MarketAxess Holdings Inc (MKTX) — Q1 2024 Earnings Call Transcript

Good morning, and welcome to the MarketAxess First Quarter 2024 Earnings Conference Call. For the call, Chris Concannon, Chief Executive Officer, will provide you with a strategic update on the company. Rich Schiffman, Global Head of Trading Solutions, will update you on the performance of our markets this quarter, and then I will review the financial results. Before I turn the call over to Chris, let me remind you that today's call may include forward-looking statements. These statements represent the company's belief regarding future events that, by their nature, are uncertain. The company's actual results and financial condition may differ materially from what is indicated in those forward-looking statements. For a discussion of some of the risks and factors that could affect the company's future results, please see the description of risk factors in our annual report on Form 10-K for the year ended December 31, 2023. I would also direct you to read the forward-looking statement disclaimer in our quarterly earnings release, which was issued earlier this morning and is now available on our website. Now let me turn the call over to Chris.

Good morning, and thank you for joining us to review our first quarter results. Turning to Slide 3 of my strategic update. We delivered 4% total revenue growth, including the benefit of our Pragma acquisition, and earnings per share was $1.92. While we are not happy with recent trends in our estimated market share in U.S. credit, we recognize the importance of being equally strong in the faster-growing areas of the market, and we have a quick strategy to return to higher levels of share growth. We are targeting these faster-growing areas while maintaining and building on our leadership in the institutional investor RFQ market. Our strength in this segment of the market is underpinned by our leading global client franchise and the largest single source of liquidity in the credit markets, Open Trading. First, in the quarter, our global client franchise continued to expand. We had a record 2,100 active client firms. Next, we delivered record commission revenues across several credit product areas. U.S. high-grade commission revenue grew 8%, and we delivered record levels of commission revenue in emerging markets, Eurobonds, and municipal bonds, helping to offset the impact of lower U.S. high-yield activity. The benefits of our geographic and product diversification continue to pay dividends. Non-U.S. credit revenue was a record $92 million in the quarter, representing a record 44% of total revenue. Lastly, we continue to be disciplined around our expense management with total operating expenses increasing only 9%, including the impact of Pragma. We delivered these results against a market backdrop of historically low levels of credit spread volatility, which has created the ideal conditions for the growth of portfolio trading and dealer-centered protocols. These low levels of volatility have also impacted ETF market participants and hedge funds, decreasing activity in our U.S. high-yield business. We believe, however, that our estimated share will recover with more normal levels of spread volatility due to the diversified liquidity on our platform. We were pleased to see an improvement in estimated high-yield share in the back half of April. We are encouraged by the strong new issuance calendar at the start of the year as well as the increase in trading velocity. Strong new issuance is an indicator of healthy growth in our market, and increased trading velocity means that dealers are trading more with much smaller balance sheets. This trend should only continue with significantly higher bond yields making fixed income a very attractive asset class. This is a key attribute of our market today. All our clients need to do more with less, and we are very well positioned to address this need. Slide 4 illustrates how portfolio trading and dealer-initiated trading significantly expanded the overall market in April. Since 2019, portfolio trading and dealer-initiated flow have grown at 4-year CAGRs of 38% and 10%, respectively, compared to 2% for client-initiated flow. The growth of these segments is closely linked because dealers typically recycle the risk from a portfolio trade in the interdealer market. For portfolio trading, we have made substantial investments in our PT solution, and the share gains we saw at the end of April indicate that we have designed a very competitive trading solution for our clients. We will continue to rapidly deploy enhancements to our platform as we are still in the early stages of PT innovation. For dealer-initiated flow, we are now delivering the same trading automation tools to dealers seeking liquidity that have been rapidly growing with investor clients. These tools improve dealers' trading efficiency and help solve their need to rapidly exit inventory risk. Approximately 30% of the liquidity we provide to dealers comes from our investor client firms. Accompanying the electronification of larger-sized portfolio trades is the explosion in ticket count as shown on the right-hand side of this slide. X-Pro, our new platform designed to make trading more efficient, is now handling 55% of U.S. credit trade count for our 22 largest clients. Slide 5 illustrates key trends in portfolio trading. The growth of PT is a very important step in the evolution of the market. Portfolio trading is a protocol of immediacy, which has helped accelerate the electronification of larger-size trades, representing approximately 10% of the high-grade and high-yield TRACE market in April. Portfolio trading has also allowed traders to do more, more efficiently and with a streamlined workflow. The impressive growth of portfolio trading shows us the sizable demand our clients have for immediacy and efficiency, with the average notional per line item of a PT trending lower. We believe we must address that demand for immediacy and efficiency in all products and across all types of market environments. This is a great trend for the market overall, and it is a strong indicator of future e-trading demand for trades of all sizes. But we do believe that historically low credit spread volatility has created very supportive market conditions for the recent growth in portfolio trading. Slide 6 frames the U.S. high-grade market opportunity. While portfolio trading and dealer-initiated trading have been growing faster, we are also continuing our investments in higher-margin, high-quality areas of the market. Our launch of credit algorithms and block trading solutions on X-Pro are targeting the more challenging parts of the market that have not migrated to electronic trading solutions. The client-initiated segment of the market excluding PT is an estimated $620 million revenue opportunity, representing approximately 58% of the total estimated e-trading opportunity in U.S. high-grade. And as trade sizes greater than $5 million are broken down into smaller trades, we believe that the higher fee per million, combined with an increase in velocity, can drive this revenue opportunity significantly higher. We believe that the market opportunity over the long term is actually moving into our sweet spot, not away from it. In summary, we are targeting the higher growth areas like portfolio trading and dealer-initiated execution while we are keeping our focus on building solutions for the largest, most attractive parts of the credit markets. Slide 7, we highlight the client toolkit we are building for the future. MarketAxess is a global network with a privileged position in the credit markets. The unique tools that we are building for traders are being delivered by X-Pro, giving traders a portal to access our powerful data and analytics, our automation and algorithmic trading tools, and the single largest source of liquidity in the credit markets. We are an increasingly integrated ecosystem focused on making life easier for traders while solving for our clients' need to do more with less. Now let me turn the call over to Rich to provide you with an update on our markets.

