This article was written by Jonathan Brewer, Commercial Director, ISAM Capital Markets and Managing Partner, IS Prime
There is a prevailing misconception in the retail market that all liquidity is the same – and that couldn’t be further from the truth. It’s a topic that I often talk about as there is still so much misunderstanding when it comes to liquidity provision.
Different Prices from the Same LP
There really are only, at best, 10 true liquidity providers – largely the top 10 Euromoney institutions. As a result, Prime of Primes often are providing access to a similar panel of liquidity providers in their respective aggregations.
Were all of these firms receiving the same price from the underlying LPs you would naturally expect their aggregated price to be broadly the same but, as we are all aware, this is far from the truth. The offerings between IS Prime, for example, and its competitors can vary wildly.
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The fact of the matter is that the price any institution receives is directly related to the way that they interact with their providers – it is not simply a matter of setting up a PB relationship, buying an off-the-shelf aggregator and pumping out pricing to clients.
This is an essential point for anyone looking to select a Prime of Prime to understand. The Prime of Prime community is not, as is often perceived, just a middle man adding an additional layer of cost. There is so much more to it than that.
The pricing from Liquidity Providers and market makers into Prime of Primes adjusts according to the data they see – in other words, the quality of the flow from the individual Prime of Primes impacts the spread, the mid-price and the depth of the liquidity offered to them.
Spreads are widened and tightened, on an almost completely automated basis, and determined entirely by the mark out of the trades they see, and these firms will only show their skews to firms that they trust and even then often only into a ‘dark’ aggregation. The curation of liquidity by Prime of Primes, and almost more importantly the way that Prime of Primes interact with their clients, are therefore critical to the end liquidity that clients see.
So when Prime of Primes see themselves as secondary primes and promote themselves as pure liquidity pass-throughs, I personally think they have shot themselves in the foot. They are delivering the wrong message.
At IS Prime, we consider our primary product to be liquidity, the price we send out to clients and their ability to execute on that price. We work very hard to nurture our relationships with our LPs and provide quality flow in order to achieve the best possible pricing for our clients. Clearing – or the prime side – is very much a secondary thing.
Managing Liquidity in the Right Way
One important trend we have been seeing over the last 18 months is that liquidity providers are getting much stricter on where their liquidity is going. Skew leakage has become an increasing focus for them and we believe this is having a positive impact on the Prime of Prime sector.
It was often a frustration of ours that we were trying to manage liquidity in the right way whilst some of our peers were over aggregating liquidity and this wasn’t policed by the liquidity providers. We have always believed that it is vital that we control where our clients put the price feed that we provide to them as this can have a knock on effect upstream.
Be Careful Who You Trade With
One important lesson to learn in this industry is that you don’t always want to trade with a client that wants to trade with you – and we have always followed the advice that “not all business is good business”. As a Prime of Prime, one of the hardest things to do is to turn down a client, and it can be gut-wrenching to turn down the sorts of clients that regularly come to us promising huge volumes.
These firms can deliver huge increases in volumes but the most important thing for the longevity of any business is recognizing that these clients can ultimately take away more from your liquidity pool, and therefore from your overall business, than they are going to contribute. For Prime of Primes – and for retail brokers too – choosing which clients you want to do business with is ‘the game’.
You really need to be able to get to a certain critical mass to be in a position to do that and that’s why a lot of the new primes that are coming on the market – the ‘sub primes ‘as I have called them in my previous post – are going to struggle. It’s harder to price business defensively if you are starting out or haven’t got to that critical mass. Prime of Primes able to be selective, and partner with the right clients, are in a strong position for further growth. They are also in a stronger position to help their clients to grow too.
So what are the lessons for brokers to take forward into 2022? Firstly, be mindful that the liquidity offering from one provider can be very different to another – even when they are offering access to the same LP. And secondly, choose your clients carefully – as we do. Building long-term client relationships, with mutual business benefits, is the key to success.