David Braga, CEO, BNP Paribas Securities Services Australia & New Zealand, and Luc Renard, Head of Financial Intermediaries & Digital Transformation, Asia-Pacific for BNP Paribas Securities Services, discuss Distributed Ledger Technology (DLT) and its applications in securities services with Markets Media Editor Terry Flanagan.
The BlackRock Letter: Climate Change in the Mainstream
By Kevin Parker, Managing Partner, and George Parker, COO, Sustainable Insight Capital Management
The world’s largest asset manager joins clients and competitors in holding boards accountable for ignoring climate risk.
When Larry Fink issued his now famous letter in mid-January it was hardly a pioneering stand on behalf of the environment. Rather BlackRock has taken a clear-eyed approach to managing risks and addressing client demand, two fundamental pillars of asset management. In the process, BlackRock is forcing boards and managers to recognize the materiality of sustainability issues and raising the profile of organizations dedicated to standardizing the disclosure of those issues while exiting sectors in long term secular decline.
In 2014 we argued for the inevitability of ESG. Since then investors have come to more fully understand the financial impact of environmental, social and governance factors on corporate performance. Ignoring ESG factors or labeling them as purely non-financial concerns will no longer suffice for corporate boards. Investment managers have also felt the sting, losing assets for using offensive language, failing to diversify or simply not meeting product demand. And as the buy side continues to apply ESG metrics beyond asset selection to analyzing business partners, sell-side brokers may face reduced order flow for not levelling up.
For many investors, the paramount ESG concern is climate change. Warming winters, rising seas and a cascading series of global natural disasters are breaking down the wall of resistance to climate change science in BlackRock’s largest market. It is also convincing leaders of the world’s largest pools of capital to become advocates for action from divestment (Norges Bank) to engagement (the Government Pension Fund of Japan (GPIF)).
Current calls for divestment are supported by both ethical and financial concerns. The rising costs of capital for fossil fuel producers has become a regular risk factor in financial statements as increasing numbers of lenders, insurers and investors walk away. Investors also recognize that regulatory action on carbon will combine with automobile electrification and the declining price of renewables to render some currently valuable fossil fuel reserves worthless. In the medium term, performance has continued to lag with energy claiming the spot as the lowest performing sector in the S&P 500 over the past ten years.
In addition to divestment, investor engagements, often spearheaded by a growing number of third-party advocates such as Climate Action 100+, Climate Disclosure Project and CERES, are pushing companies to address climate-related issues as varied as support for climate lobbying, responsible sourcing of animal products and renewable energy sourcing. Despite recent SEC efforts to tamp it down, this trend is likely to continue, an inevitable product of technology development and the rising democratization of the shareholder base.
The market seems to be reflecting a change in sentiment, with flows into ESG strategies growing rapidly in the US, in direct contrast to the general move from active to passive.
A recent Deutsche Bank paper argues that we have passed a tipping point, and provides performance-based evidence for why, contrasting the strong performance of companies with good climate change policies with that of laggards. Large financial firms have recognized the trend as well, with Moody’s, ISS and MSCI among those enhancing their climate data offerings with third-party acquisitions over the past three years.
Enter BlackRock, the largest outside manager for GPIF and the subject of recent criticism for its voting record on ESG-related shareholder proposals.
BlackRock has decided to embrace limited versions of both approaches while pushing what some observers believe to be the its most important contribution: standardization of disclosure. BlackRock announced it will begin to divest thermal coal producers. Given the declining demand for coal and series of bankruptcies among the few remaining US miners, it would have been prudent for BlackRock to have reached this conclusion earlier. In addition, BlackRock has begun to launch additional strategies that will screen fossil fuel companies, a sector that has underperformed the S&P 500 for the last several years.
Perhaps more importantly, BlackRock will apply its massive scale to “investment stewardship activities.” Boards and managers that don’t address sustainability related risks and provide the proper disclosure to shareholders will find the world’s largest asset manager voting them down. State Street and BMO quickly followed with similar pledges.
If successfully implemented, BlackRock’s efforts will yield many winners, perhaps the biggest of which are the Sustainable Accounting Standards Board (SASB) and the Task Force on Climate Related Disclosures (TCFD). These two organizations have been driving to standardize corporate sustainability and governance disclosures, much to the relief of many corporate managers who have struggled to answer the variety of requests sent their way.
One of our stated goals in launching Sustainable Insight in 2013 was to bring sustainable investing into the mainstream. With the world’s largest asset manager joining the world’s largest investors in embracing climate change and engaging companies in its portfolio, we seem to be squarely there. •
The above article is for informational purposes only. It is not an offer or solicitation for any security or investment product managed by SICM and should not be construed as investment advice. Investment strategies implemented by SICM on behalf of its clients may or may not trade or hold positions in the securities referred to above. Further, investment accounts managed by SICM may or may not employ strategies based on or related to the above research.
Shrinking Hedge Fund Fees: What Do Investors Need to Know?
Hedge funds fees remain under extreme pressure across the industry. This strong trend is driven by declining return expectations from investors, increased competition across the industry, and an increasing share of industry assets controlled by large institutional investors.
