FX market structure today looks a lot more like equities than it does fixed income, according to Koegler. Not only is the overall FX market looking a lot more mature, but the use of algos is also a lot more developed. Koegler explains that there are now a lot of buyside firms using algos, although there are also many buyside firms that have challenges in terms of understanding how to use algos in the FX markets and how to integrate them into their workflows. “This is where more of the growth will be in terms of algo adoption,” he adds. “More traditional buyside firms will adopt algos over the next several years if they can be integrated into workflows efficiently. Algo execution offers a significant value proposition for the buyside. The challenge for algo providers is to provide continuous innovation, high-quality execution, and seamless integration into workflows.”
These themes were explored during the dedicated algo panel held at TradeTech FX USA, where the leading mix of panellists discussed the potential issues which may be holding back greater uptake of FX algos by buyside firms. Moderated by Koegler, the panel featured Danielle Caravetta, Director of Global Sales at Pragma; David Kalita, Chief Executive Officer, Quantitative Brokers; Eric Brown, FX Trader at T. Rowe Price and Justin Sefchok, Senior FX Trader, Vanguard. Together the panel discussed how firms can effectively use algo analytics to better inform their FX algo selection as well as performance.
Ongoing algo evolution
Koegler adds that discussions earlier in the day, while more focused on the macroeconomic geopolitical outlook, had also explored the growth in AUM within the systematic trading community, which in turn is having a marked effect on FX market structure, including the adoption of FX algos. He explains: “Many systematic trading firms deploy algos in various asset classes, not just FX. Some firms prefer to develop algos in-house, while others prefer to use third-party algos or some combination of both. The movement of capital into systematic trading firms will contribute to algo growth.” Koegler noted that geopolitical risks are affecting the macroeconomic environment, which is impacting market volatility and will ultimately influence algo adoption.
“Data is also very much part of the story here,” Koegler continues. “More and more buyside firms are now looking at effective ways to automate their execution and front-to-back workflows. For providers that may have started out offering algos in other asset classes, there are now opportunities to expand into FX.” Relevant to the data discussion, Michael said that other buyside firms he advises have had incredible success in fully automating the execution process in other, non-FX asset classes like municipal securities – a very fragmented market with over 50,000 issuers and 1.5 million CUSIPS. Koegler said that those platforms are very algo-like and a precursor of things to come. Some clients he has worked with are now trading in volumes that are many multiples of what they were able to trade in the past but are doing so with a small fraction of the personnel. Every buyside firm he works with is exploring how to efficiently automate their execution processes. “One firm I work with now has the ability to scale their business without significantly increasing costs because they can execute trades much more efficiently,” he says. “The moral of the story is that as other markets adopt the automated execution strategies used in equities and FX, buyside firms will seek to leverage the DNA of algo providers, with their knowledge of market microstructure, to deploy algo-driven execution solutions”, he says.
In addition, as markets in different jurisdictions mature and become more liquid, there will be more opportunities for algo adoption, Koegler adds. Koegler also moderated a panel focusing on emerging markets FX at the conference, where a weaker U.S. Dollar and increased diversification into other currencies were two important takeaways. “The dynamics likely to play out this year points to an increase in liquidity for many of these EM currency and rates markets. This opens the door to increased trading volume and the potential to deploy algos in certain markets. This may be an opportunity that algo providers will be able to exploit in the future”, says Koegler.
Unlocking data quality
A further key point of discussion on the algo panel itself was how important differentiation and customisation is becoming for buyside firms looking to execute more with algos. Koegler explains that while participants might think that different algo providers would provide different results and different outcomes, the reality is that they are far more similar than many believe. “It is important for algo providers to differentiate themselves from the competition,” he adds. “This makes access to high-quality data and bespoke liquidity an important factor in achieving enhanced algo execution.”
“Aside from the point made about access to high-quality data, the panel also explored the importance of algo customisation and integration into a firm’s workflows”, Koegler says. He explains that many of the buyside firms that currently do not use algos might be more inclined to do so if they were able to better integrate the algos into their existing workflows. “If you’re an algo provider, this is where you want to focus your efforts if you want to appeal to new buyside clients,” Koegler says. “Providers should focus on innovating and demonstrating differentiated algo performance. They should also focus on customisation and integration into existing workflows.”
As a result, having access to high-quality data is critical, explains Koegler. The buyside needs to know what to buy and sell, where to get prices from and determine where they are going to get the best execution. Therefore, the ability to access high-quality data is extremely important, Koegler notes. Access to high-quality data across different markets and venues is extremely important when designing algos, he argues. The panel also spent some time discussing when and where to deploy certain types of algos. For example, there may be a situation where you start off with one type of algo and then realize it is not performing as expected because of a change in market conditions. Knowing when to change your algo strategy is important. This type of insight can be gained by experience or by analysing how an algo performs in certain situations. Again, this requires access to high-quality data. “These are themes that are very close to my heart,” Koegler adds. “The buyside clients I work with are very focused on data costs, data quality, and data governance. I also work closely with the EDM Association which has several frameworks related to data management and strategy. I use them throughout my consulting practice.”
Accessing unique liquidity was another area of discussion, implying that algo providers should focus their efforts on this as well. “Buyside firms are interested in finding pockets of unique liquidity,” Koegler explains. “Sourcing pockets of unique liquidity will enhance the efficiency and performance of algos. Finding those unique pockets of liquidity and providing continuous innovation in terms of algo design, will be a key to success for algo providers. If they continue to excel there, then they will prosper.”
