Find out how regulations, direct connectivity and liquidity availability create opportunities and challenges for traders from Kate Finlayson, Global Head of FICC Market Structure and Liquidity Strategy.
Transcript
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Colin Lambert: Welcome to the "Full Effects Unfiltered." My
name is Colin Lambert. I'm publisher of the "Full Effects" and this
edition is in association with J.P. Morgan, and I'm delighted to be joined by
Kate Finlayson who is global head of market structure and liquidity strategy at
J.P. Morgan. Kate, lovely to see you.
Kate Finlayson: Thanks, Colin, great to be here.
Colin Lambert: We are speaking on the, I guess it's
just a couple of days after the "2024 e-Trading Edit" was published.
For me, it was quite an interesting edit this year actually because there was a
few things I wasn't expecting, perhaps workflow and processing being as
important as it were, but what were your observations, key observations around
this year's survey and what are you hearing from your clients?
Kate Finlayson: Yeah, it's an interesting one. I
think when one looks at the volatility, concerns around volatility,
availability of liquidity, those are elements you can't necessarily predict so
it's more reactive, whereas workflow efficiencies is something that you can
actively solve for. You can take proactive steps to streamline workflows,
reduce costs, automate execution, data analysis, all those good things. So that
was encouraging to see, but perhaps not that surprising.
Colin Lambert: I guess for me, I always look at and
think volatility and liquidity have always been towards the top of dealer's
concerns. Back in my dealing days, what did I worry about was liquidity. So do
you think, I mean, the big event of this year, it seems to be, is gonna be the T+1 switch in US securities markets. Do you
think that may have had an influence this year in terms of people's concerns?
Kate Finlayson: Absolutely, I mean, it's definitely a
factor. If you think about all the processes that need to be expedited and for
that to arrange on T, plus the impact. The survey went out to 65 different
countries, so while we have our clients, market participants in general looking
at readiness within the US and North America, T+1 is broader than just the US.
But as they're dealing with it, the impact for non-US asset managers whether
that's Asia, whether that's Europe is significant. So all of those processes
need to be expedited, and when you think of how they talk about T0 and they're
of course, distributed ledger technology, blockchain efficiencies, et cetera.
So kind of go hand in hand, but it is a big operational undertaking for sure.
Colin Lambert: Yeah, yeah, and it seems to me the
industry is actually looking to find solutions. You mentioned blockchain there,
for instance. They're looking to find solutions for this sort of workflow and
efficiency gains that we're seeking.
Kate Finlayson: Yeah, absolutely, I mean, I think
some of the challenges is the infrastructure around that, right? So if you have
multiple custodians because of course, CLS requirements in terms of cut-off
times and all of these, there are so many different elements within this that
are outside of the direct control of market participants. Hence the huge amount
of work that goes into it, coordinating, understanding, and preparing, and
thinking about what is the comfort level with automating some of the processes?
Colin Lambert: Another factor in the survey which I
thought stood out for me was data and automation becoming much more important.
It's kind of something we've seen in foreign exchange, but actually across the
asset classes there was quite some interesting findings there. What stood out for
you in around that data and automation area and what's going on there?
Kate Finlayson: Yeah, I mean I think that was again,
perhaps not that surprising because we have marked participants that have been
looking to see how best they can aggregate pre-trade data to help with price
formation in terms of where best to go for liquidity and pre, at, and
post-trade analytics as well that's involved with respect to the use of more
automated forms of trading like algorithmic trading. So we see that manifesting
across a number of different asset classes. I can touch on some of those
briefly. So rates, developed markets. Obviously US treasuries, we see an
increase in direct streaming of US treasuries. We see a pickup in an algo usage
and also from a streaming perspective in algos, how do we move from on the
runs, seven olds, and beyond actually to off the runs. EGBs again, streaming
there. All of that just data provision to help with price formation and
efficiencies. EM, very interesting there in terms of some of the trading
techniques that we see emerging. Obviously market participants looking to gain
access to less liquid markets And on the rate side, so interest rate swaps,
there where we've seen larger size trades done electronically, as well as
trading protocols shifting in certain markets from request for quote to request
for market, so two-way prices which is very interesting.
