Trends in Structured Products & Derivatives Trading 2019
This report examines the technological imperatives underpinning the investment banking industry’s Delta One derivatives, equities derivatives and structured products business and trading model.
https://greyspark.com/report/trends-in-structured-products-derivatives-trading-2019/
By Shanny Basar
Chris Concannon, the new president and chief operating officer at MarketAxess, said fixed income is just at the start of evolutionary change as investors are looking to increase their use of algorithms and other electronic products.
He told Markets Media: “We are at the beginning of evolutionary change in fixed income – at stage two to three out of 10.”
Concannon joined MarketAxess, the electronic fixed income trading platform, last month from Cboe Global Markets where he was president and chief operating officer.
“MarketAxess is the leader in electronic fixed income trading around the globe, including emerging markets,” said Concannon. “Fixed income is the largest asset class, so I feel I have graduated from the junior league.”
He joined Cboe in 2017 when the firm acquired Bats Global Markets, where he had been chief executive and led the equity exchange’s initial public offering. At Cboe, Concannon oversaw asset classes including global derivatives, US and European equities, and global foreign exchange.
Rick McVey, chief executive and chairman of MarketAxess, said in a statement: “His experience in the global exchange industry, automated trading, foreign exchange and the exchange-traded market will be highly valuable as we drive further expansion of Open Trading, build on our strong presence in international markets, and continue to deliver innovative technology solutions to the market.”
Concannon continued that the best corollary for the evolution of electronic trading in fixed income is the foreign exchange market.
“The FX market used to be dealer-driven until the banks withdrew from taking risk,” he added. “Technology developed in FX can be deployed in fixed income algos, and to provide anonymous liquidity in an agency model.”
He continued that in his prior roles, which also include more than 20 years of experience at Nasdaq, Virtu Financial and Instinet, he watched the evolution of fixed income with the buy side wanting to increase their use of algos and other electronic products.
“The huge growth in assets under management in fixed income ETFs is changing the underlying market and leading to more electronic plays,” said Concannon.
Regulation such as MiFID II and capital constraints have also changed the global trading landscape. MiFID II, which went live in the European Union at the start of last year, extended best execution requirements from equities into other asset classes, including fixed income, for the first time. Concannon argued that institutional investors can get better pricing, and better meet their best execution requirements, with electronic trading.
However, it is harder to define best execution in fixed income than in equities, which are traded via a central order book on an exchange.
“MarketAxess is in the process of defining best execution, the equivalent for VWAP [volume weighted average price] in bonds, and has provided huge cost savings in its Open Trading product,” said Concannon.
Open Trading is MarketAxess’ all-to-all trading model which allows the buy side to also supply liquidity, rather than the traditional model of only banks supplying liquidity to investors. MarketAxess reported in its 2018 full-year results that Open Trading reached a record last year, with almost twice the volumes of 2017.
Open Trading Volume, source: MarketAxess
Concannon continued that another driver which favours electronic trading is that the buy side wants to lower the cost of trading in the battle with ETFs and use their people to achieve better outcomes in their portfolios .
“In 12 months time MarketAxess will play a larger role in fixed income as electronic trading increases and our data quality will become the gold standard for best execution,” he added.
Workflow
In addition to shifting to more electronic trading, the buy side is looking to make its fixed income workflow more efficient.
Stephen Murphy, chief executive of genesis, told Markets Media that the firm has met huge demand to streamline internal fixed income workflows.
The fintech was launched to provide financial institutions with a microservices framework for developing capital markets software. Microservices break the problem into small components of functionality, while ensuring the data they use is consistent in real-time, making it 80% quicker and cheaper to develop software.
One product that genesis has developed is its Automated Quoting System (AQS). Murphy said AQS streamlines the internal workflow between treasury, sales and liquidity quotes where firms are currently using emails or telephone calls. The platform is multi-asset but he added there is demand in fixed income to fill the gap in internal workflows and integrate to external quoting platforms.
“As the number of fixed income execution venues has increased this combines smart router type technology with request-for-quote workflow,” Murphy continued. “The solution also provides firms with analytics around why they are not winning business with certain clients or trades.”
