Candriam’s deputy global head of trading and head of equity trading discusses the challenges facing the European equity markets today – from portfolio trading and venue selection to T+1 and post-trade automation.
How are you handling the current market fragmentation for European equities?
I think it’s important to use a decent range of equity brokers and trading protocols to access diverse pools of liquidity in Europe. For European equities, transaction size and liquidity have decreased on the continuous markets of traditional exchanges over recent years, making the execution of large tickets challenging.
As such, it is essential to have a high level of flexibility and agility for the execution of large tickets in European equities, using both low-touch and high-touch connections to traditional brokers, technology-driven brokers and electronic market-makers; including derivatives specialists who provide an additional source of block crossing opportunities in cash equity markets.
This flexibility for order execution is even more necessary as liquidity has never been so dispersed across EU execution venues. On the one hand, market fragmentation has brought some benefits such as increased competition between venues and reduced brokerage commissions for investors, while on the other, it has made the EU liquidity landscape more complex.
In certain situations, portfolio trading can mitigate the challenges posed by liquidity fragmentation, like the risk of market impact or ‘slippage’ from an execution reference. For lists of buy and sell orders concentrated on a thematic area, portfolio trading sometimes offers opportunities for ‘natural hedges’. As an illustration, if a basket includes buy orders for liquid stocks in sector A and sell orders for liquid stocks with a similar beta in sector B, working these orders simultaneously can help minimise execution ‘slippage’ at the basket level.
How has portfolio trading evolved in an equity market structure which faces the fragmentation of execution venues in Europe?
For a long time, activities such as starting new portfolios, transitioning existing portfolios, or simply subscribing and redeeming fund shares, required the use of portfolio trades, with closing prices as the execution reference. With new technological developments, portfolio trading (PT) has become more sophisticated, supporting the growth of quantitative investment strategies, whether it involves market-neutral strategies (e.g. using derivatives like futures) or other quantitative approaches.
Over the past 15 years, the proliferation of trading venues in equities has accelerated the development of agency trading and sophisticated algorithms, particularly those dedicated to PT. The adoption of PT, then, expanded widely into other types of equities investment strategies, each with different objectives.
In recent years, it has been interesting to note that some thematic investment strategies, traditionally focused on stock picking, have been increasingly turning to PT for order execution, mixing low-touch techniques (volume-weighted average price (VWAP) or implementation shortfall (IS) algorithms) with a high-touch approach to trading blocks. Combining low-touch with high-touch solutions for PT looks a bit like a car assembly line, with both automated and manual elements that need constant adjustment based on volume.
In the case of a complex basket with ‘illiquid stocks’ orders showing a high percentage of average daily volume (ADV), the flexibility of PT also allows the exclusion of those illiquid stocks from the list to homogenise the basket and achieve the best execution for all orders. Before execution, it is sometimes necessary to determine what will be executed outside the basket (individual orders traded against indications of interests), and what will be executed inside a ‘reformatted’ basket.
What are your top trading trends for 2024?
In recent months, higher volatility following European companies’ results has been increasingly challenging for equity trading desks, and in 2024, traders will continue to find ways to navigate these particular situations. Most traders will also continue to operate in an increasingly technological environment, where high-touch trading is no longer considered as old-fashioned and is being reformatted to a more hybrid method of execution.
Liquidity in European equities will not be the only big theme in 2024.The US move to T+1 settlement will also be a great point of focus [this quarter] as this change is just around the corner (end of May). Due to stringent cut-off time for booking and settlement in the US, European asset managers will have to implement some form of automation in post-trade between their order management system (OMS), their middle-office’s trade validation system and custodian banks. The introduction of T+1 in the US will likely trigger a complete review of operational efficiency among asset managers, and require closer collaboration between them, their brokers and their custodians to ensure a seamless transition to this new regime.
©Markets Media Europe 2024