Back in 2009, most hedge fund investors took meetings with hedge fund managers they thought had the ability to generate mid-teen returns. Today, historically low interest rates, tight credit spreads and high equity valuations have largely dampened expected returns to high single digits. As a result, many investors believe that the fees historically charged by hedge funds now represent too large a percentage of their gross performance. A recent Eurekahedge survey on North American based hedge funds noted that the average management fee has declined to 1.26% and the average performance fee has declined to 14.81%. The results of this survey raise two very important questions:
If these survey results accurately reflect the average fees, are these the fees paid by most hedge fund investors?
How can investors take advantage of changing fee structures to generate better investment results?
Does the average investor pay the average fee?
Twenty years ago, all investors generally paid the same fee, regardless of allocation size. Today, most funds will provide a significant fee discount to large allocators. While the definition of ‘large’ varies by firm, it typically starts in the range of $25-100 million. Very few hedge funds have reduced their fees for current or future investors allocating $25 million or less. While those investors have seen a slight decrease in fees, very large allocators (over $100 million) have seen fees decline as much as 25% to 50%. Allocation size has caused a large divergence in the range of fees paid by investors and is responsible for a vast majority of the decline in revenue at the industry level. Of course, individual managers that have experienced a meaningful growth in assets from institutional investors will still find an improvement in overall revenue.
Most of the decline in standard hedge fund fees has come from new fund launches that have gravitated toward a 1.5% and 20% model and away from the 2% and 20% model. We are seeing very little push back at 1.5% and 20% for allocations below $25 million. However, an increasing number of investors of any size are avoiding 2/20 managers, unless the manager has a strong performance record and more demand for the strategy than the capacity they can provide.
How can small and medium size investors take advantage of changing fee structures to generate better investment outcomes?
Importantly, investors should NOT make investment decisions primarily based on fees. Rather, they should continue to use multiple evaluation factors including the quality for the organization, investment team, investment process, risk controls, net return, service providers and fund terms. However, all other things being equal, lower fees will lead to higher net returns and make a fund relatively more attractive. It is important for investors to identify what fees and calculations are reflected in the net performance presented in a hedge fund’s marketing material. As a cautionary note: hedge funds net performance often reflect fees that are not available to smaller investors.
A couple of ways investors can reduce the fee they pay to hedge funds include:
Founders’ shares. Raising assets for smaller hedge funds is difficult. In response, an increasing number of hedge funds with less than $200 million dollars in assets are offering a discounted fee structure called Founders Shares. Founders Shares typically enjoy a 25-50% discount to the fund’s standard fees and are offered until either the hedge fund reaches a certain asset size or a period of time has passed. Once these thresholds are reached, the share class is closed to new investors, but the discount is grandfathered for investors in the Founders Share class. Subsequent investors will be charged the standard, higher fee structure. Focusing on these smaller managers requires more skill and diligence for investors, but can offer significant fee discounts and potentially outsized returns if the right manager is selected.
Asset Aggregation. Many outsourced CIOs, consulting firms, and multi-family offices offer an ‘approved’ or ‘recommended’ list of hedge funds into which their clients invest directly. A recent trend in the industry is for these firms to negotiate a fee discount based on the aggregate assets invested from across their client base. This will, in turn, reduce the fees paid by each of the underlying investors.
How can large investors take advantage of changing fee structures to generate better investment outcomes?
Large, institutionally oriented investors have been the primary beneficiaries of the evolution in hedge fund fee structures. Agecroft estimates these investors are responsible for 80 to 90% of assets of all new hedge fund allocations and are vital to the success of most hedge fund organizations. If these large investors are properly educated and given full flexibility of mandate, they have the potential to achieve significant fee savings and, as a result, higher net returns. Part of this requires a willingness to focus on small and midsized hedge funds, which are much more flexible in negotiating fees. Many large, established firms have difficulty offering a significant discount on fees because they are constrained by the existing client base that typically includes investors with “Most Favored Nation (MFN)” clauses. Offering discounted fees to a new client might end up costing the firm significantly more by having to reduce fees for existing clients protected by an MFN clause. Below are a couple of fee structures from which large investors may benefit:
Schedules that tier fees based on the size of an allocation. This model has been standard practice in the long-only space for decades. By reducing fees for larger allocations through a sliding scale fee schedule made available to all investors, managers can avoid most individual fee negotiations. We expect this type of fee schedule to gain popularity throughout the hedge fund industry over time.
Tailored fee structures to address specific priorities for prospective institutional investors. Most hedge funds are flexible in how fees are structured for large institutional investors, as long as the total fee they will receive is similar over the cycle and there is no conflict with existing MFN clauses. If a manager is comfortable offering the same fee structure to other investors of similar size, they should be open to a variety of fee options that may address investors’ specific needs. When negotiating fee structures, there is usually significantly more pressure on the management fee than the performance fee because investors are more comfortable paying for performance generated by manager skill.
In recent years, there has been a growing trend among investors to distinguish between performance driven by market beta and alpha created through manager skill. Some investors are requesting a performance hurdle as a means to pay a performance fee only on returns generated by manager skill. These performance hurdles are structured in different ways and typically tailored to the underlying strategy. Many hedge funds will consider a hurdle if the investor offers a concession somewhere else, which might translate to a higher performance fee, or a smaller discount on the management fee. One trend we have seen is the 1% or 30% fee structure where a hedge fund receives either a 1% management fee or 30% of performance. In this case, the cumulative management fee paid is treated as a hurdle and subtracted from the performance fee.