Colin Lambert: Certainly the rise of automation and
electronification across the asset classes I found very interesting in this era
because as an old FX person, I do acknowledge other asset classes occasionally.
Only occasionally, but yeah, I mean, I was actually quite surprised at how, for
instance, commodities was really sort of taking off in terms of
electronification.
Kate Finlayson: Yeah, absolutely, I mean, previously
it's been around base metals, but now increasingly more green energy. So when
we look at the EU emissions trading systems, so EU ETS, EUAs, great focus on
there, but also beyond emissions trading where you have precious metals, so
bullion where there's gold options, gold ETFs. We see increased electronification
there, and beyond that, even within esoteric commodities complex, we see more
onscreen trading emerging. So very exciting space, commodities.
Colin Lambert: It is because I think it's, a lot of
people think the e-space is mature and this clearly indicates to me that
there's a heck of a lot more we can be doing or will be doing with it over the
next couple of years.
Kate Finlayson: Absolutely.
Colin Lambert: Yeah, yeah, you mentioned direct or
streaming prices in these markets. Direct connectivity also clearly plays a big
role. It's kind of something I've been highlighting in foreign exchange for
some years. If you look at the BIS surveys and the triennial, sorry, the
semi-annual surveys, they show more bilateral trading. It seems to me this is
happening in other markets as well.
Kate Finlayson: Absolutely, so FX for sure, streaming
protocols have been in existence for some time. But we have, as I mentioned,
this pickup in US Treasury direct streaming which is increasingly also
progressing into more, whether that is on the runs into more of the runs, EGBs,
again, as I say, and there we focused on bilateral direct streaming actually in
the full depth of the order book. And from that perspective, the direct
streaming, whether it is US treasuries, EGBs, FX, it's about elements of
internalization, elements of reducing market impact, so information leakage
associated, and that is key. So for us, if we can provide that direct stream
and for clients, just take even outside, when market participants are looking
to aggregate all this pre-trade data, they're looking to have multiple pricing
sources. They're looking at options where there is an internalization or there
is less market impact so that they have that very good understanding and a
pre-trade perspective of where to go for that liquidity. And then of course,
when you have these direct streams where we can differentiate pricing or venue
because we're not incurring brokerage costs, then obviously what we're doing
there is providing our clients with all the data they need to make the
decisions on their side to suit.
Colin Lambert: The theme of this is great automation
and electronification across markets, what is J.P. Morgan doing to help clients
with that transition?
Kate Finlayson: Well, we think about some of the
responses to the survey, the availability of liquidity being top of mind for
our clients. So reliability of liquidity is a key tenent
in all our solutions and then it's about expanding, developing from there. So
streaming of US treasuries into more products off the run and so forth. Looking
at EGBs, as I say. Bilateral direct streaming of full order book depth and also
then looking at FX development. So algorithmically as well, the development of
algos, so not your TWAPs, VWAPs, but also adaptive which reacts with market
activity. So more sophistication there. So as the algos develop as well, you
then have pre, at-trade, and post-trade data to analyze the performance of
those algos and provide clients with all the data points that they need.
Ultimately it's just about continuing to develop, continuing to provide as many
solutions as possible to suit the needs of our clients.
Colin Lambert: I believe it's in our contract, we
have to talk about AI and machine learning in 2024. Any interview I do, I'm not
sure, but yeah. AI and machine learning actually was, it's been a key part of
the edit for some years now but actually this year hit a new high in terms of
people that think it's actually gonna be influential
in the coming year. What's happening around sort of those new technologies? Not
so new technologies now probably.
Kate Finlayson: Yeah, well, I mean, AI certainly has
been newsworthy recently and a lot of focus on it. But if you think about it,
the application of machine learning has been around for quite some time. So
where you have artificial intelligence and looking at that, when thinking about
it, that of course, the development, the tech investment, leverages quite a bit
in terms of data, data capture, electronic trading within that scheme of
things. At the moment, AI probably allows for in the space a more effective
price version, sentiment analysis, productivity tools in terms of code
generation and so forth. Perhaps not so much in chatbots at the moment, but
it's a very exciting space in terms of what it can be in terms of the
developments around that for sure.
