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Infrastructure

10:49 AM
Yuriy Shterk
Yuriy Shterk
Commentary
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Fragmentation Complicates U.S. Treasuries Trading

As new exchanges enter the fray and compete for the same Treasury liquidity, getting filled at the right price and volume becomes increasingly cumbersome.

For the U.S. Treasuries trader, the liquidity pool has never been bigger, but here's the catch: it's also more fragmented. As new exchanges enter the fray and compete for the same Treasury liquidity, getting filled at the right price and volume becomes increasingly cumbersome.

There is a clear need for solutions when it takes multiple interfaces within a single front end, or even multiple front ends, to trade across liquidity pools. Technology must play catch-up here so that functionality addresses this market complexity.

Exchange operators are seeing huge demand for futures and cash instruments as global conditions push traders to the perceived safe haven of United States debt. While demand increases, traders are also seeing a fierce contest for their attention with multiple new exchanges entering the cash and futures spaces in recent years. NYSE Liffe U.S. is the latest entrant in a highly competitive space where BGC, BrokerTec, CME Group, ELX, and GovEx also contend for Treasury market volume.

Traders clearly have excellent sources of liquidity, but actually getting to the liquidity expediently can be more challenging. In a fragmented market, where can you get fills at the best price while satisfying your volume requirements? Traders must care about this question, and technology should help identify answers that translate into executable next steps.

Consider the remarkable growth and demand in liquidity together with technological strides made in areas such as latency mitigation, algorithm development, and accessibility. Individual traders have affordable access to low-latency tools, black- and grey-box strategies which help them execute faster, and high-volume strategies so market prices move more rapidly. For a Treasuries trader, not only are best prices and quantities distributed across a fragmented market, but profitable opportunities can be fleeting.

To really capitalize on these developments, traders need to act quickly on opportunities regardless of location. This naturally brings us to the concept of aggregation; executing orders for nearly equivalent instruments across multiple exchanges in a single process. Traders have been aggregating liquidity pools in certain markets for some time. An example in the FX space is Progress Software's aggregation tool. This sort of platform provides foreign exchange traders an effective way to access maximum liquidity. When traders can spend less time worried about where to execute, they can focus more on price and quantify their objectives. We're now starting to see this capability become significant in Treasury markets.

With nearly fungible instruments, Treasuries traders may have exchange preferences dictated by commission rates or other specificities, or they may be entirely indifferent to venue and focused on price and quantity. In this case, without the right technology, working multiple exchanges toward a single goal order might require multiple front ends and even a certain level of computing ambidexterity. An imperfect scenario might be traders simultaneously operating two computers trying to get fills across multiple markets. This process decreases potential success as it pits human reaction speed against the speed of algorithms. It also increases risk. For example, if a trader works two separate orders to fill any given quantity, and must also manually modify order "A," pending the results of order "B," there is a a greater chance that they may over- or under-fill the order. With a complex spread strategy, we quickly move toward the realm of physical impossibility.

CQG has worked to provide traders facing the complexities of trading a growing and fragmented liquidity pool with a technological solution. Our aggregation tool addresses these issues by providing a single interface for complex order execution across multiple markets. Aggregation allows traders to design a strategy, set exchange and other preferences, and then send the strategy server-side for execution. Server-side logic quickly modifies orders in reaction to changing market conditions while removing geographic latency issues from the picture. By accommodating complex strategy design where an order might involve a synthetic spread of aggregated markets or even aggregated synthetic spreads, we've sought to deliver highly-flexible functionality that takes into consideration both the challenges and opportunities of trading a market with separate pockets of liquidity. With a tool like aggregation, traders can spend less time dealing with the logistics of accessing liquidity and focus more on trading objectives.

US Treasury market growth and continued volatility means traders are going to keep seeing numerous tradable opportunities. To what extent they can take advantage of these opportunities hinges partially on the degree to which technology providers recognize this new reality and offer new tools to help their customers function more effectively.

Yuriy Shterk is the Vice President of Product Development at CQG.

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