Other trends being adopted include institutions willing to lock up their investment for longer periods of time in return for lower fees. In some cases, this also includes a multi-year period over which performance fees are calculated and collected (Performance Crystallization period). This structure reduces the risk of an investor paying a performance fee in one year followed by a draw down the following year.
Hedge Fund Seeding/Acceleration
As it has become increasingly difficult for start-up and smaller hedge funds to raise assets, many are turning to alternative sources of capital. Start-up hedge funds often accept Seed Capital from large allocators (including pension funds, endowment funds, family offices, OCIOs, and others) that agree to make a large locked up allocation in a hedge fund in exchange for a significant fee discount and a percentage of the hedge fund management firm’s revenue. A good benchmark on revenue sharing is 20% to 30% of the firm’s annual revenues with a buy-out clause after year five. Acceleration Capital works similarly, but is committed to an existing hedge fund seeking to ‘accelerate’ asset growth. These arrangements can be highly profitable for institutional investors if the hedge fund is successful raising additional assets well before the buy-out clause becomes effective. Thus for seeding and acceleration allocators, in addition to the quality of the fund, the marketing strategy is an important driver of a successful outcome.
First Loss Programs
First loss programs are the easiest sources of capital from which liquid hedge fund strategies can raise assets, but are also the most risky. They require a managed account into which the hedge fund manager contributes approximately 10-20% of the account balance and the remainder is furnished by the institutional investor’s first loss program. Fee structures can vary broadly across programs, but typically a hedge fund manager retains 50% of the upside performance, but is responsible for 100% of the downside. The separate account allows the institutional investor to monitor the portfolio and begin liquidating based on drawdown trigger points. These programs can generate very good risk adjusted returns if administered properly.
In summary, fee compression across the hedge fund industry is a long-term trend that will change the structure of the industry. It is a vitally important trend to understand – for hedge fund managers to effectively compete and for investors to maximize their net risk adjusted returns.
Women in Finance Asia Q&A
Ahead of Markets Media Group’s second annual Women in Finance Awards Asia planned for May 8, 2020, GlobalTrading interviewed some of last year’s winners. Topics were ‘secrets of their success’, advice on striking a work-life balance, future goals, and overall views on the state of women in the highly competitive (and still often male-dominated) trading space.
Christine To, Head of Asian Equity Trading, T Rowe Price
What is the state of women in finance in 2020, broadly speaking? What progress is still needed?
Women are still the minority in the financial industry, and this is especially true in trading. To achieve greater diversity and inclusion in the industry, more effort should be made in two areas.
First, there should be an awareness of unconscious bias. The impact of unconscious bias can be more prominent than conscious prejudice, and could play a big role during the hiring process. This should be highlighted to associates at all levels, particularly to hiring managers. Raising the awareness of unconscious bias in the workplace can also bring together more diverse ideas, which could result in more dynamic discussions and outcomes.
The second area is introduction sessions for students. It’s important to show the younger generation that women can play a major role in the financial industry. If they are aware finance and trading are careers they can consider, they can work towards that in their academic planning.
What is the ‘secret of your success’ as a woman in finance?
I am very fortunate to have built my career at T. Rowe Price, a company that is very supportive of diversity and inclusion, and 44% of its global workforce is female. I work with managers and peers who are aware of unconscious bias and treat male and female associates as equal. More importantly, I always consider myself to be as competent as my male colleagues. I think sometimes women can also fall into the unconscious bias and hold ourselves back if we don’t think of all genders as equals in the workplace.
How do you connect individual success and organizational success?
At T. Rowe Price, the long-term success of our clients is made possible by the diversity of backgrounds, perspectives, talents and experiences of our associates. We believe our culture of collaboration enables us to identify opportunities others might overlook. Our associates, in turn, enjoy more opportunities to grow their careers in such a diverse and collaborative environment. I believe if more financial companies recognize this link between individual and organizational success, the industry and our future generation of practitioners will achieve even greater heights.
How do you strike a work-life balance?
Careers in finance are often demanding. It is never easy to strike a balance. To help resolve that, T. Rowe Price has put in place a flexible work arrangement for those who need extra flexibility to juggle their responsibilities. As for me, the key is to set aside time to separate myself from work and decompress. In fact, the beauty of being a trader is that I can switch off from work after trading hours to relax, watch my favorite TV shows and play with my dog.
J.P. Morgan Asset Management
Vivian Peng, Executive Director, J.P. Morgan Asset Management
What is the state of women in finance in 2020, broadly speaking? What progress is still needed?
Within the financial industry, there has been significant progress made, with more women being recognized with bigger responsibilities. However, we still do see a large percentage of males occupying senior management roles. Over the past year, we’ve seen an increasing momentum of attention paid towards diversity and within our firm there have been many new initiatives aimed at empowering women. In the next few years, I hope to see a larger gender balance in senior management roles.
What is the ‘secret of your success’ as a woman in finance?
Be bold and take risks. It is okay to challenge boundaries and be rejected. Jack Ma was famously rejected by Harvard 10 times. He also applied to over 30 jobs and was rejected from those too. Yet, he never let that discourage him and believes rejection is something we should get used to. The bumps along the way only prepare us for larger opportunities in the future. It is important to believe in yourself and be the best you can be. You will be amazed with what you can achieve.
