Background:

At MarketAxess, I wrote this article on the back of a white paper that was published by MarketAxess in collaboration with the research provider Coalition Greenwich. The article was attributed to the sales lead of the firm's Japan franchise.

Format: 

Blog article

Japan bond markets: From tradition to innovation

As the global financial landscape evolves, Japan's bond market stands at a pivotal crossroads. Our recent partnership with Coalition Greenwich to launch the whitepaper, "The Evolution of Global Bond Trading in Japan," reveals a market in transition, driven by rising demand for fixed income assets and the transformative power of technology. In this article, I’ll delve into the key insights from our research and summarize some key takeaways that can serve as guidance for Japanese investors considering electronic trading (e-trading).

The growing demand for fixed income assets

Global demand for fixed income assets has surged in recent years, fueled by rising yields as major economies combat inflation. Japanese investors, in particular, are increasingly turning to government and corporate bonds from developed and emerging markets, seeking higher yields with minimal additional risk. This trend has led to a significant uptick in trading volumes across various fixed income products, presenting both challenges and opportunities for investment managers.

Technology’s role in modern trading

While human expertise and relationships remain foundational to the fixed income markets, technology is reshaping the landscape. E-trading tools are now essential for managing the complexities of modern trading, from handling higher volumes to leveraging data for better decision-making, efficiency, and price discovery. Benefits and advantages of e-trading are immense, including improved transparency, faster execution, reduced transaction costs preventing human errors, and enhanced liquidity access.

Based on a Coalition Greenwich survey in 2023, at least 63% of Asia-based asset managers traded at least some of their fixed income electronically, up from 36% in 2013. Although Japan’s adoption of e-trading has been slower compared to other developed markets, a notable shift is underway as local investors seek greater liquidity both domestically and internationally.

From conversations with Japanese asset managers, it is also evident that more investors are leveraging data-driven tools to optimize trading times and reduce opportunity costs. Traders who have leveraged our AI price discovery tool, CP+™, and liquidity metric, Relative Liquidity Score, have shared how they have transformed their trading strategies and achieve notable transaction cost savings.

Adapting to change

The pandemic, regulatory shifts, and advancements in AI and algorithms have accelerated the adoption of electronic trading among Japan's largest players. Platforms like MarketAxess are enhancing the trading experience, especially in corporate and Emerging Market bonds.

In 2023, 56% of Asian investors utilized e-trading across all assets, a significant increase from 36% a decade ago. This growth is driven by cost efficiencies, transparency, and easy access to liquidity that e-trading provides. Investors who have traded on MarketAxess have reported the efficiency that e-trading can provide. 

Today, we’ve seen some of our Japan-based clients evolve from trading single Request-for-Quotes (RFQs) to automating up to 70% of all their trades on the platform. Once they overcome the initial hurdle of trade electronically, they can understand its benefits and begin exploring more advanced uses, such as trade scheduling and automation. In contrast, we’ve also seen many traders who are more hesitant to adopt e-trading tend to stick with its more basic and manual workflow. This has resulted in a significant gap in how e-trading for fixed income is utilized in Japan, highlighting the varying levels of adoption and sophistication within the market.

OMS integration

Integrating e-trading tools with order management systems (OMS) can drastically improve workflows and trading outcomes by integrating order details, compliance requirements, real-time execution data, pricing, and liquidity metrics into a single view.

MarketAxess platform has been integrated with most OMSs in the global market, and earlier in 2024, we had successfully integrated with Nomura Research Institute (NRI)’s securities order management system, SmartBridge Advance (SBA). With this integration, Japanese investors using an OMS can now leverage the full breadth of our e-trading and data suite, from Open Trading to auto-execution.

Systematic trading workflows can dramatically reduce human errors as well. Analytical tools, like transaction cost analysis (TCA), can help traders identify opportunities for cost savings and provide them with more robust data to enhance their communications and presentations to their own clients and investors.

Impact on dealer relationships

Japanese bond dealers have historically been hesitant to fully embrace the electronic shift, stemming in part from a cultural preference for relationship-based trading. According to Coalition Greenwich research, 41% of Japan credit flow is allocated based on the sales relationship, compared to 27% that is executed based on execution quality. 

Despite initial concerns, e-trading has not diminished the importance of dealer relationships. From the conversation with both the buy- and sell-side in Japan, it’s clear that additional distribution capabilities and workflow efficiencies that is offered by e-trading allow trading desks to operate better, which ultimately, improve dealer relationships over time.

Overcoming challenges and identifying opportunities

Japanese investors are the largest holders of U.S. Treasury securities, with investments totaling $1.1 trillion at the end of 2023. Despite this, only 27% of Japanese investors trade non-yen government bonds electronically, with 26% of notional volume executed on the screen–indicating a significant room for growth in e-trading adoption.

• Cultural preferences: While Japanese bond dealers gravitate towards relationship-based trading, e-trading can enhance these relationships by allowing traders to focus more on market insights and less on manual order negotiations, as seen in the U.S. and Europe. By utilizing data and algo driven pre trade tools, clients have more ways to evaluate which bonds to be traded manually or electrically at ease, both clients and dealers can allocate their time more effectively.

• Onboarding costs: Onboarding and integration remain significant hurdles, but the benefits of electronification are clear. Enhanced workflow efficiency and the ability to trade large orders quickly and cost-effectively are major advantages. While the cost of onboarding onto electronic trading can vary depending on the complexity of the systems involved, the long-term benefits often outweigh these initial investments.

• Regulatory environment: Additional regulatory clarity could help accelerate adoption. While regulatory bodies in the U.S. and Europe actively pursue policies focused on best execution and transparency, Japan's regulatory environment is still evolving. Increased engagement with investors, bond dealers, and trading venues could foster a more conducive environment for e-trading.

The fixed income market in Japan is on the cusp of significant transformation. As demand grows and technology advances, the opportunities for investors are vast. Our whitepaper, "The Evolution of Global Bond Trading in Japan," offers valuable insights into these changes and the potential they hold. I encourage you to explore the full report to gain a deeper understanding of these trends.