AQS currently supports fixed income, equities, certificate of deposits and funds, with futures and options to be launched on the platform in the first quarter of this year.
Audrey Blater, a consultant at Aite Group, identified a focus on data commercialisation and transparency in fixed income as one of the top 10 trends this year in institutional securities and investments.
She said in a report: “Lately, it feels like many, many solutions providers commercializing technology aim to aggregate and normalize exchange bond markets, dealer runs, screens, and even emails—a task a lowly desk assistant once held less than a decade ago. While firms such as Algomi and BondCliQ have attracted a lot of attention, a key component to all this aggregating is still lacking: a central tape.”
Aite Group added that while the benefits of aggregation are apparent, full transparency is unlikely to be achieved in the coming year, or even the next five years. “Instead, expect to see more competition and consolidation in the data aggregation space over the next 12 months,” said Blater.
Interoperatibilty
Last year genesis partnered with OpenFin, which provides interoperability across financial desktops. Murphy said all genesis products including AQS have been built to support deployment via OpenFin; so the firms products, client-specific solutions as well as clients’ proprietary or vendor desktop applications are all interoperable.
“As a result the lead time is as small as possible,” he added. “The time required to build Proof of Concepts (POCs) is days, rather than weeks and months and enables scalability.”
By Shanny Basar
There is an opportunity for fintech firms to provide artificial intelligence offerings to portfolio managers so it is easier and quicker for the buy side to use. That’s according to Stu Taylor, Managing Partner at Firenze Partners and previously co-founder and chief executive of fixed income technology provider Algomi.
In June last year Algomi, which was set up to improve the search for bond market liquidity, announced that Scott Eaton, former chief operating officer for MarketAxess in Europe, Middle East and Africa, would replace Taylor as chief executive.
Taylor told Markets Media that big trends in fintech are artificial intelligence, particularly in equities, and machine learning.
“There is an opportunity to provide AI to portfolio managers so it is easier and quicker for the buy side to adopt – companies like Exabel are delivering AI as a Service to make these new technologies much easier for investment managers to incorporate into decision making.”
Exabel was founded in Oslo in 2016 to make state-of-the-art AI technology accessible to investors worldwide.
The fintech firm said on its website that it closed its second seed round in August last year to support going to market.
We are excited to announce that we closed our second seed round this summer, raising 38 million NOK (~4.7 million USD)! Read all about it at 👉 https://t.co/xOSnq1jomZ pic.twitter.com/yDdeschDKd
— Exabel (@exabel) August 21, 2018
Last month Exabel announced that three Norwegian financial institutions had joined its pilot program to test Exabel Intelligent Monitoring – DNB Asset Management which has more than €60bn ($68bn) assets under management; Folketrygdfondet and Arctic Fund Management.
Exabel Intelligent Monitoring detects abnormal market price movements and price-driving news events in real time, and is an AI-based companion to human workflows.
“Going live with the pilot program is a major milestone for the company,” added Exabel. “With invaluable pilot feedback to validate the product direction, we are on track to go to market with our first product in 2019.”
Taylor has launched Firenze Partners, which advises entrepreneurs and fintech companies on how to be in the best shape for fundraising including issues such as positioning, potential market value and scalability. He said: “Experience analytics are also critically important to measure progress, whether ideas are working and how users experience the product.”
Taylor continued that using the cloud allows fintech firms to develop and scale products much more quickly.
“I am on the advisory board of Insignis Cash Solutions who act as a virtual private bank,” he said. “Using the cloud means that the speed at which they have built the business is transformative.”
Investment
Taylor added there is still huge venture capital demand for fintechs in London and the Cambridge Science Park despite the UK leaving the European Union this year.
The UK leads the way in Europe with record levels of investment in 2018 according to the latest Fintech M&A Market Report from Hampleton Partners, a technology mergers and acquisitions advisor. Overall, there was record investment in fintech start-ups last year with a total disclosed transaction value of $30.8bn.