Thanks, Chris. Slide 9 highlights the continued strong expansion of our client network. We had a record 2,118 active client firms trading on our platforms in the first quarter, which included 1,619 client firms active in U.S. credit and a record 1,066 active international firms. Trading volume from hedge fund and private bank clients increased 23% year-over-year and represented 18% of total credit volume, up from 16% in the prior year. Adoption of our automation suite of products continues to grow, as shown on Slide 10. We experienced another quarter of record automation trade volume and count with 3-year CAGRs of 34% and 40%, respectively, and a record 231 active automation client firms. Automation trade volume now represents 10% of our total credit volume and a record 25% of our total credit trades. There were a record 11 million algo responses from dealers, an increase of 50% year-over-year. On Slide 11, we highlight the expansion of our trading business across geographies and products. Continuing the theme of strength in our international businesses, we generated record international client trade volume and trade count in the first quarter. Trade volume was up 13% versus last year with a 3-year CAGR of 10%. Trade count was up 10% versus last year with a 3-year CAGR of 19%. A key driver of this strength was record total emerging markets trading volume, up 15% year-over-year driven by a 28% increase in local currency trading volumes. Our LATAM and APAC clients generated record levels of emerging markets ADV in the quarter, up 11% and 55%, respectively. We were pleased to see a strong increase in EM volumes in the first quarter, and that strength has continued into April. Emerging markets continues to be a very attractive growth opportunity for the company. Last week, we announced that Dan Burke has joined the company as Global Head of Emerging Markets. We're excited to have Dan's experienced leadership in this important and growing business. Axess IQ, our front end for private banking clients, generated ADV of $140 million, an increase of 22% and a record trade count of 62,000, up 54% compared to the prior year. We are also seeing strong product diversification in municipal bonds with record estimated market share of 6.5%, up from 5.7% in the prior year. Slide 12 provides an update on Open Trading, our market-leading all-to-all liquidity pool. Open Trading ADV was $4.4 billion and share of total credit volume was 34%, down from 37% in the prior year. Hedge fund trade activity has continued to expand on our platform, with record ADV of $1.9 billion in the quarter, up 30% from the prior year. A total of 202 hedge funds provided liquidity through Open Trading in the quarter, a 6% increase from the prior year. Lower volatility and lower price dispersion in the market reduces the price improvement opportunity in OT, as shown on the lower left of this slide, and it has also impacted our high-yield product area, as shown in the chart on the lower right as ETF market maker activity has declined. Open Trading continues to be the largest single source of secondary liquidity in the U.S. credit markets, driven by our diverse liquidity pool. Now let me turn the call over to Steve to review our financial performance.

