Ongoing market volatility has led to a spike in popularity of portfolio trading according to trading platforms, dealers and buy-side traders. Market operator Tradeweb says it has seen the number of daily line items executed via in-competition (comp) portfolio trading increase by over 100% in March vs the first two months of the year.
“In these market conditions it has proven to be a very effective way of trading a lot of bonds,” says Enrico Bruni, head of Europe and Asia Business at market operator, Tradeweb.
Andrei Serjantov, global head of electronic primary and credit markets at BNP Paribas says, “We've seen a marked increase in the amount of portfolio activity by buy-side clients since the start of the crisis. Certainty of execution certainly seems to be one driver, particularly when liquidity on single bonds has dropped off, and I think clients like being able to execute everything in one go."
Portfolio trading allows an exchange of a basket of instruments, rather than single securities as are traded via other protocols such as request for quote (RFQ).
"I think it was tough to get RFQ done on screens so to get focus and responses in an efficient timeframe, portfolio trading served a purpose," says the head of fixed income trading at a major asset manager. "Outflows were heavy in credit markets and most asset managers handle outflows as vertical slices of portfolios so that type of trading matches up nicely with portfolio trading."
A challenge to the portfolio trading model is the additional pricing complexity it creates for the dealer, as they need to assess risk across multiple dynamics.
Angela Lobo, European head of e-credit sales at Morgan Stanley, says, "It needs an automated process, but it is a combination of that with balance sheet at a time like this. Sometimes these portfolios come in as block-sized trades and that means an algo is not enough. You have to commit balance sheet. Banks that have finessed this process over the last year are able to provide this service to client over the last two weeks."
For the buy-side trader it offers certainty of execution, which is typically more valuable for them in a market sell-off than trying to improve on price. That can deliver the pay-off for investing in more efficient and automated pricing for dealers.
"We are open for business; we have seen requests on platform, we have seen requests via spreadsheet, so there are a variety of ways to do it," says Serjantov. "We have done two-way rebalancing trades, inflows / outflows, across investment grade and high yield."
Market operator Tradeweb first launched a version of portfolio trading for US corporate bonds in 2019 which worked for bilateral deals in which dealers were not put into competition (non-comp), and then evolved into a protocol in which traders were put into competition (comp) which allowed buy-side desks to go out to multiple dealers in order to look for best execution. It has nine dealers supporting portfolio trading in Europe, and 12 in the US.
“It gives efficiency to the desk; instead of trading line-by-line across 300 names they can put the entire basket out to the street and move on. It also gives speed,” says Leland Clemons, head of fixed income, Europe at Tradeweb. “Because we have had this functionality in operation in Europe for five months, the nine dealers we have supporting portfolio trading are conditioned to respond faster and price this risk more effectively.”
It also crucially allows the transfer of risk for all instruments in a portfolio, at a point when redemptions are leading to securities being sold off. There is a risk that liquid instruments in a portfolio are sold off more quickly than illiquid instruments and as a result, a fund can reach a point where it is unable to meet its obligations, leading it to shutter.
“In the past you would have seen a lot of money managers first try and sell the most liquid assets, and with portfolio trading you don’t have to do that, you maintain your risk exposure,” says Clemons.
Lobo says that selling in portfolio trading was up until the week beginning 23 March 2020, but that has since changed towards more buying activity. She also notes that there has been an increase in portfolio trades but the number being successfully executed has dropped off. Consequently she advises that, for larger trades particularly, a discussion with the sales desk can be very beneficial.
"If you have a dialogue with the sell-side, in advance of engaging with portfolio trading, that will ensure better execution," she says.
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