“Yet despite these start-ups capturing a growing share of the market, even the biggest British fintech firms are dwarfed by America’s Stripe, Robinhood and SoFi,” added the report. “These, in turn, are outclassed by China’s Ant Financial, recently valued at $150bn.”
Global investors double fintech funding to record $31bn in 2018 – @AltFiNews @rbaird1234
Investors clamour for fintech startups showed no sign of quietening down last year. #Fintech #Scaleup #Startup #Fintech #Payments #Apps #Lending #FinanceAppshttps://t.co/y9utx2QcAt pic.twitter.com/VEayzxlZAS
— Hampleton Partners – Tech Dealmakers (@TeamHampleton) February 6, 2019
The average funding round doubled in size from 2017, with the average venture round in the Asia-Pacific region reaching almost double the global average.
Jonathan Simnett, director and fintech specialist at Hampleton Partners, said in a statement: “In the latter half of 2018, the UK continued to lead the way in fintech in Europe, breeding a new generation of innovators with record levels of investment following the lead of new unicorns like Monzo and Revolut.”
The report said that although AI continues to show promise, change is more likely to resemble a gradual process than a quantum leap into new data sources and methods.
“Going forward, it is anticipated that the largest fintech firms will soon realise value through IPO in 2019,” added Simnett. “Meanwhile, most start-ups that have grown large enough to gain traction, attract a strong customer base and produce a profitable balance sheet, will remain small enough to be acquired by fintech and traditional incumbents leading to an ongoing process of consolidation and M&A.”
New applications are exciting for their potential to improve business processes and boost efficiency, but firms are missing out on the benefits a unified desktop can bring to the business. What is the key to a smarter financial desktop? The right tools that allow engineers to bring an end to disparate financial applications.
ChartIQ’s latest product, Finsemble, aims to unify the unconnected app landscape on the desktops of capital-markets professionals. In 2017, the company launched Finsemble, an application integration platform built to improve financial-services workflows.
“Financial institutions may have hundreds or even thousands of applications firm-wide, but there is no way for them to function as a well-integrated whole,” said Dan Schleifer, Co-Founder and CEO of ChartIQ. “Now with Finsemble technology, firms can connect applications intelligently on the desktop.”
Founded in 2012, ChartIQ carved out its niche delivering intuitive data visualization software built in HTML5. Over the last six years the company quickly became known as the experts in capital markets UI specializing in advanced technical analysis and high-performance charting. More recently, the company has heightened efforts around Finsemble, driven by sales to leading Wall Street firms. The fintech company has partnered with some of the most impressive names in finance including Kx, Fidessa, FactSet and other well-known capital markets systems providers; its investors include Illuminate Financial Management, Social Leverage, Tribeca Angels, and ValueStream Labs.
Build Forward
Among other things, the inventory of disparate applications spread across an enterprise causes issues deploying and managing the applications.
Slow and inefficient software deployment processes cost financial services about $1.5 billion annually, Greenwich Associates noted in a Q1 2018 report. “While infrastructure changes for large financial institutions are complex, the technology to ease these concerns is so accessible and the results so impactful that the benefits of pushing these changes forward are undeniable,” the report stated.
Helping financial institutions push these technology changes forward is one solution ChartIQ seeks to provide with Finsemble. Schleifer noted that the current technology landscape in finance is a function of years of ‘app creep’, as engineering teams continue to build new software while still maintaining legacy technology.
“The technology evolution has moved from legacy mainframes to plugin solutions to the current working environment, which is dominated by applications,” Schleifer told Markets Media. “Native apps have been built across every department internally, more modern apps are provided by third-party vendors, and legacy apps still remain.” Now companies are faced with an inventory of applications developed in several technologies operating in isolation from one another.
“Systems and products today must meet users’ demands that in turn fuel business productivity,” Schleifer said. “Users today expect a modern UI experience and a connected/streamlined way to move through data.”
Having all applications communicating in one place on the desktop sounds nice — but what are the specific, tangible benefits for an organization?
