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Quicker fix

Straight-through processing came later to bonds than to equities, but the fixed-income crowd is catching up fast.

Five years ago conditions seemed nearly ideal to make straight-through processing of equity trades a reality. Key securities industry constituents had a shared objective: to automate every step of trading, from initial order to ultimate settlement. The benefits were so clear -- huge cost savings and reduced risk of settlement failures -- that more than 100 major brokerages, custodians and investment managers joined to form the Global Straight Through Processing Association, which aimed to ensure that several thousand frequently traded stocks could be processed without human intervention.

And yet today no more than a quarter of U.S. equity trades are sufficiently automated to be settled within 24 hours -- a goal associated with STP that few people are even focused on anymore. Needham, Massachusetts­based consulting firm TowerGroup has gone so far as to declare that STP is dead -- the GSTPA closed up shop in 2002 -- and suggests that the industry redefine the mission.

Apparently no one informed fixed-income firms of STP's demise. Despite having less experience in electronic trading and millions of more-complicated securities to deal with, bond specialists are pursuing STP at a faster pace than the equities community was able

to muster.

The bond market's embrace of electronic trading innovation is today about where equities were in the late 1990s, when GSTPA came together. Securities firms first invested in systems to automate their booming stock businesses; they moved on to bonds in the latter stages of the dot-com boom, which coincided with the genesis of a new breed of online trading entity, such as ESpeed, the 1999 Cantor Fitzgerald spin-off that is a leading technology provider for Treasuries trading, and MarketAxess, a three-year-old electronic platform for corporate bonds.

ESpeed, MarketAxess and TradeWeb, an online marketplace handling Treasuries, commercial paper and several other fixed-income products, are aggressively promoting their respective programs' STP-readiness. Their rivalry has stoked market interest in STP; it remains a hot seminar topic on the fixed-income conference circuit these days. The Bond Market Association's November technology expo devoted half of its daylong program to the subject.

To be sure, the dot-com vintage bond platforms are only beginning to have a measurable impact on fixed-income order flows and, by extension, on STP rates (see page 16). The dealer-based fixed-income markets do not have centralized exchanges and related back-office coordinating bodies comparable to those that have promoted STP in equities (with more success among custodians and brokerages than among buy-side firms).

Typical of the e-trading advocates, TradeWeb executives say that they are creating an exchangelike framework for bonds and that they are going their equities counterparts one better by building in STP rather than having to retrofit it later.

"We have all the necessary information electronically, including the IDs for the client accounts and settlement instructions," explains TradeWeb managing director Thomas Eady. "Institutions can take a block trade and break it up and send the information to the dealer, who can confirm it in two seconds or less. All this used to be done by fax and phone."

Even if STP hasn't progressed as far in the bond market as it has in the equities market, it has a lot more momentum right now. And it faces fewer obstacles like the contentious standards-committee debates that waylaid attempts to achieve 24-hour equities settlement. Also, the fixed-income market isn't trying to create a central utility to match buy and sell orders, a concept that has run into resistance from portfolio managers.

"We have the No. 1 STP platform for the bond markets in terms of trades that are broken down, allocated and confirmed," boasts TradeWeb's Eady. About 75 percent of TradeWeb customers now use some part of its electronic confirmation services, and the company recently added electronic confirmation for voice trades.

Of course, the bond market has its own committees and standardization discussions. And it has incorporated some equity market advances. For instance, the financial information exchange, or Fix, protocol, which has gained near-universal acceptance for automating buy-side-to-sell-side communications in equities trading, is gaining acceptance in fixed income. Fix version 4.4, released last year, includes features tailored to bond transactions that in turn foster compatibility with other widely adopted specifications based on XML (extensible markup language) and on the Society for Worldwide Interbank Telecommunication's 15022 messaging standard.

The equity market firms that implemented Fix over the past decade are applying their experience to improve bond processing. "The bond markets have many of the same challenges -- information accuracy and systems integration -- as the equities markets," says Miranda Mizen, a senior analyst at TowerGroup. "High volumes, the large number of players and the lack of commodity [products] mean that integration is more critical than ever in the fixed-income markets."

Says Randolph Sides, head of e-commerce at Barclays Capital in New York, "We have learned some lessons that I think we can translate to the fixed-income market."

"Everything should be built on a standard set of protocols that the industry has agreed to," says Sides, who oversees operations in equities, bonds, futures, foreign exchange and derivatives. "We definitely need to have agreement on a common hub or communications methodology."

Jim Rucker, head of operations and finance at MarketAxess, agrees that protocol standardization -- namely Fix -- is an important step toward commonality. But he cautions that bond market firms and the securities themselves are hardly uniform. Technical proficiency varies from firm to firm, and the multitude of product classes each have unique characteristics and requirements that defy standardization.

"You can't create a cookie-cutter solution," says Rucker. "There will be differences in the way STP works for the different products."

To ease the transition, MarketAxess offers Fix and XML connectivity comparable to TradeWeb but also a more elementary data-collection method that allows less sophisticated market participants to integrate trade data with back-office processes. "An increasing number of firms are using Fix, but others want a simple, cheap solution," says Rucker.

The MarketAxess executive isn't ready to declare that the fixed-income STP programs have surpassed their equity counterparts. But he says, "Over the past six months, things have begun to change, and firms are increasingly making investments in STP."

Competition is also helping push STP in the bond market. TowerGroup's Mizen believes MarketAxess and TradeWeb are moving quickly because they are still fighting to see which of the networks will survive. STP gives them a product enhancement, says Mizen, but "I don't know how much extra cash that brings through the front door."

Others see value in the chase.

Joseph Sack, executive vice president of the Bond Market Association, says: "TradeWeb has done a truly outstanding job of developing processing products for its clients. It has zeroed in on the most pressing issue identified by the buy side -- automated allocations."

Increasingly, buy-side firms are seeing the benefits of automated processing. "Without STP we would be out of business," says Gail Rothman, STP product manager at New York­based investment manager BlackRock, who addressed the BMA meeting in November.

The September 11, 2001, terrorist attacks drove home the point, notes Rothman. "With one custodian, anything that went electronically got processed, and anything that didn't go electronically didn't settle," she recalls. "There were a lot of fails on the Street, and we learned that you have to have some type of STP."

Today, says Rothman, BlackRock is processing more than 20,000 daily trades, 15,000 of which are transmitted electronically -- in effect, STP-ready -- to custodians. Because of the surge in bond activity, volumes have climbed threefold in a year. "There would be no way to process the volumes we have without STP in place," she says.

As recently as 2002, she explains, "we were doing some international business electronically [using the Swift interbank messaging network]. Then our volumes went up so high we realized that there was no way to go back to using spreadsheets. If we didn't have the automation, we simply couldn't process the volumes."

Fortunately, the whole industry is working to keep pace. Custodians are providing price incentives for client firms to automate and are upgrading systems to accommodate the Swift 15022 message format, which became mandatory in 2002, to speed and improve the delivery of trade and settlement instructions.

Says Rothman: "Whereas before when we added new custodians, they wouldn't even know what a Swift message was, now they are able to quote tags or field names or certain code words in a message. There's been a huge change in the past two years."