Traditional transaction cost analysis (TCA) is no longer fit-for-purpose in the predominantly algo-traded, fragmented liquidity world of wholesale capital and debt markets, and should be replaced by a new measure – transaction quality analysis (TQA), according to a new report ‘The Sunset on TCA is Nigh; The Dawn of TQA is Here’ from Greyspark Partners.
Russell Dinnage, GreySpark’s managing consultant & head of the capital markets intelligence practice and author of the report, argues that the data and the models used in TCA, particularly for fixed income securities, “are inherently stale from the get-go.”
He says this is because is the market and trade information applied to pre- or post-trade activities is typically garnered from the market participant’s own recent intake and output of relevant variables to a model based fundamentally on assumptions.
Other challenges buyside firms are grappling with are the absence of a standard definition for fixed income TCA as well as a lack of transparency in certain securities such as corporate bonds. It also notes there is little understanding of what constitutes an indicative price versus a firm price, and this can often cause confusion.
The report contends that TQA is a better measurement as it revolves around the ability of firms to know –and not guess – what the market impact of either a book of axed trades or a collection of block-size bonds and swaps orders would be on the entirety of a firm’s available liquidity.
This is both from a liquidity provider-by-liquidity provider basis as well as across all the available execution pathways and venues.
The other main advantages of TQA include enhancing order execution outcomes as well as enabling asset manager bonds traders to consolidate bank broker-dealer Indication of Interest (IOI) or Request for Quote (RFQ) response rates. It also allows for objective assessments of the consistency and effectiveness of bank counterparties when executing orders on behalf of the firm in the external marketplace.
Looking ahead, Greyspark believes the success of fixed income-specific TQA services provided by either the sellside or non-bank brokers or vendors, will depend on the ability of asset managers to individually answer two questions over the next five-to-10 years.
The first centres around volume weighted average price and whether “this form of predominantly composite analysis currently provided by direct to consumer marketing (D2C) venues is sufficient for regulatory compliance purposes?”
The second focuses on internal data management, structuring & warehousing. It asks “to what extent are asset managers willing to take ownership over the normalisation and standardisation of the wealth of historic bonds and swaps market, pricing and transactions data stored within specific operational siloes to then move to a state in which they can consistently leverage competitive advantage on a trade-by-trade basis?”
Although responses will vary, Dinnage says that “asset managers must be realistic in assessing that the fixed income TCA services offered to them by broker-run venues, by D2C venues, by exchanges and – to a degree – by bank broker-dealers amounts to little more than window dressing.”