As Schleifer explains, it’s about rooting out two primary inefficiencies inherent in the old way of doing things. One inefficiency is that end users: e.g. traders, or wealth managers, or middle-office admins—have to hop from application to application, copying/pasting or re-keying info, which is cumbersome and prone to manual error. The other inefficiency is broader in scope as technology teams need to write the same functionality over and over again.
A fragmented application environment also presents an opportunity cost, in that technologists who get bogged down playing defense — working to remedy infrastructure — have less time to play offense, i.e. create and maintain a competitive edge via innovation.
“Inefficiencies touch every part of the organization and affect the bottom line,” Schleifer said. “From the developer to the product manager to the end user, everyone feels the pain of not having unified control over application management and distribution. ChartIQ’s Finsemble allows the organization to work smarter on all levels.”
With Finsemble, new and legacy applications are logically connected, which enables data sharing and relevant context – from blotters, order entry tickets, charts, etc. – so the right tools are brought together at the right time. Further, Finsemble also offers an ecosystem of fully integrated partner applications ready to go, out-of-the-box, to increase speed and reduce risk when delivering software to the enterprise.
“Developers are able to assemble and deploy market-ready solutions quickly, project managers win, and the financial professional can assist customers faster,” Schleifer said.
“Archaic” is how Greenwich Associates termed large financial firms’ processes for developing and deploying software to truly enable business-critical workflows, compared with how consumer-focused devices and software work. The costs of lagging are “not well understood by the industry, which means they are not well managed. Although they are unseen, however, doesn’t mean they are unfelt.”
Improving this “could deliver significant cost and efficiency gains and spur an explosion of institutional fintech innovation that is clearly bubbling below the surface and waiting to emerge,” the Greenwich report stated.
“Capital markets software is in the midst of a technology refresh cycle,” Schleifer said. “Finsemble gives engineers the tools to build forward.”
By Shanny Basar, Markets Media
The increase in monthly volume of cleared notional in swaps based on the new sterling risk-free rate shows that the derivatives market is making progress in moving away from Libor.
Edwin Schooling Latter, director of markets and wholesale policy at the UK’s Financial Conduct Authority, gave a speech on Libor transition at the International Swaps and Derivatives Association’s annual legal forum in London today.
There is now wide recognition that LIBOR will come to an end, says Edwin Schooling Latter @TheFCA #isdaALF
— ISDA (@ISDA) January 28, 2019
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 which are based on transactions as they are harder to manipulate and more representative of the market. The UK is adopting the Sterling Overnight Index Average (Sonia) as its risk-free rate to replace sterling Libor.
Schooling Latter said the share of cleared sterling swaps referencing Sonia has grown over the past two years to 19% in the second half of last year, from 11% in the first half of 2016.
“In notional terms it is a far higher share,” he added. “In fact, on a monthly basis, cleared notional in Sonia swaps is now higher than that for sterling Libor.”
He cited data from LCH, the London Stock Exchange Group’s clearing house, which shows growth in the use of swaps referencing the new risk-free-rates replacing yen, Swiss franc and US dollar Libor rates – Tona, Saron and SOFR respectively.
LCH has cleared $78bn in Tona swaps so far this year and $21.7bn in Saron swaps so far in January. He said: “Of the relatively small $17bn SOFR notional outstanding, $7bn was cleared in the past two weeks.”
Schooling Latter continued that even in SOFR, LCH has registered the highest levels of activity to date on a number of measures since the start of this year. In the futures market average daily trading volume in Sonia and SOFR futures both reached 15,000 contracts last month.
Outside the derivatives markets, Schooling Latter added that a total of £6.9bn ($9bn) in sterling floating rate notes using Sonia were issued between June and December last year.
“Already in 2019, by Wednesday last week, we had seen a further £7.2bn,” he said. “If past weeks are a guide, new sterling floating rate note issuance is only Sonia-based now. We have also seen $46.3 billion in SOFR-referencing US dollar floating rate notes.”
Schooling Latter continued that the market took a significant step forward last year by agreeing how to calculate a fallback rate that could replace sterling, yen and Swiss Franc Libor in outstanding contracts after an Isda consultation.
