systems, Credit Limit checks and post trade processing venues can all be connected using API’s and most of these standardised, even for Exotic Options and Structured Products. The cost of hosting or buying dedicated servers is going down due to competition from Amazon, Microsoft Azure and Google Cloud.

The industry is not going to shift from the path we have seen so many markets tread before and the solution, as always, is software to replace the manual process. I know, I thought I’d be legging up Butterfly’s and Call Spreads until an early retirement but my old LIFFE jacket is now mounted in a frame next to a picture of the Royal Exchange pits as a reminder of how fast change happens, everywhere!