Colin Lambert: It does seem to me it's still fairly
early stages in terms of what it can probably achieve in a market environment.
I look at it and say I'm not quite sure that I want to entrust AI to all my
trading at this moment in time, but these things advance.
Kate Finlayson: But I think the element of control
and the element of more of a risk-based approach to that is probably quite
useful.
Colin Lambert: Yeah, I guess in a throwback to 2023,
we can't also not talk about regulation.
Kate Finlayson: Oh, yes.
Colin Lambert: Which I'm sure you've really enjoyed
over the last couple of years.
Kate Finlayson: Yes, it's kept us busy.
Colin Lambert: Yeah, I'm sure it has is. It's even
kept me busy which is quite remarkable. I mean, obviously regulation did
feature, but there were variations across the asset classes in terms of how
concerned or how big an impact respondents thought this would have.
Kate Finlayson: Yes, it was interesting to note that
commodities was up there in terms of the focus. We could be here all day. I'll
just mention a few that probably sprang to mind which is a resulting aside from
the fact obviously the survey was completed by traders in 65 different
countries.
Colin Lambert: And 4,000 of them as well.
Kate Finlayson: 4,000, that's another observation I
thought was remarkable. I think when we look at the fact that across all those
different locations where you may have regulators that would impose particular
trading limits, volatility control mechanisms, the derivatives exchanges, that
is obviously something that could be sparking that particular concern, but
there's much more. So commodities actually sits within the framework, a much
broader frameworks like MIFA II. And so post Brexit, wholesale market review,
et cetera, where we've had the FCA take a look at what is the regime around
position limits for commodity derivatives? How does that function? How do
trading venues get involved and so forth? So that is currently underway. Plus
we have the same review in the EU. The US did this a few years ago, but an
interesting one in the US, the CFTC has got new block and cap thresholds which
come into play for commodity swaps, as well as other asset classes in July. And
then you have energy, not to forget the regulation on wholesale energy markets'
integrity and transparency, and it involves tech change, operational uplift,
legal requirements. It also encompasses algorithmic trading and for the first
time, looks at physical commodities. So spot and bilateral, physical OTC
markets. So a lot going on there. Plus then you have emissions trading, so
compliance markets and EUAs and everything that's going on there. Precious
metals, we even have the Financial Market Stability Board looking at what
frameworks can be used that can be leveraged for precious metals markets as
well. So quite a bit just in the commodity space. Hence maybe the tick in the
box there.
Colin Lambert: Yes, and I'm also thinking to myself
you've just told me I'm gonna be writing about
regulation for another two years. I'm not quite sure how I feel about that yet,
but we'll get round to it. I mean, they were actually focused regulatory
concerns. Are there wider trends that you think are emerging that we should be
aware of?
Kate Finlayson: I mean, I think there's always been a
focus on transparency and the like of that type of focus from regulators. I
think trend-wise, we've had for some time recently, specifically around the
cost of capital requirements, so that is where we've had prudential frameworks
in place, the rollout of Basel III reform and the implementation. Recent
proposals from US agencies which could be particularly significant. I must say
it's not just the look at the cost of capital requirements as the regulators
also assess where there have been particular elements of dislocation and
particular elements of volatility, what is going on in the non-bank financial
intermediation sector and that's really interesting because that looks at
everything from liquidity management tools to actually the use of leverage in
the system and margin. So this is the full gambit in terms of money market
funds, open-end funds, hedge funds, and the use of leverage. So the FSB, their
book of work on that is going to be really interesting as that develops, but
that is a morgan ma particular trend which is noteworthy. And then of course,
one looks at the developments with respect to margin CCP, the clearing houses,
recovery, resolution, margin again, coming into play. And then not to leave our
friend AI out of all of this, we just had the European Union members agree
their Artificial Intelligence Act and that's sort of one of the biggest first
frameworks. Very broad, but extending across the use of AI and the CFTC has a
request for comment on the use of AI in regulated markets. So quite a bit going
on there.
