It’s been a while since I put my neck, metaphorically speaking, on the line with a prediction for our industry. It’s time to change that.
A big story in recent years has been the erosion of volumes at EBS, with both internalisation and lower volatility taking their toll. Another factor was the host of new platforms all taking a piece out of the EBS pie as they launched. The net result has been a story characterised by a seemingly eternal downtrend in activity on the platform.
I get the feeling, though, that the EBS story has run its course and the platform has “bottomed out” and that the window of opportunity for some of the newer platforms is rapidly closing.
I need to stress I am not predicting a return to days of $200 billion ADV on the main EBS market, but I do see a stabilising of the business, followed by a recovery. The main reason for this prediction is I sense a growing nervousness among e-traders around the world over market conditions.
The recent FX committee surveys indicated a decline in e-ratios, but I have to confess I view this with a degree of scepticism because there are well known allocation issues when it comes to where banks allocate trades under the reporting regime. The e-ratio is higher, especially in spot, than is probably indicated by these surveys, and, given the trouble over the Fix, likely to climb even higher.
This brings the e-trading teams at banks and non-bank market makers further front and centre – and more pertinently brings with it a desire for a more robust data framework, specifically the need for a stronger core market. Another factor in EBS’s decline in recent years, not a huge factor but a factor nonetheless, has been the proliferation of aggregation venues. These have enabled the voice traders and “clickers” to access a broader set of platforms’ liquidity.
If, as we all suspect, the human trader is likely to play a slightly reduced role in spot FX markets, the attention inevitably falls on the e-teams. Which is where my theory comes in.
The nervousness to which I referred earlier is about having adequate data to manage pricing and execution models, as well as, obviously, concerns over a growing lack of liquidity. The inter-linked nature of the modern FX market means that one cannot merely state that because 15 platforms are streaming in 10, there are 150 million units of liquidity available. Market makers are quicker now than they ever have been, so in the fragmented market that exists, they are better at making sure they only get hit on one venue (maybe two).
The problem is the illusive nature of the liquidity, which, to be frank is little new in the market, means that the quant teams that manage the e-trading businesses need a stronger core market. I argued last year, a little tongue in cheek I must confess, that a merger of the EBS and Matching platform was no longer unthinkable, may even be desirable. This is unlikely to happen, thus there is a growing understanding in the market that we need a stronger, deeper core market.
One solution that averts this need is of course, aggregated market data – another frequent argument of mine – but again, I don’t see that happening quickly; in fact unless the regulators push us that way (not as unthinkable as it might once have been), it may never happen. Equally, EBS could become a little acquisitive in nature over the next year or so, but the firm may wish to wait for “distressed” targets first if it can. Again, this may happen, but there is no certainty about it and traders’ impatience may win the day.
All of this leads me to agree with the suggestion, put forward by multiple traders over the past month or so, that there is a need to bolster the position of EBS and, if necessary, Matching.
EBS is, of course, taking its own steps to rebuilding the business and the early shoots, especially in the form of EBS Direct sound promising. That said, a rebuilding operation can only be helped by concerted and targeted support from a group of customers. I am hearing more and more from e-trading businesses that they are rationalising where they stream prices in an effort to reap the benefit of a stronger core market – and EBS and Matching are the core markets mentioned (typically with two from another list of three or four venues). There is a genuine desire to establish a core group of four, five and maybe six platforms as the bedrock of the market, but no more.
I don’t necessarily see EBS’s group of potential rivals disappearing, but it could mean some of those platforms at the margin that have contributed to the fragmentation of the market see volume numbers decline, rather than continue to grow. This may or may not lead to consolidation – personally I think it will – but it will focus minds and highlight something that will be a truism going forward.
To succeed in the multi-dealer platform environment of the future you will need to have multiple venues, across multiple products and they will all have to have good liquidity.
Pricing with the fragmented data across a group of platforms, all doing in the region of $5-10 billion, is getting tougher – it slows the process down.
To retain the support of market makers (both bank and n-bank but especially the former), these platforms need to exhibit stronger growth. I suspect that bank patience in particular, is running out when it comes to venues that cannot sustain growth and the solution that appears to be getting the most traction is to go back to a rejuvenated EBS.