Flow market-maker of the year: Citadel Securities

Risk Awards 2023: Firm edges out investment banks on hedging of bond issuances

Matthew Culek

The bulge-bracket bookrunners had completed a multi-billion dollar bond issuance. Now came the routine matter of hedging a floating rate tranche of the debt to help protect the client against fluctuations in interest rates over the lifespan of the bond.

It is a longstanding Wall Street convention that one of the bookrunners will get to fulfil any hedging needs the corporate issuer might have.

However, in not one but two such issuances in recent months, the clients were adamant about which market-maker they wanted to put through their interest rate hedges – and it wasn’t any of the banks on the front pages of the prospectuses.

Olivier Pariente, Citadel Securities’ head of USD interest rate swap trading, says the firm has twice beaten bookrunners to place routine netting contracts following large bond issuances.

“It has been upsetting for the competition,” he jokes.

The transactions are remarkable because Citadel is not an investment bank, it does no primary debt capital markets business of its own, and it is not even a primary dealer for US Treasuries. Yet it now acts as a rates dealer for 18 of the world’s top 20 largest money managers.

Winning corporate swaps work on major debt issuances illustrates the kind of flow market-making business Citadel is becoming.

Swapping around

Founded by Ken Griffin in 2002, the business first registered as a swaps dealer in 2014 and began offering Treasuries on platforms in 2015. Over the past two years, under the leadership of Shyam Rajan, global head of fixed income, it has rounded out its fixed income operation by hiring more traders and entering new lines of business, including US institutional grade credit this year.

Citadel has become a favoured destination for more complex transactions in the swaps market – the kinds of relationship-dependent trades that are still done over the phone.

Michael de Pass, the firm’s global head of rates trading, says providing complex risk transfer solutions to large clients has come to the forefront as Citadel has grown its market presence.

“We’ve grown our ability to internalise and recycle risk,” he adds.

The market-maker’s focus on providing firm pricing – Citadel says it is the only dealer offering 100% firm order pricing across the curve – has also helped it win clients’ loyalty during periods of turmoil.

During the Treasury market rout at the start of the pandemic and during the rates volatility that followed the collapse of Silicon Valley Bank in March of this year, clients say Citadel was able to provide consistent liquidity in Treasuries and interest rate swaps when other dealers were pulling back.

We’ve grown our ability to internalise and recycle risk

Mike de Pass, Citadel

“They’ve always been very reliable throughout all kinds of market stress,” says a rates trader on the buy side.

According to three rates clients, bank-owned dealers pulled back their liquidity provision during the “March madness” of the regional banking crisis, but Citadel was able to quote continuously.

Pariente says during the second half of March, as implied rates volatility spiked, the “robustness” of Citadel’s market-making systems meant there were only a handful of situations in which the firm was unable to quote.

Despite what he describes as a “complete lack of liquidity” in the rates market, Citadel’s market-making technology kept giving quotes and filling orders. “The platform didn’t go down,” says Pariente. “We had very few no-quote trades and clients remember our consistency from this period.”

De Pass says the company benefits from having tools that can work across different parts of the rates business.

“We’re really focused on building tools, and building processes that work for the overall business – not just for the swaps business, or the Treasury business, or the inflation business,” he says. “When we think about managing our risk, we do think about it in a cross-business and cross-product way and that allows us to internalise a lot of flow – and it also allows us to have a much more comprehensive view around the market.”

Clients say they appreciate how open Citadel is about its own hedging needs.

“They’re able to leverage what we need,” says a second buy-side client. “It fits in some capacity with what they’re trying to do and then they’re left with residual risk to trade out of and provide business liquidity to their other clients.”

This approach has sent the market-maker soaring up the rankings for on-the-run Treasury platforms. The third quarter of 2023 was the second consecutive quarter in which Citadel ranked second in US Treasuries on Bloomberg for risk inquired and risk executed – up from 10^th place in Q3 2019. In October, the firm became Bloomberg's top Treasuries dealer for risk executed.

Zero isn’t nothing

Rates aren’t the only Citadel business line to have had a busy 2023.

In June, the firm began making markets in investment-grade corporate credit. In October, Sam Berberian joined from Citi as head of corporate credit, and Citadel has offered roles to various industry sector specialists.

It is now actively quoting prices on Tradeweb and MarketAxess, and will begin offering more complex bond-dealing services to clients from the start of the year. Citadel’s credit business is being built using the same template as its rates operation: automating as much of the routine market-making activity as possible to free up traders to help clients with more sophisticated demands.

Chief operating officer Matthew Culek says the market-maker’s options business is flourishing thanks in part to the rising popularity of short-dated options that expire on every day of the week.

Zero days to expiration (0DTE) contracts are options that expire on the current day of trading. Data from Cboe, the largest US options exchange, shows that 48% of its flagship SPX contract’s volume is now traded on a 0DTE basis.

We are always pivoting our approach of how we can monetise and maximise value for our clients, no matter what the type of flow is

Matthew Culek, Citadel

Citadel is the largest consolidator of retail options flow, according to data from the US Securities and Exchange Commission. Culek is seeing more volume in single-stock options on the day of expiry. On Fridays, he notes that half the retail order flow can be single-stock puts and calls in the most widely traded names, such as Apple, Nvidia and Tesla.

He says the change in market dynamics has caused the business to adjust its approach to market-making, just as it had to recalibrate its risk models during the meme-stock craze of 2021.

“We are always pivoting our approach of how we can monetise and maximise value for our clients, no matter what the type of flow is,” says Culek. “So with the shifting of option volumes from longer-date to shorter-dated expiries, and from single-stock towards index options, we’ve just pivoted very quickly and leveraged the platform and the capabilities of the firm to keep that service consistently high-level.”

He believes that, from a market-making perspective, if an option is expiring in four hours, then many of the more advanced Greek measures of exposures are less relevant. Instead, market-making becomes more of a binary prediction about where the price will be at the end of the day.

Culek says the way 0DTE options are priced is “very well aligned and in sync with our general systematic strategies in equities and futures and other public markets, where we are doing that all the time”.

Ken Griffin

Photo: Citadel

He adds that the business is still improving its listed market-making capabilities, despite already being the top designated market-maker on the New York Stock Exchange and the top wholesaler for retail equities. This year it rolled out a new US equity algo suite for its broker-dealer and institutional clients and reworked its pricing engine.

Culek says the firm’s strategy is to redeploy an approach that has worked well in one asset class into others: “We continue to find pockets of the market where there’s things that work a certain way just because they always have. They are just ripe for innovation, but folks that are in those markets today are either unable or uninterested in driving that change. We still think there’s a lot of situations and markets like that, where there’s room for innovation.”

The market-maker is also building out its institutional options capabilities. This business line, through which Citadel trades cleared options, has grown from just over 100 clients in 2020 to more than 400. It has launched a product called Instant Trader that provides institutional options clients with the kind of click-and-trade, firm-order pricing capabilities that Citadel was already offering in rates. The business is also looking to scale up its OTC options offering in 2024 to meet growing demand.

Citadel remains a leader in equity options order execution, a sector in which every order is routed through an exchange and subject to significant price competition. The chief executive of one options exchange describes the consolidator business as “cutthroat”, with retail brokers playing wholesalers off against each other based on daily scorecards of execution quality and execution experience.

However, this chief executive adds that Citadel is “able to just service the flow better than anyone on Wall Street in most cases” and that it has greater depth than any other market-maker in single-name options.