How do you connect individual success and organizational success?
I believe individual success is the foundation for a company to achieve anything. People are the most important asset. I am a strong believer that when a firm spends the time and effort grooming its people, their talents and potential are unleashed, helping them grow in their career and building the firm towards organizational success.
How do you strike a work-life balance?
It is extremely easy to be occupied with our work life and forget to relax and spend time with family. I enjoy travelling and exposing myself to different cultures, therefore I plan trips to periodically refresh and recharge. Travelling often brings new perspectives that changes approach to problems.
What is something interesting that most people don’t know about you?
I love to explore mysterious countries such as Tibet. The untouched mother nature and culture is alluring to me. The views from snowcapped mountain ranges are magnificent, and yet so peaceful.
What are your future goals?
Surrounding yourself with influential leaders and right people changes everything. I have been very fortunate in my career to have an amazing manager who always finds time to provide me with tremendous mentoring support and guided me along my career path. I hope to one day be able to offer someone the same and give my unequivocal support.
Bank of America Merrill Lynch
Josephine Kim, MD, Head of APAC Execution Services Sales, Bank of America Merrill Lynch
What is the state of women in finance programs in the financial industry?
We’re seeing a huge focus across the globe highlighting the importance of having a diverse group, especially at the board member level. Conferences and advisory groups have started implementing a conscious effort on mixing participants. Also there was a study that showed having a mixed and diverse group actually improves decision making. So this will continue to be a focus.
What is the ‘secret of your success as a woman in finance?
Having a GRIT and never being afraid to challenge the status quo. Also know your strengths and weaknesses. Self-acknowledging your own weakness can be hard at times but start with awareness then slowly move towards a step by step action to improve. You may not realize but this will actually turn people to your side.
How do you connect individual success and organizational success?
The fundamental success factor is to ensure that your success as an individual can be replicated by other individuals. Success should be shared and repeated. Successful organizations mean there is a clear objective as a group and it is repeated by people, not by a few individuals.
How do you strike a work-life balance?
It is the same answer to the question of how you strike a balance between meal time and sleep time. I bet most people don’t ask this question to themselves as we all know this will be just given and people naturally allocate their time on these two. I do think the same goes to work-life balance and I do think we all do every day but the difference is whether one is making a conscious effort to adjust to their own lifestyle and time frame. Personally for me, depending on the circumstances, I break my time into 30 mins and you will realize you can achieve a lot more than what you can within a day. Also there are times where I look at my time in weekly horizon. Say this week was a business trip and there was a heavy weight on work then the following week, I will make a conscious effort to allocate more time on other things I missed.
What is something interesting that most people don’t know about you?
I am starting a one-month sabbatical to conquer the 800 kilometers Santiago Trail in Spain in April. This was on my bucket list so I am very excited that I am about to cross off one item from the list!
What are your future goals?
To lead by example, and to do more to promote Diversity & Inclusion in our industry. Also I started to think more about the community and see how I can influence and make a positive change to the society. I currently have 2 young boys I sponsor in Africa for some time but I am looking to spend some time in remote areas to help the local community.
Words of Advice from Azila Abdul Aziz, CEO of Kenanga Futures and the winner of the CEO of the year award
In the predominantly Gen Y & Z economy of an AI-enabled world, when IQ and technical skills are similar, you need to inculcate emotional intelligence skills to perform better and succeed in a corporate environment. No doubt, emotional intelligence is less common than book smarts, but my experience says it is actually more important in the making of a leader.
Being emotionally competent entails three aspects:
first, practicing self-awareness of recognizing how you feel; second, developing self-control and keeping impulse in check; and third, understanding what motivates you towards achievement, drive and commitment. If you don’t have self-awareness, if you are not able to manage distressing emotions, or if you don’t have empathy and can’t have effective relationships, then no matter how smart you are, you are not going to get very far. Truth be told, not every personality is wired for naturally solving problems with soft- skill solutions. We are not perfect, nor should we pretend to be, but it is necessary to be the best version of ourselves.
Leadership has nothing to do with gender, nor should it. The best leaders are women and men who have first-class training, bright minds, warm hearts, a passionate embrace of their mission, a sense of connection to their colleagues and communities, and the courage to be open to tuning to what is already here.
Liquidity, Market Structure in Focus
The structure of U.S. financial markets has held up strongly in the face of intense volume and volatility over the past week. But there are persistent inefficiencies that need to be addressed.
Those were broad takeaways from a panel discussion at a trading, liquidity and market structure conference held Friday at Baruch College in New York.
Jim Ross, Managing Director at alternative trading system operator Coda Markets, noted that 19 billion shares traded on Friday, February 28, the second-highest daily volume ever.
Amid “incredible” volume and volatility, “the system was operating and working and people were able to get trades in,” Ross said. “The market has sustained and it has continued.”
The CBOE Volatility Index, or VIX, was near 48 as Ross spoke, up from 18 just two weeks ago, on coronavirus fears. The reading would be much higher if investors looking to buy or sell had trouble doing so. “Imagine what VIX would be if NYSE or Nasdaq went down?” Ross said. “The business continuity of exchanges is imperative to stability.”
But amid the current tumult as well as before, there are lingering inefficiencies in market structure, such as market fragmentation, information leakage, and execution delays, according to Ross.
