Fixed Income TCA: A Competitive Differentiator

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By Laurent Albert, Global Head of Execution, Natixis Asset Management Finance

Building out TCA reporting for fixed income improves execution quality, raising at the same time the level of service for end investors.

Unlike traditional asset management trading desks, we serve our internal wealth management and asset management clients while also offering our execution expertise to external portfolio managers. As such, we believe we owe it to them to have the metrics on-hand. This is the reason why we have extended our transaction cost analysis (TCA) reporting from our equities trades, which we have been doing for years, to our fixed income trading desk.

We were looking for a pragmatic approach when searching for TCA support for fixed income. We quickly decided to choose an independent player and outsource these services. We are currently working with an established equity TCA provider, but wanted an integral player for the fixed income market. We received proposals from six or seven different candidates and selected one for their methodology and user-friendly metrics. 

This was a real opportunity to build a truly detailed report that would increase our ability to demonstrate value. It was also a chance to improve our best selection process. We realized that once we had a robust TCA solution, we could then integrate it into our pre-trade systems on the dealing desk. This now means we can provide additional pre-trade information to help the trader select the best channel for execution, and improving selection means best execution.

Defining the challenge
The first challenge to creating a TCA system for fixed income is to define it, as this is a new approach in the fixed income world. Given the complexity of the fixed income markets compared to equities, we needed to find a very simple solution for measuring this very complex asset class. The simple metric for analyzing our best execution in fixed income is to compare our execution price with a composite bid and offer. It is calculated as a mix between dealer streaming prices and a selection of executing prices drawn from a specified time frame. This allows us to compare our traded price with the composite price.

There are several analysis possibilities, once that data becomes available. We can assess the contribution of each bank by assets, or in a more managerial approach, we can use our TCA data to assess execution quality by each individual trader or instrument.

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The first step was to assemble a huge amount of data and structure it before sending it to our provider. Our mandate was to work on the data to deliver transaction competencies. For two months now, we have been sharing this report with our clients and the feedback has been very positive. They are surprised and curious about the results since it’s a new approach in fixed income. On average, if you can provide between 4-7 basis points in added value in government bonds over the last six months, this is acknowledged to be reasonable performance. However, if we can factually demonstrate a capacity to deliver 5 basis points of added value, this fact is important to clients given the percentage of transactions that are done at midpoint. In high yield or emerging market bonds, the TCA will provide interesting details about the basis point improvement, especially when it is much larger. This gives us the ability to rank by basis points our capacity to add value across fixed income instruments in simple metrics.

The challenge is to frame this data in an engaging way for fixed income portfolio managers. Whereas equity portfolio managers are well-accustomed to TCA, their fixed income peers are less used to it.   

Better benchmarks
We started with a pursuit of simple metrics based on the composite number, but that was merely the initial stage of TCA for fixed income, and our report keeps improving as we receive more feedback from our clients. A later stage could be to compare our execution quality with a global peer group benchmark across all fixed income assets. This would obviously make it more challenging for us, but our final clients will appreciate the capability, transparency policy and quality of our execution team compared to those of our peers.

For our fixed income TCA reporting, we currently cover a vast number of instruments, such as Treasury bills, asset-backed securities, high yield bonds, government bonds, non-rated credit, etc, which means that we have global coverage, excluding swaps and credit default swaps, but that will likely come soon. Each third-party provider has limits to their methodology, but we work with our partner to improve the quality and detail of the reporting across asset classes and to increase comparability between instruments. Some providers deliver no comparative data when the instrument is illiquid, but others interpolate and offer data drawn from a wider timeline.

While our investment in TCA has already yielded results for clients in the months following the launch, and we will continue both refining and expanding our reporting, there is always room for further improvement. For example, if tomorrow the fixed income industry came together and developed some type of an EMS (Execution Management System) to merge trading venues and systems across the same screen, it would immediately increase our ability to capture liquidity for our clients. Key players would need to integrate their information, but if such an EMS existed, it would significantly improve the quality of our execution. This would allow us to use algorithms as we do for equities and seamlessly connect to multiple venues.

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