Trading Tomorrow - Navigating Trends in Capital Markets

Track these Trends: 2024 Market Insights with Coalition Greenwich

• Numerix • Season 2 • Episode 11

Share episode

Influenced by technological innovations, regulatory changes and evolving market dynamics, the 2024 global finance landscape continues to rapidly transform in front of our eyes So what are the trends you need to be tracking?

Host Jim Jockle of Numerix is joined by Kevin McPartland, a renowned market structure and technology expert who’s currently the head of market structure and technology research for Coalition Greenwich, a division of CRISIL. During the first episode of season two, Jim and Kevin discuss the top market structure trends to watch for 2024.

Jim:

Welcome to Trading Tomorrow navigating trends in capital markets the podcast where we deep dive into the technologies reshaping the world of capital markets. I'm your host, jim Jockel, a veteran of the finance industry with a passion for the complexities of financial technologies and market trends. In each episode, we'll explore the cutting edge trends, tools and strategies driving today's financial landscapes and paving the way for the future. With the finance industry at a pivotal point, influenced by groundbreaking innovations, it's more crucial than ever to understand how these technological advancements interact with market dynamics, from the transformative power of blockchain and secure transactions to the role of artificial intelligence and predictive analytics. We're here to ensure you stay informed and ahead of the curve. Join us as we engage with industry experts, thought leaders and technology pioneers, offering you a front row seat to the discussions shaping the future of finance, because this is Trading Tomorrow navigating trends in capital markets, where the future of capital markets unfolds. At the point of the year, we're wrapping up Q1, and, like always, we've got our eyes peeled for what's next. So for this episode, we're diving into something that's got everyone buzzing the ever-changing world of market structure trends. As we make our way through 2024, the global finance landscape continues to rapidly transform for our eyes, influenced by technological innovations, regulatory changes and evolving market dynamics. So what are the trends that we need to be tracking?

Jim:

Joining us with his expert opinion is Kevin McPartland. He's a renowned market structure and technology expert with nearly two decades of experience in the capital markets industry. He's currently the head of market structure and technology research for Coalision Greenwich, a division of Crystal. With two decades of capital markets industry experience, kevin is an expert in market structure, regulation and technology impacting the fixed income, fx and equity markets. His career spans notable roles at BlackRock, tab Group, jp Morgan, ubs and Deutsche Bank. He has also significantly contributed to regulatory discussions, including testifying before the US Senate's banking committee and the Commodities and Futures Trading Commission.

Jim:

Kevin also happens to be the perfect person for this topic. He's one of the members of the team from Coalision Greenwich that looked into this topic, recently publishing the top market structure trends to watch in 2024. The report, based on conversations with clients and ongoing research, predicts the trends that will be top of mind in 2024. So, kevin, thanks for coming and joining us today. Thanks for having me excited to be here. So let's just start with the basics. Why is it important to be tracking market structure trends?

Kevin:

So market structure really is how the market works and what can impact how the market works. So everything from technology innovation, which I'm sure we'll talk about the impact of potential regulations and really just how behavior changes right Sort of human nature and what impact that'll have on the market as a whole, and so that's what we keep an eye on and that's obviously a multifaceted sort of view of the world. But all of that sort of impacts in the end how products trade, how people can invest and what we expect to come next.

Jim:

So I'm going to start with the elephant or donkey in the room. We are now officially in a US election year and we're not going to get into politics, but the big question is how might this impact the regulatory landscape across the financial sector?

Kevin:

Yeah, I know we certainly shouldn't get into politics and the polls don't seem to be able to predict the outcome, so we're not going to try to do it either. So, yeah, I mean, I think the big focus, at least for us looking at the capital markets, has been the activity at the SEC. They've been very, very busy recently passing new rules that require treasuries to clear. There's a whole slate of proposed rules to change the equity market. There's crypto ETFs. The list goes on and on and on. It's a very aggressive agenda, probably the most aggressive in years.

Kevin:

So the presidential election if we're thinking specifically about financial market regulation, I think that's the biggest piece. Right is sort of what will happen at the SEC. So if the current sort of chairman stays in place assuming a Democratic president, that agenda he'll have plenty of time to go. He actually can stay at the SEC until 2027. So he'll have plenty of time to do what he wants to do. If it ends up being a Republican, pretty likely the chairman will change and then with that the whole agenda could change as well. I think the other part worth mentioning sort of goes back to capital requirements, which I know is something important, to numerics and what you guys offer to clients. But that also could change, right, whether or not banks are being told to hold considerably more capital against their positions versus less, and in some ways that feels like it shouldn't be a political debate, but of course these days almost everything is.

Jim:

But regardless of political change, right or wrong, the last time we had a Republican in office there was this perception of all regulations are going to go away. A lot of these are just far gone conclusions they're in process of being implemented. Perhaps there's areas of where things could slow down, or maybe new things aren't introduced, but certain things are foregone.