Colin Lambert: Well, I guess, I mean, there's quite a
lot in terms of development as we've already discussed and as the edit actually
shows, so I guess it's inevitable the regulators do have to pay attention. It's
probably nice to actually see the regulators trying to get in front of it
maybe.
Kate Finlayson: Yeah, well, I mean, it's a question
of staying in lockstep, or catching up, or ensuring that the use is for good
and that their appropriate controls and oversight in place so that, because
it's obviously developing at pace and obviously a lot of potential, but just
what are the controls that need to be put in place there?
Colin Lambert: So just to close out and to put you on
the spot, probably my number one observation from the edit in 2024 was, and I
say this with a tear, that foreign exchange is no longer gonna
be the most automated asset class in 2025. If the traders' predictions are
correct, it'll actually be third after commodities and...
Kate Finlayson: Rates.
Colin Lambert: Rates, sorry, yes, I'm glad one of us
knew, but that's what stood out for me was actually how the other asset classes
are really caught up and may only just outshine foreign exchange. What would be
your sort of key takeaway from the "2024 e-Trading Edit?"
Kate Finlayson: Well, just to comment on the FX piece
there, obviously FX is more advanced. It is certainly more commoditized in
terms of the data that's been available, pre-trade, at-trade, post-trade
analytics. The use of algos and we see that increasing, so obviously comfort
levels there increasing and there we have development of the types of algos
that can be used and the data that's available to assess. So I think FX is
still, I mean, spot FX, just to mention, is the obvious, but NDF algos as well.
And then looking at FX options, there we still see predominantly around 90% in
terms of tickets still happening on single dealer platform. And so that still
is very much the main mechanism, but FX is continuing to advance and so it
absolutely hasn't stopped its progression.
Colin Lambert: Very glad to hear that.
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Kate Finlayson: Oh, the other thing I wanted to just
quickly say is for me, just in a holistic basis from the survey, is that just
you mentioned 4,000 traders. The reach, the number of traders that have
participated across all of these different asset classes. No longer, as you may
say, the FX story, but the engagement across asset classes in electronic
trading, and the use of of platforms, and different
forms of electronic trading, for me, was the standout observation from the
survey.
Colin Lambert: And I guess it's nice actually having
spoken to you now, that yes, whilst there's gonna be
some sort of homogeneity come from the increase in electronification across
asset classes, they all do have their nuances still. So actually there's still
that opportunity to differentiate and innovate in individual asset classes
which I think is quite nice to hear.
Kate Finlayson: Absolutely.
Colin Lambert: Kate, something else I thought was
quite interesting in the survey was the respondent's opinions on what makes a
good platform. There was obviously data analytics. User friendliness was quite
important which is something I've been very keen on over the years. I mean,
what were your observations around that? And also I guess does this highlight
the benefit of a single dealer platform?
Kate Finlayson: I think when one looks at some of the
benefits that they look to achieve from using a platform, that depends on what
technology they're using to interact. So if it is with the GUI, if it is
direct, then clearly the user friendliness of the platform is going to be key
so that they can actually interpret what is going on, so that's understandable.
Where you have market participants that perhaps are aggregating or have API
connectivity and are looking to almost in a way form their own club, customized
club, then getting that data in will be absolutely pivotal. And so to the
extent that they can get data that is usable from those platforms, then clearly
that facilitates that analysis that they need in order to make the best
informed decisions from an execution perspective. And that is something
obviously, on J.P. Morgan Markets and execute and that is a key functionality
that we look to achieve and always constantly evolve.
Colin Lambert: Certainly I must admit from my point
of view, that interactivity of execute in particular which is the platform I
know best has always sort of demonstrated the value of a single dealer platform
because there have been questions over the years about do we really need them?
But I think when it comes to actually trade planning for want of a better word,
I think it still can't be beaten.
Kate Finlayson: Absolutely, when you look of the fact
that you have less information leakage, that we have all of that J.P. Morgan
liquidity sitting there, yes, it is another tool in the toolkit but
fundamentally still prevalent for some asset classes and very, very useful.
Colin Lambert: Yeah, Kate, fascinating as ever. Thank
you very much for your time today. Thank you everyone for watching and we'll be
back again very soon, thanks a lot.
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