The Big Interview: Jane Street's Slawomir Rzeszotko and Curtis Tai

Scott Longley

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There is possibly no bigger signal for the growing importance of ETFs than the growth in institutional interest in the sector. As a recent survey undertaken by and commissioned by Jane Street found, ETFs are being traded more often, in larger chunks and with a greater degree of confidence.

The survey spoke to more than 300 institutional investors globally and took three months to complete. It also found that institutions are also increasingly open to using ETFs for purposes other than passive exposures. These other reasons include active management as well as tools for hedging and liquidity management.

Meanwhile, perceptions of ETFs have improved across the board and that around liquidity has changed the most sharply with almost 90% of institutional investors now believing ETFs are getting more liquid.

ETF Stream spoke to Slawomir Rzeszotko, head of institutional sales and trading, Europe and Curtis Tai, director of ETF sales and trading, Asia Pacific to gain further understanding of the work they have completed and started with the issue of liquidity and differing asset classes.

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To what extent do you think it is important for institutional investors that ETFs are seen to be liquid across all asset classes?

Slawomir Rzeszotko: It's critical for institutions to feel comfortable with the liquidity of ETFs. Looking at the survey, nearly 90% of respondents said that ETF liquidity has improved over the past three years - this was the case for emerging market equity ETFs, fixed income ETFs, and developed market equity ETFs. The trend of improving liquidity is reflected in tighter pricing and increased confidence in the overall trading experience.

Curtis Tai: Perhaps equally as important is that institutions are drilling down to the underlying securities to evaluate the liquidity of an ETF. Year-over-year we saw a 4% uptick from respondents saying they primarily use this metric, from 27% to 31%. So not only are institutions finding more liquidity across ETF assets; they're also measuring liquidity with an increasing level of sophistication.

Why do you think competitive pricing is so important for institutional investors?

Curtis Tai: Institutions value competitive pricing twice as much as any other criteria - including expertise in complex or illiquid assets, ability to trade in large size, and value-added services. We're seeing that demand for competitive pricing has really spiked and this is likely driven by a few factors. First, MiFID II and the unbundling of research has caused ripple effects globally and most institutional investors are looking at how they are achieving best execution.

The proliferation of Request for Quote (RFQ) platforms is also augmenting transparency and creating a competitive field for pricing. This is especially true in European institutions, which report the highest usage of RFQ platforms globally. And finally, investors worldwide value cost efficiency. In an environment of compressing asset management fees, trade pricing has gained an increased prominence in institutions' total cost of ownership calculations.

Does this reflect general investor sentiment or is it leading it?

Slawomir Rzeszotko: As ETFs have become more central to buy-side firms' investment strategies, it certainly follows that pricing would come into sharper focus. Year-over-year, the percentage of institutions using ETFs as part of their core asset allocations rose from 25% to 35%.

And what do you think the interaction here is with the preference over independent market-makers?

Curtis Tai: The number of institutions prioritizing competitive pricing coincides with an uptick in the use of independent market makers, which have traditionally focused more on trading and less on value-add services like research. In parts of the Asian market, market makers are just starting to gain traction. That can partially be explained by the fact that value-add services are still a key part of the counterparty selection process. This preference stands in stark contrast to markets like Europe, where MiFID II has elevated the importance of competitive pricing.

Why do you think there is an increased use of RFQ platforms?

Slawomir Rzeszotko: 38% of respondents said they use these venues most commonly to submit block trade orders, up from 32% the previous year. European firms have increased the use of these venues the most, to 65% in 2018 from 41% in 2017. There is a correlation between respondents describing price competitiveness as their most important criterion in choosing a counterparty and RFQ platform adoption. Of the total number of institutions that said price competitiveness was their number one concern, 45% said they use RFQ platforms most commonly for execution. In comparison, among institutions that prioritised criterion other than price, only 28% were using RFQs most frequently. Another driver of RFQ platform use is heightened compliance concerns. RFQ platforms help clients solve two related challenges. With RFQ platforms each trade record is time stamped and stored in one location, creating a clear audit trail. Records of multiple quotes provided by several counterparties included in the auction help to document the process of achieving best execution. Secondly - and more specific to MiFID II investment firms - trading on RFQ platforms can make it easier to comply with trade reporting requirements.

What do you think the data regarding size of ETF trade tells us?

Slawomir Rzeszotko: Institutions are feeling more comfortable with the liquidity of ETFs, and they're starting to use them more in core portfolio allocations as well. This development coincides with the larger trade sizes - we saw that 24% of institutions reported executing a trade in excess of $100m over the last year, up from 21% in 2017. And we're seeing this trend on our desk too. Earlier this year, we executed the largest ETF trade on record - a $5bn-plus switch trade.

Why do you think the question of how institutions use ETFs is under-addressed?

Curtis Tai: Institutional use of ETFs is picking up and investors' comfort level with liquidity, use in the core, and larger trade sizes all support the case for continued growth. We're still in the early stages of ETF adoption - so how institutions evaluate, use, and trade ETFs is evolving as well.

Slawomir Rzeszotko: One particular area of institutional use worth highlighting is fixed income ETFs. In another survey of 100 buyside fixed income traders in Europe, 63% said they planned to increase ETF use in the next twelve months. Fixed income ETF penetration relative to the size of bond markets is still quite low compared to equity ETFs - so there is certainly more runway there.

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