Thank you, Rich. On Slide 14, we provide a summary of our first quarter financials. We delivered revenue of $210 million, up 4% from the prior year. These results include $8 million from the Pragma acquisition. Foreign currency was a $1 million benefit in the quarter. Information services revenue of $12 million was up 8%, including a $200,000 benefit from currency fluctuations. The increase was driven by new contracts as we continue to experience strong adoption across our data product suite, especially CP+. Post-trade services revenue of $11 million was up 8%, including a $200,000 benefit from currency fluctuations. The favorable interest rate environment contributed $6 million of interest income, up from $4 million. The effective tax rate was 24.9%, and we reported diluted EPS of $1.92 per share. On Slide 15, we provide more detail on our commission revenue and our fee capture. Total commission revenue increased $3 million or 2% in the quarter. The increase in credit commission revenue was due to stronger estimated market volume across several product areas, mostly offset by lower estimated market share in high yield on lower credit spread volatility. The reduction in total credit fee capture from the prior year was driven principally by product mix, specifically lower high-yield activity. The decline in fixed distribution fees was driven principally by the consolidation of 2 global bank trading desk operations. On Slide 16, we provide a summary of our operating expenses. First quarter operating expenses of $118 million included $8 million from Pragma and a $600,000 negative impact from foreign currency fluctuations. Based on the progression of expenses in the first quarter, operating expenses for the full year 2024 are tracking to the low end of the previously stated guidance range of $480 million to $500 million. On Slide 17, we provide an update on our balance sheet, cash flow, and capital management. Our balance sheet continues to be solid, with cash and investments totaling $513 million as of March 31, and we had no outstanding borrowings under the credit facilities. We repurchased 47,000 shares in the quarter for a total of $10 million and a total of $90 million remains on the current Board authorization. During the trailing 12 months, we paid out approximately $110 million in quarterly dividends to our shareholders. Our Board of Directors declared a regular quarterly cash dividend of $0.74 per share based on the financial performance of the company. Now let me turn the call back to Chris for his closing comments.

Thanks, Steve. In summary, on Slide 18, we continue to execute very well against our growth strategy in the first quarter. The increase in new issuance, higher rates, and an increase in velocity of trading all point to a healthy and growing fixed income market. We are disappointed with our market share in U.S. credit, and we've recognized the importance of being equally strong in the faster-growing segments of the market. We have a clear strategy to attack these areas, leveraging X-Pro as our delivery mechanism for the retooling of our trading offering. While we continue to drive adoption of X-Pro with clients, we are maintaining our leadership position in the investor client e-trading space. And our focus continues to be on the largest, most attractive order flow in the credit markets and building the client toolkit of the future to help our clients do more with less. Now we would be happy to open the line for your questions.

I wanted to follow up on portfolio trading. You talked in the past about making inroads into the traders who control portfolio trading, who are also the key market participants for block trading. So I wonder if you could give us an update on what kind of progress you have made there adding any new clients? And also the 40% share noted in the last day of April, was that due to one large trade, new clients turning on, or some other factors?

Sure, Chris. Thanks for the question. Obviously, we've had a great deal of focus on portfolio trading more recently. As you know, we recently launched our new platform, X-Pro, just last year. We launched X-Pro specifically for portfolio trading with an embedded portfolio trading solution just 9 months ago. We've been ramping up features and functionality on that platform as well, and we've seen some of the benefits of that. More importantly, we do see that pre-trade analytics, particularly with our proprietary data, is a critical part of that strategy, providing traders with those pre-trade analytics, which helps them with not only how to trade the portfolio but also how to construct the portfolio and optimize that portfolio. So that's been an area of positive feedback that we've been getting from the portfolio traders in the space. Again, remember, portfolio trading is quite concentrated somewhere between 30 to 40 traders in the U.S. who really drive the largest market share of PT trading, with the largest clients driving the largest share of PT trading. So more recently, particularly in April, we saw the benefits of the rollout of X-Pro portfolio trading. In April, X-Pro made up about 60% of the PT volume that we see on the platform. In regard to your question around that end-of-month statistic: end of month is a unique time for us in the market; there's quite high volumes where people are repositioning their portfolio. So you tend to see a higher number of portfolios. It was not 1 or 2 portfolios. There were a series of portfolios that we saw that day. Rich, anything to add on portfolio trading?

Just the chunky nature of it, and you can have a lot of spikes up and down, Chris. I mean, with adoption on any given day. As Chris pointed out, it's a targeted group. It's a relatively small number of PTs that we're all after. We estimate about 20 to 40 per day of substantial size, call it, $50 million and above. And we're all going after those. So on the days where we can capture it, and we had a great day on month-end, you see a number like that, 40%. That gives us a lot of confidence that we can carry that on throughout the entire month. Clients are open to using different platforms. And with being the same across, it's a matter of coming up with the best workflows and unique features that will attract the traders to our solution.

And just on my follow-up, I just wanted to ask about X-Pro. You gave us the metric around the top 20 clients, but I'm wondering where you guys stand in rolling it out to your overall client base. And then specifically, where are you in the process of signing up with dealers for dealer access to X-Pro?