With regard to how liquidity has been affected by market structure, Nasdaq Chief Economist Phil Mackintosh cited the legacy of stock-price decimalization from the early 2000s. This change narrowed bid-ask spreads and decreased transaction costs, which boosted liquidity in aggregate.
“But what also happened was that (trading venue) competition was introduced, so there were lots of different places where liquidity rests,” Mackintosh said. “It became harder to know where liquidity is.”
Jim Toes, President and CEO, Security Traders Association, said that while the current market structure isn’t perfect, “overall does serve all parties rather well. It enables retail investors to interact with institutional investors.”
As shapers of market structure, regulators need to strike a balance between having the right safeguards in place to maintain stability, and providing market participants with speed and functionality.
“Nothing harms investor confidence more than an outage,” Toes said. “Systemic failures will harm investor confidence. But regulators can’t have market structure built just or a doomsday scenario, because you lose efficiency that way.”
Ross said regulators have helped mom-and-pop investors more than institutional investors, and the result is a duopoly of market structure — quote-driven dealer on one side, dark pools on the other — that doesn’t interact efficiently.
In the future, Toes said one high-priority issue to be resolved is markets’ ability to handle and process message traffic, which is burgeoning in options especially. Also, there’s a question of whether buy-side firms will be more willing to trade via central risk books handled by broker-dealers. “There could be more volume not making it to lit markets,” Toes said.
Nasdaq’s Mackintosh said one future trend will be markets outside of equities gaining efficiencies as data is better utilized.
Libor Swaps Continue After ‘Sonia Day’
Interest rate swaps based on Libor continued to be executed yesterday despite UK regulators wanting market makers to transition away from the reference rate on March 2.
The Bank of England and the Financial Conduct Authority encouraged market makers to use Sonia as the standard reference rate for sterling interest rate swaps from March 2.
Chris Barnes at derivatives analytics provider Clarus Financial Technology monitored swaps being reported yesterday. He said on the firm’s blog that there was not a decisive switch as both Sonia and Libor swaps were traded.
“What this means is that secondary instruments, such as swaptions and cross-currency swaps, remain firmly Libor-centric. It was not expected for these markets to transition today, but it does help to highlight how long a complete transition will take,” he added. “There are a lot of markets still addicted to Libor.”
SONIA Day – LIVE Blog https://t.co/OyeKXaVLfD pic.twitter.com/maTnvWAIP2
— Clarus (@clarusft) March 2, 2020
After the financial crisis there were a series of scandals regarding banks manipulating their submissions for setting benchmarks across asset classes, which led to a lack of confidence and threatened participation in the related markets. As a result, regulators have increased their supervision of benchmarks and want to move to risk-free reference rates based on transactions, so they are harder to manipulate and more representative of the market.
The UK has chosen the sterling overnight index average, Sonia, as its risk-free rate. The FCA said two years ago that it will not compel panel banks to submit to Libor beyond 2021.
Barnes said that yesterday there were 149 Sonia trades with a notional of £225bn ($228bn) versus 238 Libor trades with a notional of £13.2bn. The majority, 82%, of Sonia risk transacted was two years or shorter with just two Sonia trades with maturities longer than 10 years.
“The amount of risk traded in GBP Libor five-year and ten-year swaps alone was equal to the total Sonia risk traded today,” he added. “Liquidity in those two benchmark tenors has to transition to Sonia products before we can consider that the market convention for sterling swaps has moved to Sonia.”
Clarus’ analysis is based on US data from US swap data repositories, which are more transparent than in Europe. However, the firm believes US SDR data to be representative of the market as a whole.
Bank of England
Andrew Hauser, executive director, markets at the Bank of England said in a speech last month that progress on Libor transition has been made in the sterling derivatives market with approximately half of new cleared sterling swaps referencing Sonia last year.
Hauser spoke at the International Swaps and Derivatives Association/SIFMA Asset Management Group Benchmark Strategies Forum 2020 in London.
In his speech today Andrew Hauser, Executive Director, Markets, announces two of our new initiatives aimed at supporting the transition away from LIBOR. https://t.co/qWWLl27o6E pic.twitter.com/1sXhMY2QVp
— Bank of England (@bankofengland) February 26, 2020
Although there has been progress in the swaps market, he said Sonia also needs to be increasingly used in futures and non-linear products.
“In preparation for the provision of a robust forward-looking sterling term rate, many banks are now streaming executable Sonia swap prices to regulated trading venues,” added Hauser. “Having the inter-dealer market able to trade Sonia in a single click is a key building block to helping firms hedge with the smallest friction possible.”
The Bank of England’s working group will be considering what more needs to be done to drive transition in these markets over the coming months.
In order to accelerate the transition to Sonia the UK central bank is going to publish a new Sonia daily index and discourage the use of Libor-linked collateral.
Hauser said: “2020 is a critical year for Libor transition. Great progress was made in 2019, particularly in sterling wholesale markets but there is still a lot of ground to cover – particularly in the cash markets.”
The Bank of England set up a Risk Free Rate Working Group, under the leadership of Barclays’ chief financial officer Tushar Morzaria, which has published a road map for the transition.
The minutes for the task force’s January meeting were published at the end of last month. The minutes said attendees noted particular progress in sterling but there was general acknowledgement that loan markets were lagging behind globally.
