Portfolio trading breaks into new markets

February 1, 2023

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Emerging markets are adopting PT to add efficiency to liquidity sourcing, writes Matt Walters of MarketAxess.

Portfolio trading has seen a lot of success and now it is expanding into emerging markets as part of its continued growth. Traders across the buy- and sell-side are finding new applications and situations in which it can be highly effective.

TRACE data in the US indicates that portfolio trading volumes increased by US$100 billion in 2022 versus 2021. That was led by taking activity from voice trading. The growth of our own Portfolio Trading volume has also been rapid – in 2022 we processed approximately US$92 billion of volume via portfolio trading, up from US$30 billion of volume in 2021.

While PT is a high touch trading protocol, it beats many other high-touch protocols for efficiency and trading at scale. That was seen most clearly when markets were in stressed circumstances. Engaging with counterparties via portfolio trading allowed certainty of execution for orders that would normally have been processed via a voice RFQ – whether competitively tendered or not – but became impossible to trade as no bids or offers were available.

PT is just as effective in calmer markets. It has now evolved to become a natural extension of list trading with day-to-day use for inflows, outflows and portfolio rebalancing where certainty of execution is necessary.

Knowing when to use portfolio trading

There is always a challenge to ascertaining when and how to best trade in both liquid and illiquid conditions. Our response has been to develop both our user interface and new data-driven tools such as Relative Liquidity Score and Tradability.

Our intent is to give traders easy-to-use, accurate ways to assess the probability of success of a given protocol, and where they can achieve the optimal execution, pre-trade.

Tradability is a great example – a new A.I. driven liquidity metric that generates a pre-trade prediction on the market’s capacity to immediately fulfil an order. A key use of Tradability, for instance, is to assess whether certainty of completion is most effectively provided by either Open Trading, through RFQ, or portfolio trading.

Our intent is also to help the sell-side to easily recycle risk into the market, which they can do using protocols such as Dealer RFQ. Because while dealer participation in portfolio trading is critical to its success, and to buyside execution confidence, and it’s not always been easy for dealers to engage.

When bid-offer spreads were tighter in 2021, dealers were engaging with portfolio trading because the ability to recycle risk was not a significant concern. Yet as bid-offer spreads widened during 2022, those dealers’ ability to recycle risk became much more challenging and we saw some step back. The good news is that, in doing so, many dealers took steps to invest in their risk management capabilities as well as increasing their algorithmic trading sophistication, which then resulted in a stronger pool of dealers pricing portfolio trades. In 2023 we see a greater number of dealers returning to portfolio trading as a result of their own investment in their front office operations and in the competitive value of participation.

Dealer participation gives buy-side desks confidence in the prices they are given and the delivery of best execution.

Better access to EM liquidity

This evolution has played out not just in US IG and HY, but also in Emerging Markets – markets for which we are the leading electronic trading platform. While EM products can have a challenging liquidity pattern, due to the fragmented set of markets that make up the EM universe, portfolio trading and request-for-market protocols are allowing electronic trading users to find liquidity and pricing more efficiently. Our EM PT volume grew 400% from US$2billion to US$8 billion in the last year, and as more dealers – both global and regional – are engaging with EM, our buy-side clients are seeing consistent and strong pricing.

EM Dealers that are algorithmically sound and can quote quickly and efficiently are supporting the full ecosystem of EM credit trading. There are established liquidity providers for hard currency, US dollar denominated portfolio trades and more dealers entering the space, with an awareness that in local markets the ability to settle baskets of trades is equally important as pricing a trade.

There is much to be excited about for both Portfolio Trading and EM trading, but still much to do. We’re running a series of roadshows in the coming months with clients and dealers across Europe and APAC, and are looking forward to finding out more about how we can continue to enhance the trading workflow even more.