He also warned: “Let me be clear, however. We think that the best and smoothest transition from Libor will be one in which contracts that reference Libor are replaced or amended before fallback provisions are triggered.”
In addition, he stressed that triggers should be aligned across non-cleared derivatives, cleared derivatives, and cash markets in order to maintain hedging relationships.
Cash markets
A panel at the ISDA conference also discussed ‘The Route to Benchmark Reform.’
Frances Hinden, vice president, treasury operations at Shell International and co-vice chair of the working group on sterling risk-free reference rates at the Bank of England, said on the panel that the group is focussed on creating a term risk-free rate, examining the impact of the new rates on hedge accounting and the use of Sonia in cash markets.
Hinden said: “The first syndicated loan referencing using Sonia would be a triumph.”
She continued that not all banks are ready to use Sonia, and all the banks in a syndicated loan need to agree to change the rate.
“Everyone is hoping that someone else will do something,” Hinden added. “We are stuck at traffic lights trying to get out of the car park.”
Ester
The European Union has selected the euro short-term rate (Ester) as the euro risk-free rate and replacement for EONIA, but Ester has not yet been published. The European Central Bank is due to publish Ester by October 2019 at the latest.
Carlos Molinas, global head of business compliance at Crédit Agricole CIB admitted on the panel that Europe had to catch up with other markets.
“The EU issued a consultation paper last month and responses are due by Friday,” he added.
Molinas continued that the situation is urgent in Europe as new benchmark legislation in the region will stop historical rates applying from January 2020.
Natasha Cazenave, head of the policy and international affairs directorate at AMF said French regulator would support extending the date when the benchmark regulation comes into force.
“Users have no choice but to move to Ester,” said Molinas. “If we shift the deadline there will be no incentive to move.”
74% of #isdaALF audience believe roadmap to transition from IBORS to alternative risk free rates clearer and better understood than this time last year @ISDAConferences
— ISDA (@ISDA) January 28, 2019
By Markets Media
Markets Media recently caught up with Chris White, CEO of ViableMkts, to discuss the past, present and future of U.S. Treasury market structure.
The topic will be the focus of ViableMkt’s Rates Evolved conference, Jan 24 in New York.
How has the structure of the U.S. Treasury market evolved?
Over the past 10 years, mergers, acquisitions and new solutions have been a staple of electronic trading in the inter-dealer U.S. Treasury Market. It can easily be argued that this area of the fixed income universe has been the most competitive when it comes to execution solutions. For example, from 2001 to 2014, the market share split for trading volumes was virtually 50/50 between eSpeed and BrokerTec. However, recent trends indicate a migration to a single solution with estimates as high as 80% market share under the single BrokerTec platform. This competitive change gives rise to a fundamental question: Which path will optimize the U.S. Treasury Market, a single-solution monopoly or free competition with multiple platforms?
Is there is a historical precedent to the current Treasury market?
The U.S. Equity Market faced a similar dilemma 50 years ago when many argued that supporting the NYSE as a single-venue solution for listed stock trading would be the ideal approach to improving trading conditions. At this time in history, the NYSE had established itself as the most dominant market center in the world for U.S. equity trading, but it was under threat. A new way of trading called the “third market” was creating an environment where customers could find liquidity at lower trading costs. The pro-NYSE camp believed that if other liquidity pools gained traction it would “fractionalize” the markets which would produce wider spreads and reduce the economy of scale for all market participants. Therefore, competition in the form of other trading venues would ultimately hurt the market for the end investor.
While there are some benefits for a monopoly solution for trading, it has been shown that a competitive environment with multiple platforms creates a better market.
What are the drawbacks of a monopoly solution for trading?
The first issue is trading costs. The more a single platform dominates the trading landscape, the less likely it is that transaction costs will be reduced. For example, the NYSE maintained a fixed commission structure for all stock trades for 180 years, which kept fees for trading artificially high. In the U.S. Treasury Market, we have seen similar behavior where the dominant inter-dealer platforms maintained a 1/4 of a 1/32 tick size in the 2-year cash treasury for 20 years.