Sure. Again, just to remind everyone, X-Pro is our new platform; it comes with new features and offerings. It really allows clients to trade bonds of any size or complexity, like portfolio trading. It also serves as a cockpit for traders to start their day. It is a unique offering from MarketAxess. We rolled out X-Pro for RFQ, traditional RFQ last year. We were targeting our largest clients. And within our largest clients, what we call our power users—these are traders that trade higher volumes in ticket count. We've seen, since that rollout, very positive trends as a result of X-Pro use. At the trader level, anecdotally, we've seen somewhere around a 20% increase in ticket handling, indicating there is great efficiency embedded in X-Pro. Currently, regarding the rollout, Chris, only about 16% of our total U.S. credit volume is going through X-Pro at this point. So we still have a long way to go to accelerate the rollout of X-Pro. And again, as I mentioned earlier, we only launched the PT solution on X-Pro just 9 months ago and continue to add additional features, functionality, and obviously, pre-trade analytics. We do have an important phase of X-Pro coming this summer. It's our first phase of X-Pro for what we call high touch or block trading, and that's regarding your question about dealer content. We are onboarding dealer content as we speak. We're quite encouraged by the dealer feedback around providing content to our platform. Remember, our high-touch solution, our block trading solution, is very dealer-friendly. It allows dealers to be in competition without all-to-all. So it allows them to price clients based on a smaller universe of competition. We are also adding to X-Pro what we call unique proprietary data, AI Dealer Select, which helps clients select the preferred dealer in a given CUSIP or bond. These are all proprietary solutions that we anticipate will be rolled out starting in late summer. We'll start seeing additional phases of our X-Pro rollout for high touch or block trading solution.

I know there's a lot of focus on portfolio trading. But if I look at your TAM chart, you clearly think that dealer-initiated opportunities are bigger. So maybe you can give us an update there. It's a very crowded space, and you obviously have admitted that you're kind of late to it. So just seeing where you stand today, any inroads you've made, any feedback you've gotten? And how pricing may be a differentiator there in particular?

Yes, Alex, it's Rich. And we feel really good about our dealer business. It's something that we've been in for a number of years, and we lead there with our flagship protocol, which is RFQ. We've offered that to dealers for over a dozen years now, and its adoption rate is pretty wide. Where we have work to do is on single price auctions or matching protocols, which have become pretty attractive over the past several years in the market. That is a protocol where network effects really matter and you need critical mass, and we have a solution in the market. Now we're actively working on building up the adoption for it. We're doing that in both London for the Eurobond market and here for investment-grade and high-yield markets. It's an onboarding process and getting the adoption built up. We are confident we'll be competitive in that space as well. We are working on delivering new tools for dealers, similar to the way we're rolling out X-Pro for buy-side traders. We're going to be doing similar for the sell-side traders so that they can more productively access these protocols. So it's a combination of traders who use it from a front-end tool, and also via APIs for the firms that have their internal trading systems and want to connect through there more efficiently. So investments in interfaces, investments in protocols, and then also tying those protocols together is something we're focused on, so that someone can try. If I want to match at a mid, if I don't get that available, maybe I want to leave a resting order in an order book, or ultimately, if I have to sell or need to buy, I'm going to hit the bid or lift the offer using RFQ. So it's combining these pieces that we have right now, which are operating independently. We believe that's going to be really attractive to the sell-side traders.

And Alex, I'd just add, as Rich was mentioning, some of the new protocols and offerings that we're providing the dealers, one important one, which only rolled out in December of last year, is our automation suite. It's quite a popular suite of solutions for our clients. We now provided that automation suite to dealers. It represents about 17% to 20% of our dealer RFQ, and it allows dealers to price quite effectively across the spread using an automated RFQ tool. This has been well received among the dealers and continues to ramp up, and we're seeing positive benefits in our deal RFQ volumes as a result.

All right. Very good. And then just maybe a super quick housekeeping question. On FPM, maybe for the first quarter or April. Can you give us a little bit of a breakdown where we stand on the different product types, high yield versus high grades, Eurobonds, etc.?

Alex, it's Steve here. In terms of the fee per million in April, we've mostly seen pretty stable pricing across the products. What you've seen in April was the impact of higher PT, which definitely dampened it a bit. We were down overall about $2 per million, so a lot of that was PT. However, the Eurobonds piece was a little bit better compared to last year. Last year, remember, we had those crossing trades, which depressed the fee per million, and it came back this year in April back to more normal levels around 120. So overall, I think pricing is pretty stable; it's just that PT increase in April was outsized.