Kevin:

Conclusion correct yeah, no, I think that's right. So I brought up treasury clearing. That's passed, that's a rule that's not going to go back. Perhaps the implementation date could change or there's other regulations that are still in flight that could impact the size and scope of treasury clearing. But you're right, that won't change the focus on the safety of the banking system. Clearly that's not going anywhere, nor should it. But again, it comes down to the details, and small tweaks to sort of the supplemental leverage ratio and how things are calculated could change quite a bit and how the market functions and how banks operate and how profitable or not they are. So that's your right. Really, the changes are around the edges, although those changes around the edges can be quite impactful.

Jim:

And you talk about profitability and one of the things I do want to talk a little bit about is private capital and some of the shifts there, but we can get into that in a little bit. But I think one of the trends towards tighter access to cheap capital has been a popular discussion was discussed in the report that the team produced. What are the driving factors behind this and how is it influencing the financial market?

Kevin:

Well, the obvious is that interest rates are higher, borrowing money which a lot of the money used on Wall Street is effectively borrowed, so the cost of doing that is quite a bit higher than it was. So if you're paying 5% now, you used to be paying almost nothing, so that alone is a big additional cost. And then for the banks again, so that cost is higher. And then if you layer on top of that the SLR calculations, sort of rules around risk-weighted assets etc. The cost of doing certain activities is higher than the cost of doing other activities.

Kevin:

And with a limited balance sheet to put to work, they have to decide where they're going to put that money. Do we put it with the leverage loan team? Do we put it with the bond team? Do we give it to the equities group? And they have to make those calls based on where we are in market cycles and really where their return on equity is.

Kevin:

Because in the end, just like any other public company, they're out to generate returns for the shareholders, and so they have to allocate capital as such. So for certain businesses it's going to be hard for them to get their hands on capital, because the only way they do that is to generate enough returns to make it worth it. The other thing we talk a little bit about regulations and new capital requirements that continues to stick with me is we hear a lot of talk about improving liquidity in certain markets, particularly US treasuries, but then, on the other hand, regulators are asking banks to hold even more capital in reserves, which then makes it harder for them to make markets and things like treasuries. Either we need to find a compromise or you need to pick which you want, because really, the way the rules are proposed now, it doesn't seem like we can have both.

Jim:

So, obviously, the growing cost of capital is an issue. What innovative strategies are financial institutions employing to adapt to this situation?

Kevin:

Right, and maybe I should ask you that question. But I think centralizing or creating a more singular view of how the capital is deployed and what those returns are, has been a huge need, especially for the largest global banks, the big names we all know. They're so global, they're so diversified. Now, most of them were built up over many, many acquisitions over many, many decades, and so you know, systems came, synopsis, technology all came from all of those acquisitions and for a long, long time, a lot of those businesses operated in silos, and the most sophisticated amongst them have really put a lot of work into creating technology that allows them to look across the organization nearly in real time so they can allocate capital more efficiently. So I mean, I think that's a lot of it. Right is managing it better. It's almost like you know, even if you know you're not going to get a raise, you probably can make your money go further if you track it better. In some ways I'm oversimplifying, but really right, that's, I think, what the banks are doing.

Jim:

So the answer to everything is QuickBooks.

Kevin:

Right, that's. All they need is a good QuickBooks account. So you mentioned technology.

Jim:

Obviously there's the technology hype cycle, the AI, the, you know, the cloud. Are there any particular technologies that are being transformative to these institutions, especially around capital management?

Kevin:

It's so cliche to say, right, it's hard to ignore what's going on in AI. I think if we went back I don't remember when distributed ledger or sort of blockchain conversation started maybe 2015, 16. It's going to be 11, but yeah, wow, yeah, maybe we're just getting old, but so so you know, that was an interesting conversation. I think there's still opportunity in distributed ledger.

Kevin:

But if we were to compare right now the impact, the potential impact, say in the next five years, of Blockchain when it sort of first came on the scene, versus the conversation about AI, ai now I'm a lot more excited about AI and and part of that Perhaps it's because you can see it and feel it like once we all, once there was a consumer application that allowed you to Sort of do these incredible things and have a machine answer you and give you results, write code for you, right press releases for you, whatever that really, I think, opened a lot of people's eyes as to what this could do. No, I, obviously isn't new. I think I took an intro to artificial intelligence class in college in the 90s, which I don't remember any of. But but all all kidding aside, right, like the immediate impacts feel much more Gigantic than what distributed ledger will do over time and I encourage you to listen to you all of the Podcast in a series.