NYSE abolished their fixed commission structure in 1975 and finally allowed competition to dictate transaction fees. The tradition was broken because the lower fees being offered by alternative trading venues forced them to adjust or lose market share. Recently, BrokerTec and ESpeed lowered their 2-year cash treasury tick size to 1/8 of a 1/32, almost a full year after the Fenics UST platform had first established an even smaller tick increment of 1/16 of a 1/32 on their trading system.
To put this into real money terms, 1/16 of a 1/32 is equal to $19.5 per million. If the market trades $500 billion a day in 2-year cash treasuries, maintaining a 1/16th tick-size creates the potential for end investors to save and additional ~$9.75MM a day, or ~$2.4B a year in transaction fees. Without free competition amongst electronic trading platforms, that cost efficiency would not have been possible.
The second issue is systemic risk. An inherent problem with a monopoly environment for trading is that the entire market depends on that single solution in order to function.
What is the path to an optimal U.S. Treasury Market?
By promoting free competition in the U.S. equity market, multiple venues have matured to create natural redundancies that eliminate structural risk to the market. Meanwhile, the recent technology glitch at BrokerTec brought trading in Treasuries to a near-halt. To realize the same benefits of reduced costs and improved safety in the U.S. Treasury Market, competition must be the path and remain a priority.
By Shanny Basar, Markets Media
Last year was very busy for mergers and acquisitions of financial technology providers and 2019 is set to maintain the same pace according to consultancy Aite Group.
For example, SS&C Technologies acquired Eze Software; custodian and asset manager State Street Global purchased Charles River Development, the front and middle office platform; and Nasdaq announced it was buying Cinnober Financial Technology. Nasdaq said this month that the acquisition of the Swedish market structure technology provider has been completed.
Aite’s institutional securities & investments team held a webcast yesterday to discuss their report, Top 10 Trends in Institutional Securities & Investments, 2019: More M&A Ahead. Virginie O’Shea, research director at Aite, said on the webcast that the consultancy expects this year to be just as busy as 2018.
“Custodians and market infrastructure providers want to expand into dservices and and get involved in the full end-to-end trade life,” she added.
Consolidation will increase as more buy-side firms remove overlapping technology platforms and simplify IT infrastructure for more efficient straight-through processing. Aite identified probable acquisition targets as Black Mountain Software in the credit space, and AlphaDesk and Enfusion in the hedge fund space.
The study also named Northern Trust, BNP Paribas, and Brown Brothers Harriman as potential acquirers as they have been active in fintech. For example, Northern Trust has launched ArcLine Alternatives, which provides cloud-based reporting for private markets and may want to make a wider asset management play.
“BNP Paribas has long held a stake in middle-office software solution provider SLIB, but perhaps next year will see the custodian make a bigger play in the fintech realm?,” added Aite. “BBH’s Infomediary business has continued to organically build out its capabilities in key post-trade servicing areas, and an acquisition in an adjacent space could be beneficial for a more complete offering.”
Asset managers
BlackRock’s Aladdin has been providing risk management analytics and Aite said Amundi, the largest European asset manager, is looking to provide similar services.
“However, given the scale and the deep pockets required to keep pace with market requirements, it is likely any bids will be limited to the top 10 largest global asset managers,” said Aite.
Asset managers are also using more alternative data as they look to increase returns and so these data providers may also become targets.
“The end of 2018 saw Nasdaq pick up alternative data aggregator Quandl, so expect its other market structure provider peers to be keeping a close eye on this community of vendors in 2019,” added Aite.
Paul Sinthunont, analyst at Aite Group, said on the webcast that he expects more cross-border acquisitions in asset management, especially among the squeezed middle-sized firms.
“Large firms will likely thrive, smaller firms with niche or product expertise will survive, and midsize asset managers without a significant market identity will suffer,” he added.
Fee depression
Sinthunont continued that the industry was surprised by the launch of zero-fees investment products last year. Fidelity launched two zero-fees mutual fund products and one fund, the Fidelity Zero Total Market Index Fund, gathered more than $1bn (€880m) in three months. As a result he expects more zero-fee funds to be launched and, in addition, institutional investors are likely to ask for changes to fee structures.