“The task force was working on a granular plan for transitioning to Sonia linked lending aligned to the working group’s headline target to cease issuance of sterling Libor based cash products maturing after 2021 by the end of the third quarter of 2020,” said the minutes. “Conventions were another key focus and the group was working closely with the infrastructure and loans sub-groups.”
CEO letters
In addition, the FCA wrote to the chief executives of asset management firms on February 27 saying they needed to prepare for the end of Libor.
The letter said: “We expect your firm to take all reasonable steps to ensure the end of Libor does not lead to markets being disrupted or harm to consumers, and to support industry initiatives to ensure a smooth transition. Firms, such as yours, in the asset management sector, should be in no doubt that they have a responsibility to facilitate and contribute to an orderly end to Libor.”
The FCA continued that firms should not expect or base their transition plans on future regulatory relief or guidance on legislative solutions. The regulator added that if asset managers have Libor exposures or dependencies, their transition activities should now be underway.
“If Libor transition is not yet underway at your firm, we expect you to take immediate action to develop and to begin to execute an appropriate plan,” said the FCA. “If your board decides that no Libor transition plan is needed, we may seek to understand and, where appropriate, challenge the reasons for this decision.”
Algomi Co-Founder Aims to Democratize Access To Analytics
Usman Khan has launched APEX:E3, a cloud-based analytics platform for digital assets for retail and institutional investors, which will then expand into traditional financial assets.
Khan, chief executive of APEX:E3, was a co-founder and board advisor of Algomi, which provided data aggregation technology for finding fixed income liquidity.
He told Markets Media: “I had a seven-year journey at Algomi but I wanted to take my next step as an entrepreneur and founded APEX:E3 in the summer of last year.”
The multi-asset analytics platform is backed by global blockchain company ConsenSys.
We're excited to announce our @ConsenSys @ConsenSysLabs investment in the great @APEXE3HQ team this week. Sign up for their beta for access to their "Bloomberg for crypto" institutional grade analytics & tools for retail traders. https://t.co/MSwpfAQKwC https://t.co/dDKFbcTMPu
— Joseph Lubin (@ethereumJoseph) February 26, 2020
Min Teo, partner at ConsenSys, said in a statement: “We are thrilled to support APEX:E3 as they launch their multi-asset platform to bring much needed institutional-grade technology to the retail trader community. We look forward to collaborating with the team in the future and supporting the further roll-out and development of this technology.”
Although APEX:E3 will initially provide aggregated market data on cryptocurrencies, it aims to enter traditional financial markets.
“We will be multi-asset before the end of this year with equities and foreign exchange,” Khan added. “Our aim is democratise access to institutional-grade financial markets analytics.”
Users are able to analyse data from a number of digital exchanges through a subscription fee.
There are a large number of digital exchanges but Khan said the firm can use A.L.I.C.E, its Automated Liquidity Identification and Classification Engine, to analyse them and ensure they execute genuine transactions.
“A.L.I.C.E can analyse order books using quantifiable metrics and ensure they are not just washing trades,” he added. “We can analyse more than 5,000 order books every sub-second in real-time.”
The technology enables traders to identify liquidity opportunities across exchanges globally and backtest so they can develop proprietary strategies.
“We have been testing our infrastructure with 200 traders since September last year ahead of the wider launch, “ Khan said. “We are like a submarine emerging from the depths of the ocean.”
He continued that the roadmap for APEX:E3 includes additional functionality such as the ability to execute on centralised and de-centralised exchanges; trading alerts functionality and event-based backtesting.
“Asset managers want to enter the digital asset market but need infrastructure such as an algo sandbox for testing their financial models,” he added. “In addition, we have had interest from data companies who want more on information on digital assets.”
Value of data
The value of data in financial markets is increasing as shown by a recent survey by data provider Refinitiv and consultancy Greenwich Associates. The Future of Trading report found that 85% of banks, investors and capital markets service providers plan to increase spending on data management.
The #TradingDesk of 2024: Our series on the future of trading examines the rising value of data. https://t.co/2cxr092YYT @Refinitiv #SmarterTrading pic.twitter.com/sG3hkSqa8E
— Refinitiv, an LSEG business (@Refinitiv) February 4, 2020
Beacon Platform Gains Traction
From a business idea hashed out over beers, to a $20 million capital raise.
Beacon Platform has come a long way in seven years, since one-time Goldman Sachs colleagues Kirat Singh and Mark Higgins met at Connolly’s Pub in midtown Manhattan in 2013 to brainstorm how capital markets firms can harness and deploy quantitative-trading technology most effectively.
Specifically, the idea was for a next-gen, cloud-based technology platform that would enable asset managers, banks and hedge funds to securely build, test and deploy analytics at enterprise scale. This would provide firms of all sizes the same tech firepower as the largest institutions, which in turn would create a stronger and more innovative financial ecosystem.
In January, Beacon closed a Series B funding round, proceeds from which will go toward expanding operations and product development, spanning the firm’s platform to its suite of financial analytics and data models to its trading and risk management application solutions.
“Our vision is to create an ecosystem where Beacon provides the backbone, and clients and vendors can share solutions,” Singh, Beacon’s CEO, said. “Just like Apple created an AppStore and the iPhone as a common delivery platform and transformed what’s possible in the mobile industry.”