I just—not to hammer on portfolio trading, but I appreciate the disclosure around market share in the last day of April being 40%. I was hoping you could just maybe frame—help us frame that. Like how did that compare to the rest of the month, and maybe where you've been year-to-date? And then given that this is going to be a big focus area moving forward, is there anything you can give us in terms of guideposts for kind of measuring how you guys are performing from a market share standpoint in portfolio trading?

Yes, Patrick. And obviously, we expected a focus on portfolio trading today, and we've been focused on portfolio trading for some time, particularly with the rollout of new solutions to solve the portfolio trading market. We do think the portfolio of trade is an important tool for our largest clients. Obviously, it's a tool for immediacy and efficiency of trading. In this credit environment where we're seeing high levels of demand for fixed income products, that's a benefit to our client franchise, and we're seeing them convert that demand for fixed income into large portfolio trades. I think the month of April was what I'd call an unusual month for portfolio trading. We saw several very large portfolio trades during the month, somewhere around $10 billion and $7 billion in size. So those are quite sizable portfolio trades that we haven't seen, almost record size. We expect portfolio trading to continue to be a vibrant part of the credit market, and that's why we're so focused on delivering a solution. As we mentioned, just a number of trades, a handful of trades can swing market share in the PT market. But it's such an important part of our clients' demand for immediacy that we're trying to deliver enhanced solutions through X-Pro to solve the PT. We do think that those pre-trade analytics are critical for our traders, and we get positive feedback. We've added things like tradability that help you analyze your portfolio and make decisions around what should and shouldn't be in the portfolio. We've also increased the line item capacity so our clients can trade very large line items, over 2,000 line items is part of the demand we're seeing from the largest clients. We see it as a critical toolkit in our clients' toolkit, and we will continue to report. We have our monthly reports where we share our PT volume regularly and the overall TRACE PT volume in the market. So hopefully, you'll look out for our monthly reports and see greater progress throughout the course of the year in our PT volume.

Okay. And then you repurchased $10.1 million worth of shares this quarter. I think that was the first or the most significant repurchase you did since the middle of 2022. Can you just talk about that decision and maybe what we should expect in terms of the size and pace of buybacks from here?

Yes. Patrick, it's Steve here. So there's really been no change to our approach with capital. I think we're still focused on the dividend. Our buyback activity is really still focused on just offsetting dilution. I think that we front-loaded some repurchases about 2 years ago. So we almost put like 2 years of repurchases a couple of years ago. So I think we'll be opportunistic going forward in terms of repurchases, but no change overall in terms of the philosophy for capital.

Maybe just first on the high-yield side. The share has been a bit volatile month to month this year. I guess a question on April with the uptick in share: was that primarily from higher pure ETF market maker flow given some of the elevated high-yield ETF volumes we saw in the month, but the systematic traders have remained disengaged? Or are you really starting to see in April some of those systematic traders or hedge funds reengage in that market yet that you had called out earlier this year that had pulled back?

Kyle, it's Rich. It's a combination. I mean, we were happy to see a little bit of a pickup back from March, 13.9 versus 12.7 from March. We've still got a way to come back, but we're seeing the signs that the market conditions are becoming more favorable. It's a combination of activity from both real money and the ETF community, so it's definitely trending in the right way.

Okay. And then just maybe one more follow-up on PT. You noted some of the added functionality there. But can you remind us of the differences in fee structures in your PT offering versus your competitors? I recall there was maybe something you were evaluating in terms of changing the fee structure of the billing for the product. I guess, have any final decisions been made on that? And do you think that could make a difference in positioning the offering competitively in addition to what you're doing in terms of adding functionality to the product?

Yes, Kyle, it's definitely a competitive space on PTs. We've talked about it in the past that the PT fee capture is at a lower rate than income business and substantially lower than, say, all-to-all Open Trading business. There are different ways to levy the fees. We know there are competitors trying to break into this market, sometimes even going without any fees on it. We are shifting to a model where it's a levying of the fee on the dealer. It's consistent with the way others in the market are charging, and we didn't want a fee model that put us at an adverse position. I'd say we're competitive on fees and consistent in the manner of charging fees with others who are levying fees on these trades.

And so is that already in place? You said the move to build the dealers or...

That's going to come into place with our next major release, which is set for the next few weeks.

Sticking with the topic of PT, I was hoping you could just talk about what you think the normal steady state of this protocol is as a percentage of volume or where it could get to? I think you put out some numbers previously, but the market has continued to evolve. So I was hoping to get your updated thoughts on kind of what you think that protocol can ultimately be on a consistent basis?

