ALGO UPDATE: GX2 to Offer Treasury Algos

Algorithms are virgin territory in Treasuries. Unlike in equities, robust principal markets are still available through dealers. However, buy-side firms, desiring anonymity and passive execution for some of their trades, recently have driven a flurry of activity in the space. Quantitative Brokers, a New York agency broker-dealer, recently started offering buy-side customers modified versions of its futures algorithms tailored to trading on fixed income interdealer brokers. Last year, Quantitative Brokers hired Rich Corcoran, previously of Direct Match, to lead sales to asset managers on the west coast.

Even dealers are starting to get in on the action. Credit Suisse has adapted its algorithmic offerings from its storied equities AES franchise to the Treasury market. Several other banks likewise have been exploring alternative execution models in fixed income after bringing in leadership from equities.

Why Now?

GX2’s own story is representative of market trends. In 2012, volumes and volatility were declining from crisis-era peeks. The cost of running a low-latency technology platform in fixed income had soared and only made sense for the largest of firms. Breakwater Trading, a Chicago proprietary trading firm (“PTF”), shut down its Treasury trading team and spun the technology out as GX2. Geneva Trading, another Chicago PTF, invested in the new company to first power its own traders and then to sell the execution capabilities to other Chicago trading firms who were facing similar cost pressures.

GX2s first product, spread execution, offered principal markets in a multi-leg Treasury and futures contract trade.The product found immediate traction in the PTF community as it allowed basis traders to execute with zero legging risk.GX2 expanded on the product with an agency execution version to handle larger trades on behalf of customers.

Market fragmentation also worked in GX2s favor. When the firm was founded, there were only two venues for Treasury execution, BrokerTec and eSpeed. Today, there are more than a dozen including new interdealer brokers, bank liquidity providers, and high-frequency liquidity providers. Technology costs have exploded. GX2 started offering its smart order router to clients to simplify their technology integration costs.

A New Way to Execute

Now customers are asking for different ways to execute to complement dealer liquidity, including common equities and futures execution algorithms like VWAP, TWAP, and Implementation Shortfall. GX2’s product leverages the algorithms it first built for internal risk management.

Jaberg is optimistic about agency algorithmic execution in fixed income but admits that there are still a number of problems to solve before such offerings go mainstream. The greatest challenge is getting the industry to standardize around a common set of benchmarks. “Each algo provider has its own TCA benchmark.” Second, BrokerTec’s dominant market share creates a challenge in calibrating execution algorithms to take advantage of inside markets. “Liquidity at the inside tick is growing pretty rapidly.” Platforms like BGC FENICS and the direct streaming providers provide a lot of quotes inside the standard bid/offer spread, but they still have limited trade volumes. “Markets move when trades happen.” As alternative platforms add liquidity, this problem should resolve itself.

After four years, GX2 is profitable according to Jaberg. More importantly, “We are having a lot of fun with the business.”

(Jim Greco is a Special Correspondent for Markets Media Group for the WBR Fixed Income Leaders Summit, which takes place June 6-8 in Boston. Opinions expressed are the author’s and do not necessarily represent those of Markets Media Group.)