Beacon’s co-founders have deep Wall Street / fintech backgrounds. At Goldman, Singh enhanced and extended SecDB, the core framework for the bank’s proprietary trading engine; at JP Morgan, his team designed and built a risk and trading system for FX and commodities. Higgins, Beacon’s COO, co-headed quantitative research for JP Morgan’s investment bank and ran FX and rates strategies teams at Goldman.
Singh and Higgins noticed something lacking on the technology landscape as far back as the late 1990s, when they worked together on the trading desk at Goldman and had regular dealings with third-party software providers and their products.
“Most vendors in capital markets were black boxes and siloed, so institutions ended up with a patchwork of solutions. Our vision was to create an open, transparent platform to provide integrated solutions,” Singh said. “In today’s world, financial institutions can leverage the ecosystem of open source and cloud infrastructure as a service. Beacon accelerates this transition and enables collaboration and innovation across business lines.”
Since launching in 2015, Beacon has landed Global Atlantic Financial Group and Pimco as enterprise clients, as well as Commonwealth Bank of Australia, SMBC Capital Markets and Shell New Energies. Pimco and Barclays are among Beacon’s institutional investors.
Singh said Beacon is seeing a network effect, where firms’ presence on the technology platform boost the value proposition for new customers. “We are focused on growing this ecosystem,” he said. “Whether you are buy side or sell side, you can use Beacon to be operationally more efficient, to understand your risk better, and to enable your quants to focus on business problems.”
In a crowded and competitive space, Beacon Platform has emphasized differentiation from the outset. “Beacon is the only vendor on the market that gives clients underlying source code, a developer platform, and infrastructure services, so they can own the full technology stack,” Singh said. “Beacon’s software has been designed to provide a significant uplift in developer productivity and reduce time-to-value.”
Beacon’s open source model obviates companies’ need to build and maintain their own platforms, effectively ‘future-proofing’ their technology. Higgins noted that developers, quants, and data scientists are typically good at solving the business problems in front of them, but less adept at the enterprise technology skills needed to make those solutions scale and evolve with the business for years into the future.
“How do you organize data at scale, and how do you build technology to last for decades?” Higgins said. “Commercial developer teams typically aren’t as familiar with enterprise technology. Beacon is designed to give technology tools to commercial developer teams so they can solve problems for their business quickly, and solve them in a maintainable and scalable way.”
As for its own future, Beacon is accelerating its expansion, with the help of the recent funding round, which was led by Centana Growth Partners. “The Series B funding will help us further realize our vision and scale it industry-wide,” Singh said. “We will continue to make it easy for our clients to use different cloud vendors, we will extend our suite of cross-asset financial instruments and markets, and we will give our clients even more tools to self-service their Beacon environments.”
IOIs As Facilitators of Block Liquidity Sourcing
With Bryan Labelle, Director Trading Capabilities, Refinitiv
How would you characterize the state of liquidity sourcing in equity markets?
Equity markets are constantly shifting when it comes to sourcing liquidity. Regulations, dark pools, ETFs, and the shift from active to passive trading, to name a few, are morphing the landscape which an equity trader must navigate. Liquidity-seeking strategies of yesterday are quickly rendered obsolete. Fortunately, we are starting to see innovations in this space which are assisting the buy side to do a better job of liquidity discovery. Actionable, natural, reverse IOIs and uncommitted orders are just a few examples that have been on the rise. Improvements in technology and trends to move and consolidate data have also enhanced blotter scraping / cross networks and Alternative Trading Systems. These systems can offer welcome relief when spreads in the traditional venues start to widen.
How are IOIs evolving as facilitators of block trades?
Historically, traders needed deep understanding of their brokers’ block specializations and had to know how to separate the wheat from the chaff in order to fill large orders. We are starting to see much more integration in scanning for blocks and the decision-making process, before the trader moves on to another source. For example, IOIs are often piped into the OMS/EMS and integrated into the ‘wheels’ that rotate through liquidity sources. A growing trend in the past five years is that sources of liquidity are yielding less, so integrations of myriad systems will be paramount in ensuring traders continue to make progress in their search for IOI liquidity. We still see IOIs as a very manual view into liquidity. Moreover, IOIs still have the negative side effect of information leakage, and they don’t offer a very reliable source of liquidity, especially for the medium to small buy sides who need to compete for broker attention. But we are starting to see a greater integration of natural IOIs into liquidity-seeking systems, which is a positive indication that deeper integration with position and central risk books is starting to connect true liquidity in a visible framework. But as mentioned, liquidity is getting harder to find, and the buy side is no longer able to rely on their brokers as their sole source of blocks. They will need to be much more creative in mining block liquidity from a variety of different sources. Until there is ubiquitous integration across all contributors of liquidity, the process of searching wider arrays for blocks will be time-consuming and expensive.
Is there a standardized definition and/or set of industry best practices for IOIs?
Although there are market conventions, the Association for Financial Markets in Europe (AFME) has developed standardized definitions and a code of conduct surrounding IOIs. This has helped shed some light on the type of IOIs that are being displayed to the end customers. Although these standards are key to developing structure for the block trade business, it hasn’t fully addressed information leakage which can lead to market impact. IOIs are un-committed orders, so at any point regardless of the type of IOI, the IOI provider can pull the order. It’s not clear if there will be any regulation to address this area of IOI trading. One way to tackle the problem is to apply functionality to block trading systems that would track the performance of IOI providers as an additional data point that end clients can use to determine if they should expose their liquidity needs to a particular provider of IOIs. That may help to shape the business to be a more reliable and safer source of liquidity.
