Market makers and traders must respond as the ETF electronic trading market structure matures.
The last few years have seen ETFs (Exchange-traded Funds) grow hugely in terms of trading volumes and the number of products. In the US, the number of ETFs has grown from 1100 in 2011 to over 1800 in 2018. Trading volumes have grown from $1T to $3.6T over the same period.
In Europe, driven by MiFID II’s increased transparency requirements, reported ETF trading volumes quadrupled last year, reaching roughly €2 trillion in 2018 according to Lipper.
ETFs are a distinct asset class. As a recent Greenwich report points out: “while fixed-income ETFs trade on equity exchanges, they move like the bond market.” Because they can track a basket of assets, as well as commodities or bonds, there is often an imbalance between the activity in the underlying fund and the volume of trade. Liquidity can be thin, and volatility can be correspondingly high. In the August 2015 flash crash, many market makers withdrew, or widened spreads, leading to market halts in underlying equities on which their ETFs were based.
All this leads to profitable trading opportunities, as long as risk is managed.
Today, ETF market-making is largely the domain of specialist market makers like Optiver and Flow Traders in Europe, and Jane Street, IMC, Susquehanna, Virtu in the US. Goldman Sachs largely exited its ETF market-making business in the US last year.
Given the huge buy side inflows into ETFs, market makers are increasingly investing in direct connections to big investors, like pension funds and insurance companies.
Across our customer base we are seeing increased interest in the monitoring of ETF order flow. Partly this is due to the increased trading volumes requiring additional oversight, but also it is driven by the complexity in market structure and the increasing number of counterparties available for trading.
For market makers with directly connected counterparties, they need to see where their flow is coming from, how it reacts to changes in spread, and detect anomalous increases or decreases in activity.
For buy side and price takers, they need to track liquidity across multiple venues. Best execution requirements increase the need for solid timestamped audit trail of prices and corresponding order flow.
These demands make the ETF market a prime candidate for the unique visibility that Corvil provides. We show trading in aggregate and real time, regardless of counterparty or platform. Providing a joined-up view, correlating technology performance with execution as well as multidimensional analysis of symbol, client or counterparty, Corvil provides the insight to improve the execution of this expanding instrument.