The exchange plans to launch a new dark pool for US treasuries in 2014. Traders spoke with Michael Chuang, CEO of fixed income IT provider iTB Holdings and a former fixed income trader himself, for the implications of Nasdaqs move into the dark pool for fixed income space.
Traders: Can you share your professional background with us?
Michael Chuang: Ive been sort of a career fixed income professional, and certainly one who has seen a lot of changes since Ive been in the business in the mid to late 90s. I started my career at Lehman Brothers where I sold government bonds, interest rates, products and things of that nature, so I do know that treasury market fairly fair, fairly well.
While I was at Lehman, I also did some mortgage-backed institutional sales. Then I moved over to UBS where I spent a few years there before leaving sort of the sell side as a security salesperson and creating ITB as a technology provider for institutional investors dedicated specifically to electronic trading. Now my focus is on technology, how to help them via technology as opposed to how to help them pick securities, which is sort of my former days.
Traders: How has your background helped you?
Chuang: One of the things that inspire me to do something like this was that when I was in the banks, Ive always seen the value of technology and Ive always participated in the buildout of whatever innovative technologies that we will build within the banks. But the banks never really wanted to distribute such technology to their clients. They wanted to keep it for internal use only. Ive always seen the value that we got from such innovations. I said to myself, well, if we can deliver such innovation directly to the customer base, that would be a very valuable service. And so thats what inspired me to leave that side of industry and come over to the technology side.
Traders: What does iTB Holdings offer?
Chunag: iTB is the Execution Management System for fixed income. Our focus is exactly just that, unlike that of some of the other names you probably know about in the market. These are platforms that are sort of multi-asset, pretty much everything. But for the most part, they dont do much fixed income; whereas, were the exact opposite. Our focus is strictly fixed income.
We do not do anything else but fixed income because its a different asset class compared to everything else in the way it trades, the market structures and so on. That dedicated focus really allows us to innovate in the space and to be really both product as well as experts in the space.
Traders: We hear that NASDAQ is creating a dark pool for U.S. Treasuries. This is a very interesting move for NASDAQ because theyve been fighting the notion of dark pools for taking their volume. Are they joining the dark pools, as in if they cant beat them, join them at their own game?
Chuang: Well, I think its a sign of the times, right? I mean the business models and market structures changes and the established companies always have their turf to defend. But the innovative ones, usually you can fight them for some time and the innovative ones will eventually recognize that this is no longer just a trend. It is here to stay.
Traders: Is this a net plus for the fixed income trader? Do they need a dark pool specifically backed by NASDAQ?
Chuang: Absolutely. First of all, its always good to have more players offering innovative type of services for a particular market. I never see it as a bad thing. Theres always negative consequences of everything if you sort of pick at it long enough. But electronification all in all is a good thing for equities. Its a good thing for FX.
Yes, there are always things and repercussions that are not so great, unlike when you start trading faster also and youre talking about trading too fast. But overall, I think people have benefited from retail all the way up to institutional investors.
Traders: How will this help fixed income traders?
Chuang: Obviously, we are much further behind that of equities or FX or options but we are catching up quickly. I think NASDAQs focus now in fixed income is certainly a sign of the times. Its a sign of the times where the traditional equities market, its been maybe over tech. The amount of innovation is very incremental at this point. I mean it can only shave off an extra micro-second so much to where its irrelevant, right?
So the growth area there is going to be pretty limited, in my opinion, outside of expanding internationally. Domestically speaking, if you look at the asset classes thats really, really, really been under-penetrated for electronic trading perspective, its the fixed income market, and that is also a very, very large market.
Traders: All the new technology always goes to equities first, and after the collapse in 2008, the foreign exchange traders got some of the new tools because firms were trading in FX thanks to the volatility in currencies. Historically speaking the bond folks never really got the hot sexy tools. Is this changing or is this just a stop-gap measure?
Chuang: It could be a little bit of both. Im partial because I built a business and we continue to focus our business solely towards providing innovative tools in fixed income. Obviously, we see an opportunity there. Now, is electronic trading at this point the sort status quo? No. The status quo is to do things still manually and less efficiently.
Traders: Bond trading is still very tactile. Its still very hands on, very salesman-like.
Chuang: Yes, but the amount thats electronic is increasing more and more every single day. Were not even talking about years. It used to be every year its getting more electronic. Now, its every day. Market access has gone from 14 percent of the market in terms of executions, which is their electronic trading platform, to roughly 20 percent. This is over the last couple of years, so the growth is starting to really pick up.
Heres the interesting thing that were seeing: Were seeing a great divergence in terms of the folks and how they trade. Were starting to see divergence which is very, very interesting. I mean equity pretty much trade the same way at this point. Its all electronic and its all the same way. In fixed-income, you have the real sort of trading shops, the real aggressive proprietary trading firms and hedge funds, theyre starting to figure out and leverage of some of these new tools in ways that the other side of the market, maybe some of the big real money asset managers which are a little bit slower moving, theyre not going to be able to do this. Some of the faster moving guys are using tools that the other subset of the market dont even realize even exists.
Traders: For my final question, theres been some news about Janet Yellen coming in as chairperson of the Fed and the fact that tapering might be slowing down if not completely ending. What potential impact would that have on the bond market?
Chuang: Quantitative easing is starting to end and the possible easy monetary policies may be coming to an end. In terms of what thats going to do to the market, obviously, weve been in a bull market and bonds for 30 years, right? If there is growth in this country, which theres seems to be some, if there is inflation in this country, that jury is still out. We will know if theres going to be inflation. But at some point, the thesis will be that there will be higher risk to come especially when the Fed would end these easy money policies.
When that happens, youre definitely going to see a likely bear market of some kind in fixed income. Youre going to have retail investors move money out of fixed income in a much more major way via mutual funds or what have you, so youre going to see a lot more selling.
The market is really not set up for the selling, right? Historically, liquidity is much better. Dealers are the buyers of any resort because as a liquidity provider, their job is to facilitate order flow. And the dealers are now stepping out of the market.
So one of the questions thats really on minds of our clients is when the selling does start, how are they going to sell? And so that is something that were hoping to help figure it out, at least contribute to figuring out in the marketplace by connecting investors to each other so that its much more efficient for them find that liquidity as opposed to calling in to a dealer, that model is going to be a little bit more difficult when that dealer is not going to buy your bonds.