Sure. I'll take that. And look, we certainly are at fairly historically low levels of credit spreads and credit spread volatility. That certainly creates a ripe environment for not only portfolio trading but also dealer-to-dealer mid-market match solutions. At these levels of volatility that we've witnessed here in 2024, and certainly at times during 2023, we expect higher levels of PT and higher levels of mid-market matching solutions. As credit spread volatility increases, we do see it impacting levels of PT. Certainly, in April, we had some spikes of volatility, and during those periods, we saw slight decreases in PT during the trade day, but we continued to observe a high level of PT throughout. We are not predicting that these levels, historically low levels of credit spread volatility, will remain for an extended period of time. They typically go through cycles. We do think that portfolio trading will be an important tool for our clients, and they will continue to remain at levels we're seeing today. We don't expect massive growth of the PT market over time. We do think it'll probably stabilize at a certain level and be just another important part of the market ecosystem.

Yes, Dan, I'll just add to that. I mean it's definitely here to stay. It provides a lot of benefits to clients in terms of workflow. It's going to be interesting to see what happens when the market environment changes and volatility increases. If PT becomes relatively more expensive, whether it will maintain the kind of percent of the market, right now, we're seeing roughly around 10%. Whether that number goes down or stays the same, I would not think that that's a number that's going to rise in a high-vol environment when it becomes relatively more expensive versus doing trades in comp. So something to consider.

Great. And then just as a follow-up on expenses. I know it's early in the year, but you're already tracking toward the low end of the guidance for this year. So I guess, first, kind of what has changed since the initial guidance a couple of months ago? And then as we think about the rest of the year and the factors that are going to take you to the lower than the low end or back towards the midpoint or higher, what are those? Is that just volumes? Is it market share? What are the other factors?

Dan, it's Steve here. I think if you step back, we're exiting a period of substantial investments that we've made with X-Pro, our proprietary data ADX. We achieved significant efficiencies coming out of the year. What's going on in the organization is that we're more disciplined as we look at the expense base coming out of that spending, and we're looking for opportunities to be more efficient while maximizing our investments for the future because we do have that huge runway. So I think that as we went through the first quarter, we saw some opportunities to achieve incremental efficiencies. As we move through the year, you'll probably see a bit of an uptick in incremental new hires given the normal seasonality. But I think the first quarter run rate in terms of compensation is probably a good place to be around $61 million or $62 million, which reflects the incremental hires we should be making throughout the remainder of the year. Just remember that there is seasonality in terms of our hiring through the year. We feel good coming in at the end—at the bottom of the range right now. Obviously, we'll continue to monitor that and update you as we progress.

I would just remind you that 18% of our expenses are variable. So that's the piece that can move up or down with volumes. So that's an important component to how we think about our guidance. As we mentioned earlier in the call, we're tracking to the lower end of our guidance, and it's too early to update where we think we'll end up for the year.

On X-Pro, thinking of how it executes portfolio trades differently than what you were doing prior to its rollout, and I guess importantly, how does it compare to competitors now? Do you have any edge there?

Jeff, it's Rich. As you note, from an execution perspective, it's consistent, and we have the back end of the trading system that's managing this. The real productivity gain and the difference-maker is on the front end and how traders interact with our capabilities. Think of X-Pro as a modern interface designed to better handle large lists and manipulate them more readily, which is something that was more challenging to do in our legacy application. The back end leverages all of the capabilities we have in terms of how we process trades and how we send them through post-trade and downstream to the parties. But it's that interaction at the front level, at the user interface, that is really making a difference. This is where we're doing all of our new front-end development.

And Jeff, I'd just add that X-Pro, both the portfolio trading tool and X-Pro for RFQ, are built on cloud-based technology. It's all new tech that we've rolled out here. It allows us to make changes and introduce new features and functionality in a more rapid development environment. We've seen changes roll out from trader feedback back out into production within weeks, rather than months or quarters. It’s a very powerful tool, not just from the proprietary data that we can embed in it and all the pre-trade functionality, but it speeds up our delivery to market. Any new features, functionality, or data we're providing makes this highly competitive in an already competitive environment.

Great. And then a question on your high-grade market share. Could you discuss how institutional RFQ share is trending? I mean, is that a part of—that drop at all?

Yes. On the share, I mean, we did see a bit of a decline. We are — upon analyzing that, it's definitely due to the pickup in portfolio trading that occurred and also on the dealer business. We attribute it mostly to those two factors. Hence, the extra effort we're making in both those areas. Those are the two significant investment areas for us to regain share. We think in terms of our in-comp client dealer RFQ business, we're on very solid grounds with that, and Open Trading is the difference-maker in terms of liquidity and our ability to do all in-comp activity very efficiently for clients. So it is largely due to the challenges in PT right now and dealer-initiated business.

