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Ripe for evolution: designing a new trading model from scratch

David Nicol, CEO of LedgerEdge argues for a new, more nuanced and logical trading ecosystem for the corporate bond market

Could you imagine how difficult it would be to keep bond markets running during the pandemic, if traders were still in open outcry pits? Luckily the trading world is well past coffee houses and shouting masses: we’ve adopted telephones, then computers, then the internet as those innovations became available.

The old ways still work, but the real market winners excel past their peers through proficiency with better tools and methods. New tools and methods are available now, and the corporate bond market is ripe for an update.

Trading is a search for opportunities to profit from varied price convictions. All trading styles and strategies manage liquid and illiquid assets differently. Most bonds today don’t trade 10 days after issuance, and the top 1,000 most liquid bonds account for the majority of trading volume on any given day. This liquidity is pooled in the most advanced digital platforms running today.

Most banks are aiming to auto-quote 10,000 different assets. Once you move above 3,000 in variety or 1 million in size then the science of trading becomes more of an art — calling a relationship or sending a Request for Quote (RFQ) to a few counterparts.

When devising a new trading ecosystem, we have the opportunity to think more holistically about what users really need, and what they are trying to achieve when they engage in the trading experience. We have the benefit of being able to design trading protocols from scratch. And we think it’s going to look a bit different from what is used today.

“The old ways still work, but the real market winners excel past their peers through proficiency with better tools and methods.”


Better than phone a friend

We believe there’s a better way of trading which moves away from the pooled liquidity model using the blunt tools of either pinging to the whole market, or calling up a friend.

The market needs a trading protocol that is more nuanced and more logical. Previously adopted innovations in the FX and equities markets around different types of protocols point the way to a better model.

At LedgerEdge we have the remarkable and unique opportunity to build a corporate bond market from scratch. This would entail:

1. The ability to express ideas in the market at varying levels of detail: Anything from a high-level description of risk (I am buying German autos), to a specific (I am buying $1m in BMW 5-years at price $100). Giving the user the option to share this with the market without calling a broker is extremely powerful.

2. Sharing an order in the market only with segments that you want to disclose to. In the past this was only about relationships — a blanket policy. With our ecosystem, the user can describe the conditions under which an order will be revealed, adding logic to assess potential matches. These could be price, size, or commitment thresholds, for example. This will significantly reduce market impact and specifically target where liquidity is shown.

3. Setting targets and matching conditions based on counterparty behavior and activity scoring. Using data contribution/extraction scores and user reputation scoring to decide which users can match with you.

4. Allowing users to share order data in the way that makes sense for them, using all of the most popular protocols: list trading, portfolio trades, RFQ, streaming, etc. And allowing users to put a commitment against each one, clearly communicating which trades are indicative and which are firm.

The user always wins

With the foundation of a distributed architecture, these features are now possible to implement. Users will find it easier to express and execute their needs in the market — a significant step beyond ‘spraying’ data into the whole market with limited direction and feedback.

Building a new trading protocol, from the ground up, enables the market to build a trading environment which is truly intuitive and efficient — something that has already happened in FX, Equities and US Treasuries. We believe the corporate bond market, one of the most important markets in the world is also ripe for evolution.

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