European execution landscape undergoing fundamental change

The European execution landscape is fundamentally being reshaped as asset managers transform from liquidity takers to liquidity makers, according to a new report – Turning the Tables on Liquidity Provision – from capital markets specialists Redlap Consulting and commissioned by FIA EPTA.

The report attributes this significant shift to the widespread adoption of automated trading – which accelerated in the pandemic. This has given asset managers greater direct access to new trading partners, providing more efficient and diverse options to trade. In other words, they are no longer relying solely on traditional sell-side provision of execution services.

Based on interviews with global heads of trading at 30 EU and UK based asset management firms with over $35 trn of assets under management, the report found nine out of ten or 87% want to maximise their liquidity access with market making firms

It said these new automated systems help to solve traditional impediments in bond markets which prevented the buyside from engaging with a more diverse and broader set of counterparties due to the infrequency with which bonds trade and the risk of incurring any information leakage.

The ability to automate trading intentions as well as order flow provides the buyside with the capabilities to optimise potential engagement yet still protect information about the trade and prevent undue price movements.

“The trends identified in this report are significant as they signal a clear shift in the balance of liquidity provision in European markets,” says Piebe Teeboom, Secretary General of FIA EPTA, the European industry body for market making firms.

He adds “Market making firms are clearly a driving force in the evolution of the financial ecosystem. Their combination of technology, competition, innovation and capability to work with the buyside provided a lifeline for many asset managers during the pandemic and has created the conditions for a fundamental reshaping of liquidity provision in European capital markets going forward.

Equally as important he believes that this structural shift should prompt regulators in both the UK and European Union to overhaul current markets rules.

Rebecca Healey, managing partner of Redlap and author of the report, says, “The pandemic has created an opportunity for a new eco-system to emerge. Asset managers are now increasing control over their order flow across both equities and, crucially, fixed income markets.

It’s a real game-changer as the fixed income markets were the last bastion of traditional sell-side liquidity provision. We’re witnessing a sea-change in the way the markets will operate in the future.”

Another key finding is that asset managers require better post-trade data to select the most appropriate counterparty to trade. “Crucially, respondents want to better understand whether their order flow has provided or taken liquidity – which determines who they select as a trading counterparty,” said the report.

It showed that seven out of ten respondents or 70% said data and technology continue to increase in importance in deciding where and how to trade while 67% highlighted transparency as a key factor in the selection process of liquidity partners.

Initiatives such as improved FIX Protocol tagging are already benefitting asset managers, but further improvements to post-trade data are needed, respondents reported.

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