COMPETITION STIMULATES FUTURES INNOVATION.

In nature, evolution happens at a glacial pace. Change is incremental, barely perceptible from one generation to the next. Market evolution, on the other hand, is an entirely different beast, with transformational shift sometimes occurring at lightning speed – but apparently not in all markets, as Andy Ross, CEO of CurveGlobal, explains.

Futures – the exception?

There’s no question that futures trading has come a long way, from the world of manual, pit-based trading with its open outcry and reliance on paper ticket audit trails, to today’s highly automated, systematised digital markets with their efficient STP.

In all other industries this level of automation has resulted in higher output, increased productivity and lower costs. Futures have certainly benefited from automation with resultant higher volumes – but costs have not gone down.

The reason for the higher total cost of trading futures is not strictly related to production costs, complexity or regulation but might also be the result of limited competition in the market. Traditionally, participants have had no option but to trade futures in the way they’re directed by incumbent operators of so-called vertical silo models.

CurveGlobal doesn’t share that philosophy. Not only do we offer our customers lower trading and clearing fees, we also make our market data freely available – an essential component of trading in today’s automated world.

Competition benefits the market

You don’t have to look too hard to see how competition has benefited participants in the FX, cash equity and OTC swap markets – tighter spreads, lower transaction fees and, most importantly, multiple ways of trading that suit the size of your position, time of trade or execution risk. But could this be adapted for futures markets, with the introduction of new, innovative products and alternative ways to trade? Or would it just fragment liquidity?

Competition in the futures markets isn’t a zero-sum game. Futures markets globally benefit from competition. Without competition, price quality and best execution usually deteriorate. In other words, participants need to be able to take advantage of all competing trading platforms – and not just one – if they are to achieve best execution.

How? Ask SONIA

A great example of competition increasing choice and liquidity is the Sterling Overnight Index Average, or SONIA, futures market. At least three major platforms offer competing contracts with their own unique characteristics. With LIBOR underpinning an estimated US$ 350 trillion in financial contracts, the transition away from the interest rate benchmark to the new risk-free rate, SONIA, by the FCA’s 2021 deadline is one of the greatest challenges facing the industry. The ability to hedge risk effectively is of paramount importance for ensuring a smooth, orderly transition away from LIBOR.

Is the market responding? It is vital that participants have access to a liquid and active futures market, which in all cases needs to align with regulatory requirements while supporting choice and enabling best execution. Just over a year since the launch of the Bank of England’s reformed SONIA rate, momentum is building and growing support from market participants is stimulating competition. This has prompted the development, for example, of fully implied inter-commodity spread functionality between three month SONIA and three month Sterling futures, making it possible to trade the two contracts simultaneously as a package, with no legging risk – crucial in the transition from LIBOR to SONIA.

As the SONIA market develops, we can also expect to see the introduction of additional SONIA futures contracts that will enable participants to trade shape in the SONIA curve – further supporting the migration from LIBOR to SONIA, and helping in the transition from a low rate environment to one in the future that’s likely to be characterised by higher rates.

It’s all about the customers

Although it’s taken time, we’re now seeing signs of healthy competition and choice in the marketplace – with different venues appealing to different segments of the market and their specific requirements. And while competition means that things might not always go our way – it always benefits our customers.

©Best Execution 2019
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