Jim:

We had a great conversation on AI the other day and I think one of the fascinating things was the way in which it's Integrated integrated in our phones, integrated our desktops, right as compared to some of those earlier AI initiatives. And you're absolutely right, it's not new, but it's just integrated in the. The interaction with it is quite seamless.

Kevin:

Sure, like we've been right. I mean, even you know Google searches for years and years and years. You know there's AI under the covers or talking to Siri or Alexa. Obviously there's AI under the covers. It's just so much more in our face now and it's becoming institutionalized. So you know the the sexy things to think about are like automated trading and quant investing with AI. But I think the more realistic things to talk about are Post-trade and compliance right, taking, you know, a process where you have, you know, trade breaks or other errors, to not only have the technology that can raise the exception for a person to handle, but actually to then handle the exception based on its experience over time. So there's yeah, there's just huge Room for efficiency that can be added, I think, with the technology.

Jim:

Well, one of the the the themes that has emerged that I find particularly interesting is not around a technology, but it's workflow automation, and it seems to be popping up even more than any of the other buzzwords. You know what? What do you think's driving Behind this trend?

Kevin:

it almost sounds like boring when you say it out loud or like something a consultant would say right, workflow automation, but it, but, it's, but. It is very real, right, and it is something that just comes up over and over again. We had a conversation, even with a Sort of a very big hedge fund, right, one where you would think they're gonna talk about using AI for quant models, and that was one of their priorities for the year was in improving workflow automation, right. So this is a very real trend. The one of the first places where it really came to my mind was in electronic trading, in the fixed income market, which is something I I'd spend a lot of time on.

Kevin:

For years We've been focused on you know how much volume is going through the platforms and what protocols are being used for the trading, but it really feels like the conversation over the last two years is migrated away a little bit from those nuances and focus more on end-to-end Automation, right. So everything from pre trade data to, yes, sure, the trade part, but then flowing downstream and, you know, clearing and settling and risk managing and then taking that data and feeding it right back Into the process, so there's sort of less and less room for human error and even you know sort of human intervention. There's still a person at the controls but but there's less cutting and pasting and manual work than there was before, and so that really has expanded. And I think it probably was the pandemic and the working from home that really accelerated the push. But even now that people are back to work in the office, you know much more again.

Jim:

Now you can't unlearn what we know in terms of making processes better one of the things I that is interesting that you said before was, you know, looking at access to capital and return on equity. And you know, I think one of the byproducts of regulation is is compression on margins across different desks, right? So I think you know. One of the other trends that I've read from you is around access to private markets. Where are we in that trend, especially for financial institutions?

Kevin:

Yeah. So I think there's a an economic element here and a technology element. So the economic element is there are a lot of we talked about right bank banks having Limited capital. They have to decide where to deploy it, even after. So, I think the collapse of SVB Really put a light on regional banks and their ability to lend and who they should lend to.

Kevin:

And so there's a lot of folks out there, a lot of maybe small to mid-sized businesses, who are having a hard time getting the bank lending that they want, or maybe they're not getting the interest rates that they hope for, and so private capital is stepping in. And then even for larger businesses maybe that are less Sort of credit worthy, for instance, or again they don't like the terms the banks are offering they're starting to look to private markets. So there's that natural demand, and then you then also have sort of capital that's looking for a place to go to generate Good returns. And so in the sort of pretty covert era when interest rates were zero, it was a search for yield instead of zero. Maybe you get five percent. But even now, in this higher interest rate world, instead of getting five percent for treasuries, you can get 12, 13, 15 percent Sort of in for certain private market investments. So demand and supply, that's the economic part, the technology part.

Kevin:

And we we wrote a little bit about Sort of access to these markets improving. That's where the technology comes in. So it's funny, we talked about distributed ledger, but the idea of being able to tokenize those loans and then sell pieces off to accredited investors, that has certainly helped Really, the ability to tokenize real-world assets in general. But you know, this sort of these kind of loans are a great example where the the mechanics and of managing that and who owns what and who gets what interest payments, the technology's made that easier. And then you know the other bit is ETFs, which seem to come up in almost every conversation. We have about everything lately. But the fact that you can buy an ETF that has that, the ETF to find to invest in those private markets, in those private loans, right, that has also increased access. And and you can do that quite cheaply, right, etfs. You pay, I don't know, 1% maybe on an ETF like that and then there you are, you're invested in private credit.

Jim:

So what? What part of the ecosystem still has to evolve, especially around private credit. You know when I think of just the bond markets, you have the rating agencies, you have, you know, so many other Players that make the the entire market efficient. So what? As well as strong regulatory guidelines, you know where are we now? In specific to private market and private market access, you know what else needs to evolve.