What is Refinitiv doing to help the buy side source liquidity via IOIs?
Refinitiv has joined the race and is currently undergoing a project to evaluate how we present IOI liquidity. We are taking a fresh look at the Autex IOI system to address the challenges of traditional block liquidity. We are approaching liquidity with three things in mind: (1) reducing an institution’s market impact; (2) enhancing access to liquidity; and (3) elevating the overall user experience through automation and streamlined workflow for both the buy and sell side. Buy-side institutions should have more security and anonymity until the final stages of bilateral negotiations. Natural liquidity on both ends should be securely integrated and exposed using rules-based automation. Refinitiv is approaching this project knowing that such a platform should be open and future-proof to ensure it can keep up with developments in AI. There is no question that these challenges are no small feat — anything short of a full solution will only partially address a full sized problem. Refinitiv plans to come to the table with a solution that will give traders concrete options to trade before progressing to the lit exchanges. There is no panacea to finding block liquidity; any truly viable way to supercharge access to liquidity will be a multifaceted approach across vendors and institutions.
What is the future of block liquidity sourcing?
The tea leaves indicate that the industry is close to developing more advanced liquidity discovery frameworks. By using robust and secure APIs and cloud-based repositories, we are starting to see a more connected framework that will assist the trader in maximizing access to liquidity. The technology to do this has been around for some time; the resistance seems to be tapping into the sources. We are all too familiar with the age-old problem of integrating software across multiple systems involving multiple parties. The ROI is never readily clear unless there is a substantial and guaranteed community that jumps on the platform. Fortunately, there are some great fintech companies helping in these integration challenges by offering reasonably priced, off-the-peg integrations with multiple systems, robust APIs and interoperability functionality to transfer data between systems and institutions. Smaller buy-sides with less capital and clout face the toughest challenges in sourcing liquidity, and these firms will need to embrace technology that serves up low-cost integration to counterparty systems.
The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Refinitiv, or any of its respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
FX Trading: Yesterday, Today and Tomorrow
With Jason Fromer, Managing Director, Head of US FICC Trading, Manulife Investment Management
- Briefly describe your role and responsibilities at Manulife?
I am the head of US FICC trading. I am also the lead FX trader.
- How has the buy-side trading desk evolved over the course of your career?
Buy-side desks have changed dramatically from the start of my career. Like society in general, technology has transformed the trading desk. Quote refreshes were not instantaneous like now, so market pricing information was opaque. As technology evolved, pricing became faster and tighter. Communication with sell-side sales desks used to be all voice, but now is primarily chat based. Dealing has obviously been moving at breakneck speed. Introduction of E-FX trading has revolutionized the way the buy-side deals. Streaming prices, algos, and Straight Through Processing (STP) have helped to improve pricing while increasing productivity on buy and sell-side desks alike.
- What is the state of the buy side / sell side relationship? What is the sell side good at providing in terms of technology and services, and conversely where are the gaps?
The strength of the sell-side is two fold. First, each counter party on the buy side has different inflection points they use to pivot their respective strategies through various cycles in a given market. The sell side does a fantastic job of identifying those inflection points and making sure the buy side community is kept informed on potential opportunities when they develop. Secondly, most sell-side firms take risk. This helps the buy-side to lay off blocks of risks at acceptable levels, helping to protect clients from adverse moves. This can be achieved through the voice desk or on electronic platforms.
Most buy-side firms take advantage of sell-side algos through multiple venues. There are certainly gaps in quality of algos bank-to-bank. Sell-side firms need to keep pace in this market providing algos with as much flexibility as possible.
- How is the human touch / relationships still important in a largely electronic marketplace?
I believe the human touch is vitally important in markets. We have been in a low volatility environment for many years now. Machines are great at executing in these markets. They can price blocks very tight to the screen. Where machines don’t do well is in volatile markets. This is where you need humans to step up and take risk. Our experience has also been that electronic platforms are not as competitive in some crosses. It is not an either/or proposition. The best sell-side firms have strong voice desks as well as solid electronic offerings.
- What are your trading desk’s main initiatives currently in terms of optimizing efficiency?
Electronic options trading has been something we have diligently been working on. After reviewing multiple platforms, we have finally begun to implement this process. Trading options electronically should turn a cumbersome voice process into a streamlined technology one. Our expectation is that we will get tighter pricing, leave less of a footprint, and reduce overall risk to the portfolios.
- How would you characterize liquidity in FX markets. Where are the gaps?
On normal days, liquidity in the FX markets is good. An issue does persist with electronic platforms in sub optimal markets such as US/Asia crossover. We have seen the effects of E-FX platforms pulling liquidity, thus causing “flash” crashes. One example would be the almost 4% move in USDJPY on January 3, 2019. As the market drives deeper in E-FX trading, these could become a more common occurrence.
- How do you envision the FX trading desk of the future?
The buy-side trading desk is constantly evolving. In the future, there will be more automation and AI to help with price and liquidity discovery. Traders will need to add skills such as data manipulation and coding to stay relevant with all the available information. While there are people who believe that humans will not be necessary, I am not one of them. We will always need someone to decide the best method to execute during times of stress.
