Fixed-income trading analysis: What should you be looking at?

Fixed-income trading has always lagged behind equities when it comes to the quality of pre- and post-trade analysis.  Many things taken for granted in the equities space are scarcely, if ever, available for fixed-income trading, but this is about to change.

In this post, we will cover some of the latest analytical developments in the pre- and post- trade space, an area that will play a significant role in the life of fixed-income traders in the very near future.

Photographer: Hannelore Foerster/Bloomberg

Fixed income pre-trade

There are several challenges when it comes to trading fixed income, but one of the most important questions a trader should ask is whether they are choosing the best counterparty dealers when trading a specific instrument. In light of this question, it makes sense to look at historical trade performance and other attributes (i.e. size, ratings, maturity) to check each counterparty dealer’s capabilities.  A trader might have already formed a rough mental ranking of their respective strengths, but a picture based on data would greatly increase the accuracy of such analysis.  The following questions are important to consider:

• Which counterparty dealers have been ready to respond to requests on a given security?
• Which dealers have been reliable?
• Which dealers have performed well versus an independent benchmark?

This type of pre-trade analytical tool can help fixed-income traders identify counterparties that have provided the best trading experience for a given instrument, and thus enable them to reward those dealers with order flow.

Fixed income post-trade           

Fixed-income transaction-cost analysis (post-trade) has come a long way since the only analysis available was a simple comparison between dealt prices versus cover prices. In fact, with MiFID II looming on the horizon, using cover price as the only method of comparison would not adhere to ESMA’s guidance on best execution. A more robust approach would also employ independent price verification, not only allowing for confirmation that the best price requested has been chosen, but also that the price was in line with, or better than, prices from other market participants. Thus, when the pool of counterparties that a given trader has chosen consistently lags the broader market, this type of analysis will allow the trader to make an informed decision whether to expand or exchange some of the counterparties on the current dealer list.

In fact, the use of a range of benchmarks for execution analysis within fixed income has become increasingly important, allowing traders to assess the broader market for a given security, or when liquidity is not available, to verify the fairness of the pricing they receive from their counterparties.

This type of post-trade analysis will play an important role in the life of the fixed-income trader, as it can help traders monitor their best execution obligation, adjust their execution process based on real data and demonstrate value to their customers.