Kevin:

Yeah, financial markets tend to get nervous when sort of new products grow very quickly, especially given the you know history, the last 20 years of history, right, when things get too big, too fast. So I think there's, you know, some people that are a little nervous In that regard. But then, on the other hand, I've had so many conversations of you know these markets are here to stay. It's only gonna get bigger. So you're right. So what's missing? How do we in some ways institutionalize, you know, the private markets, private credit markets. So I think you're right. I think regulators will, over time, get their hands around how this works and maybe put some guardrails in.

Kevin:

The other thing from a piece of research we published back in October of 23, one of the main things that came out of that asking investors in private credit what they wanted or what were their barriers to expanding their investments in private credit were Information about the investments effectively. So data. The primary source of data right now on an investment is from the manager, right, not from a central source, not from a trade tape or like we have in public markets, but from the person selling you the investment. They're the ones telling you about it, right? So better access to data, maybe more standards, more centralized access so people can understand the risk that they're taking when they get in. I think that's a that's a huge piece of it and we will absolutely see a focus from the, the big data providers, to try to try to Improve that access.

Jim:

So I want to go back to a research report you did. Oh, years ago at this point we talked about it. It was a survey on the electronic markets and the. The argument was markets are getting fit, we're getting more efficient, but it's a relationship business. You know. Phone calls, you know, and and brokering deals over the phone's never gonna go away. If I had a rewind your mind back to that report, to where we are today with the theme of workflow automation, you know where would you know? What would you rate the operational efficiency of financial institutions at this point, at this point in time? And and where are some areas? Do you see immediate improvement?

Kevin:

Well, I guess, if we, if we focus in on that, that data point in the bond market maybe back then it was Scala 1 to 10, maybe it was a 3 now, maybe we're at a 6 now. The thing I think that hasn't changed is that it is still very much a relationship business. So, for instance, we did some research in the fall of last year Looking at how block trades are done. Right, still, mostly over the phone, right, we asked the buy side what's the most efficient way to get a block done and they said phone or chat. Right. And this is in a market where, you know, investment grade corporate bonds, 40% of the volume is traded electronically now. So it's come a long, long way and so that, so that that moved us a long way along.

Kevin:

And then the the other P, actually some some new research we have in publish it. But we asked fixed income investors, what's the most important piece of technology for you on any given day on your desk? The number one and number two answers were market data, terminal and chat. Right, so not algos, not data, not, you know, even the trading venue, front ends, but market data and the chat Right, which are human.

Jim:

I would have gone with a good quality screen, but yeah that makes sense to fair.

Kevin:

Fair enough, wide, wide screens. They need those to fit all those, all those screens on. But so, yeah, I mean there's, the things are way more automated and efficient, but there's still a person sort of driving the car effectively. Well, that's.

Jim:

That's good to know, because the thesis with AI is none of us will have jobs anyway. So it's good to know the human elements still there.

Kevin:

I think our jobs will just get more interesting right with it. We can automate more and more and focus on Right, the, the better stuff, the cooler stuff.

Jim:

I hope so but, you're a lot smarter than.

Kevin:

I'm you know, being optimistic.

Jim:

So we've come to our final question of the podcast and we call it the trend drop. It's like a desert island question, and if you could track only one financial market structure trend, what would that be?

Kevin:

Yeah, I mean, I thought, I thought about this For the last 24 hours since I knew it was coming, and it was hard to come up with a single answer.

Kevin:

One of the things I thought about was ETFs, but like, over time, that market so mature and getting even more mature that if I had to pick only one, eventually that maybe will just become a fact of life and not a and not a, not a sort of fast-moving trend.

Kevin:

So, you know, we probably go back to sort of the general idea of automation, of workflow automation or which, again, I hate saying it because it sounds so, consult me but like the idea of your the process of markets on a day-to-day basis, like less and less cutting and pasting, less spreadsheets, you know, less emails, like more where you, you know you do what you need to do and you're only focused on the interesting parts, right where the portfolio managers use their big Brains to think about what to invest in. But everything else, once they, you know, submit the box or they talk into the microphone, like sort of off, it goes right and there's just more and more Automation and that seems like where we're going and that that story is, you know, has sure we've seen a lot of change over the 25 or so, whatever years we've been working, but we're gonna see the next 10. We're gonna see just as much change. Well, it's the, the.

Jim:

The pace of change is staggering at this point, absolutely amazing. So, kevin, I want to thank you so much for your time and for your insights and, of course, how a lotion Greenwich. You can look up Kevin on LinkedIn. He's post Prolifically and always has some really good, interesting tidbits. Thank you so much, kevin. Thanks so much for having me. This was great Coming up next week on trading tomorrow, navigating trends in capital markets. Chat GPT has taken the world by storm, but will this popular technology disappear, giving way to more popular options, or will it become a staple of our future, permeating many industries? Join us for a fascinating conversation on the future of artificial intelligence with expert Adam Highland. It's an episode you can't miss.