The invisible hand of the markets
- Market still faulty despite many innovations
- Spread of trading venues means fragmentation
- Need for change more urgent than ever
By Matteo Cassina
Now is indeed opportune time to look at the topic of trading and the markets. On the one hand, markets appear to be entering a change in the cycle in terms of increased volatility and greater economic confidence. Trading, on the other hand, is at the beginning of a secular long-term shift which will irreversibly change the makeup of the market structure and so-called "power sharing" among key market participants.
In many respects, financial markets – and the world of trading as a function of the same – have changed beyond recognition this past decade. However, notwithstanding the electronification of the equity and FX markets and proliferation of free information through the internet – what we have today is a highly inefficient market.
Technology and information proliferation have helped but
the market remains deeply flawed. Photo: Spencer Platt
The availability of technology has lowered the cost of doing business, and a favourable regulatory environment (the original Markets in Financial Instruments Directive MiFID) has allowed a greater number of players to participate in trading activities in financial markets.
However, due to the proliferation of trading venues (again, due to MiFID) markets are more fragmented than ever, spreads continue to shrink to levels which would have been unimaginable a decade ago and the cost of doing business in the form of increased regulation and compliance requirements continues to increase. Add to this, is the lack of differentiation among market participants all providing similar services which means the mandate for change becomes more urgent than ever.
You may be forgiven for being less of a believer in the promise of free markets these days given the high degree of intervention we have seen in financial markets since the financial crisis. This challenge posed by a divorce between the markets and economic fundamentals has not only led to investors adapting their behaviour (and performance expectations) accordingly, but it has brought forward an inevitable rethink of the trading industry’s business models. Different firms, however, appear to be at different stages of their rethink.
Some market participants appear to be oblivious to this new reality continuing to cling onto unprofitable businesses in the hope that once economic recovery materialises, they will see a return to pre-crisis levels of activity. The savvier players, however, are already identifying the areas in which they have scale, liquidity and where they can provide value beyond what can be delivered by the competition and are changing their business models accordingly.
The invisible hand may have lost some of its ability to influence the markets, but it is already playing a key role in making trading more efficient. Greater competition has led to lower spreads and better prices for end consumers. The next stage in this highly commoditised but inefficient industry is the removal of overcapacity, with the survival of a handful of key players that have scale alongside highly specialised providers able to aggregate services to allow smaller players to retain their client base by outsourcing certain trading activities.
The financial services industry is often accused of being too "innovative" in terms of financial engineering but it is lagging behind other industries in terms of removing inefficiencies and overcapacity to focus on core services. This is about to change. It’s an exciting time to be in the trading industry, but only if you have understood the mandate for change and have embraced it to the benefit of your business model and clients.
– Edited by Clare MacCarthy
Matteo Cassina is head of business lines at Saxo Bank. Matteo will deliver a keynote speech on the evolution of markets and innovation at the #TradingDebates in London on October 22nd. Join the debates online by tweeting your comments to hashtag #TradingDebates and enter a competition to win an Apple iPhone 6.