I would just add that our high-grade market volumes did increase in Q1 by 18%. Our block trading ADV increased as well. More importantly, our automation continues to grow within the high-grade market. That's one area where we're highly penetrated throughout. In Q1, automation was up 40%, and that automation volume is quite sticky. We see people moving into automation and remaining at those levels. So across the high-grade market, we've seen growth, we've seen records, and more importantly, we've seen sizable penetration with our automation solution.

Maybe just sticking with X-Pro. I think you quoted about 16% of your volume now is running through X-Pro, and it's accounting for 60% or nearly 60% of your portfolio trades. Just maybe if you can comment on where you ultimately want to get that to or think you can get X-Pro to in terms of your overall volume. And then to what extent is portfolio trading a big part of that process? If the market does shift back away from portfolio trading over time because of higher credit spread volatility, how do you see that algorithm working within X-Pro to get more volume on to expand your overall market share?

Great question. And obviously, X-Pro is designed to replace our legacy user interface for our clients. We intend to put X-Pro in front of all traders and all clients globally. X-Pro will be rolled out in Europe and throughout the international client base this summer. We're excited to continue to roll out X-Pro not just for traditional RFQ, but more importantly, for portfolio trading. As I mentioned, we started that rollout for what we call power users, which is where we see the biggest benefit. The workflow efficiency designed in X-Pro helps these users. The biggest opportunity for X-Pro is really this summer and the quarters ahead around block trading solutions. One of the largest feedbacks we hear from our clients and traders is information leakage regarding all-to-all, and X-Pro allows our clients to easily engage dealers directly, either one-on-one or via multiple dealers in an RFQ. This is being rolled out targeting the $3 million to $10 million size bucket, which is a substantial part of the TRACE market here in the U.S. Overall, X-Pro is designed to touch every trader, every client, and across all our products once we complete the rollout. More importantly, X-Pro allows us to move at a quicker pace from a development and delivery perspective, which is the most exciting part about this new technology.

That's great. Actually, that leads into the second follow-up question on that, and that's the large block sizes. So I think you quoted that last time like 30% to 60% of the market is trade sizes over $5 million. That's obviously been the area where more has been done with voice over time, and it's been tougher to crack. So I guess, what is your view on that part of the market electronifying over the next, call it, 3 years or so as the next leg of the electronification of the market?

Yes, Brian, it's Rich. I mean, we think it's going to increase. As I've said before, we're going to see a high penetration rate across all sizes. Some of that might just be trade processing through more efficient ways to do a bilateral trade with a known dealer, and that's fine. That's part of what this portion of X-Pro is designed to do very efficiently. But we want to ensure that we've got a way to allow a trader to place their orders into our system and have a variety of options for executing that, whether it's recommending likely dealers or processing a trade bilaterally with a trade that's been executed, or engaging in Open Trading with clients. Think of it as a central point where that trader can access all the tools MarketAxess offers, across our various protocols. All from one place where they manage their order. That's a key part of it: once their order is in X-Pro, they can launch off in these different directions depending on what's available and the best recommendation for that order.

Brian, I would just add that we hear regularly from our clients that they want to do more with less. They are not hiring traders on their desks, which has been a trend. This area of the market is pretty inefficient from just a workflow perspective. You can imagine using phones and chat is not the end result of market evolution. We're trying to replicate their experience on chat and phone, minimizing information leakage to the right dealers in that CUSIP, with both the data, pre-trade analytics, and content that we're collecting and pumping through X-Pro that will help those traders: firstly, identify the size of their order that the market can consume, and two, the best dealers to interact with for that specific order. We’re excited about the opportunity to convert a sizable portion of the phone and chat market onto the electronic platform. The portfolio trading and demand indicate the need for immediacy, certainty, and efficiency of workflow is high among our clients, as they see more capital flowing into their platforms without hiring additional traders.

I have a question on Pragma. Maybe changing topics away from PT. I was hoping you could update us on the progress there with Pragma. Maybe you can elaborate on the contribution of the business, how you see the growth path ahead, and strategically, maybe you could update us on how you see this being strategically additive to the firm?

Sure. Obviously, we closed the Pragma transaction in the fourth quarter, and we're quickly integrating Pragma into the broader MarketAxess technology framework. We're excited about some of the technology synergies that we're seeing. Pragma has been a key ingredient to the launch of the first credit algo in the credit space. So we're excited to see that algo and the demand we’re getting. More importantly, we are seeing opportunities to utilize Pragma technology throughout our technology footprint. Right now, Pragma is consuming some of our automation suite. Our goal with current integration is to have both algos and automation be part of one suite of offerings, so you can get basic auto RFQ, basic auto responder, and a suite of algos all within the same API or selection of products. We're excited about the integration of Pragma in automation. The next piece we see is the Pragma EMS solution, which maintains order state and controls orders to connect multiple destinations. We're using various protocols within MarketAxess, but we plan to deploy the EMS technology further in the market. It's still early days for our excitement around the Pragma acquisition, but we see it becoming a more important part of the overall technology footprint of MarketAxess.

Great. Just a follow-up question on emerging markets. It's great to see the renewed strength, particularly in local markets, EM, especially in April. Just curious what you're seeing there. Maybe you can elaborate on the EM initiatives you have and any other regions you're particularly focused on? Where do you see scope for more innovation ahead in EM?

Sure. On the EM front, we're pretty excited about the growth we've seen in EM in Q1. We were seeing lower volumes in 2023, and we weren't expecting that to change, but it did change, and we saw record volumes, ADV, and commission revenue up almost 11% in Q1. One interesting area of growth, resulting from growth of protocol, is our block trading ADV, which is up almost 34% year-over-year in the first quarter. The other area of sizable growth was our local markets, which are up 30% in Q1 year-over-year, with local market estimated volume close to 80%. Areas of excitement include our APAC volumes growing year-over-year. APAC was up 33% in Q1, and witnessed even more in April—about 40%. Our APAC clients generated record emerging markets ADV in the quarter, which was up from 11% to 55%. Our international growth and expansion are reaping benefits across our EM market, particularly from APAC growth.

Just one for me. You spoke extensively today and over the last couple of quarters that the path towards building more of a bridge in IG with some market share is likely going to come from PT and dealer-initiated RFQ. Can you talk a little about the pricing and fee per million in both of those? I think you kind of hit on PT a little bit. But how does that compare to the $150, $160 you’re running currently at credit? And do you expect that your initiative there to exert more pricing pressure on that part of the market for competitors as well?

Sure, Alex. It's Rich. And yes, I did mention the fee capture in PT being lower. With dealer business, that's Open Trading, an all-to-all type business, where we're delivering more value. Our fee capture is relatively higher. I should note that when we deliver liquidity to dealers, about 30% of the time that comes from buy-side firms, not just other dealers. Those are some of the most valuable connections we can make, allowing us to charge a relatively higher fee. The prospects for fee capture in the dealer-initiated side of the business are quite promising. We see a lot of growth opportunity in delivering traditional client-to-dealer business, leveraging Open Trading and making those connections between clients, allowing us to charge based on that connection effectively.

I just wanted to double-check on the dealer initiated segment. I don't think you talked about how much of your business that comprises today. So can you maybe discuss that and where it's been in the past? Looking forward, if you think about how much of that piece can electronify versus the broader market in IG. How do you think about the potential there versus client-to-dealer and some of the other trade types?

Yes, Ben, it's Rich again. We definitely feel strongly about our opportunities there. Roughly speaking, about 30% of our RFQ activity is coming from dealers initiating on the RFQ side. So that has room to grow. As I was saying, we're doing this in London for the Eurobond market, and here for investment-grade and high-yield markets. It's an onboarding process and building adoption, but we're confident we'll be competitive in that space.

Can we have a little bit more of an update on Adaptive Auto-X? I think last quarter you mentioned that 13 clients were using it. How has penetration progressed? What can you share about the early feedback?

Sure, Eli. Yes, we're pretty excited about the innovation of Adaptive Auto-X; as I mentioned earlier, it's the first client algorithm launched in the credit space. Currently, we have 25 clients live on Adaptive Auto-X. There are about 30 clients approved and still awaiting onboarding. There’s more in the pipeline. We've been showing demos of the product to all our clients, and the feedback has been quite positive. It's still early days with this product rollout, but we’re seeing healthy outcomes in terms of execution quality, both in terms of avoiding spread as well as with some of the larger blocks being sliced into smaller sizes. We're also seeing improved trade execution quality by limiting market impact from executing larger block sizes. In summary, early days with the product, but we have a healthy demand considering the size of client onboarding we’re experiencing right now.

Got it. And you mentioned the block trading had a particularly strong quarter earlier. How much of this is attributable to this early progress on Adaptive Auto-X? Or is it other technologies and protocols that are driving that progress so far?

The block trading success we're seeing in EM arises from a protocol we launched a long time ago called request for market, which has significantly contributed to our block trading experience here. As I mentioned, in EM, block trading was up 34%. We are also experiencing larger block sizes in local markets, as well as investment-grade. Our intent is to roll out X-Pro for high touch, targeting the block-size market, still to come in the following quarters. There’s a lot of opportunity around the block size solution, both from algorithms breaking down blocks and solving blocks for electronic trading while minimizing information leakage.

Great. Well, thank you for joining us today. We're exceptionally excited about the things that we're building and rolling out this summer, and we look forward to updating you on our progress at our next quarter call. Thanks, everyone, for joining.