“We could see fees changing from being asset-based to be more based on performance,” Sinthunont said.
What impact has the changing macro-economic landscape had on the FX markets?
There have been significant changes on the macro-economic landscape and also important long term structural changes. After the financial crisis, central banks reactions were influencing the markets with quantitative easing, decreasing interest rates and lower volatility. However, we are seeing changes in the cycle with the Federal Reserve’s interest rate hikes. Financial conditions are tightening, inflation is slightly higher and currencies have been impacted especially in emerging markets. Liquidity or capital is flowing to where yield looks attractive compared to risk, which at the moment is the US dollar which is also the reserve currency.
Almost a year on from MiFID II – how has it changed the FX markets?
As a FX Portfolio Manager I mainly look at FX from an investment point of view, but in general regulation has changed the landscape. It is always done with good intentions such as to improve the fairness and transparency, however, there are also the side effects. What we have seen with regulation is that it has changed the risk behaviour of investors and market makers. There is almost no proprietary trading anymore because taking risk on their balance sheets became more restricted and more expensive. This influenced liquidity and has caused at times greater volatility as liquidity has become more erratic. This is not so much a concern in FX because it is still a very liquid market but sometimes there are also pockets of liquidity and then they disappear so you have to be aware of this trend and take care when trading.
What has been the development of electronic trading in FX?
There has been a strong development towards electronic trading in recent years and I would say that 90% of the time the trading is faster and there are better results. However, the issue is with the 10%. When there are extraordinary events or shocks, machines might get switched off and then there is no liquidity. One of the problems today is that there are not that many old school traders left. This is not a problem until there is one of these extraordinary events. Then you need people who not only have a good understanding of the market conditions and influences but can also react quickly in terms of execution, market making and risk taking. This is why firms need to be prepared for this type of volatility.
How has technology in general changed the trading and execution?
There is a lot of talk about AI and machine learning but where are and can they be applied.
Technology is changing paradigms. For example, the clear advantage to the quantitative approach is that it is disciplined and there are no human emotions such as greed and fear affecting the decision-making process. But there are also disadvantages.
On the execution side, technology can quickly source the liquidity without impacting the market. At Amundi we are using discretionary as well as quantitative techniques and try to combine the strengths and advantages of both approaches. At the end we are fundamentally macro driven.
AI can be used in different aspects but it is not yet impacting FX investing in the traditional sense. There are always opportunities and it will be applied in different forms in execution and in investment. It is a topic for the future but in the short term, the traditional discretionary and quant strategies will remain the norm.
What role do you see technology playing?
Development in technology and electronic trading in FX is here to stay. When I am asked what makes you have sleepless nights, it could be some sort of liquidity disruptions in case of a shock or because everyone is going down the same route and pressing the same buttons. While the developments in technology are valuable, we should not underestimate the need of humans in difficult times in order to survive. I think there is underinvestment in human ability and that we need to look at both, people and technology.
There is a lot of discussion about FX as an asset class. What are your views?
This question is certainly not new and yet it is still not answered once and for all. FX is difficult to categorise as there is no direct yield or dividend, no appropriate benchmark and no beta in the market. It is about trading currency pairs – one against the other and FX is a way in which we denominate other asset classes.
However, I think it can be seen as an asset class. FX does not have the theoretical expected return as equities and fixed income but you have something that goes up and down independently and if you can isolate the movements then you can extract yield.
What impact has the global code of conduct had?
The idea behind the Code of Conduct is not completely new in that we always had a code in terms of the market behaviour of the FX investor. This is why I would say that the Code has not had a huge new impact on day to day behaviour. However, we are in favour of greater transparency fairness and a level playing field. We do believe it is important to have everyone playing by the same rules.
What role can cryptocurrencies play in the FX world?
There are divided camps about cryptocurrencies. One issue is that they are always mentioned together with the blockchain technology although I think it is two separate topics. To me as a currency investor, they do not have a role to play in FX yet. It may change in the future but for now I do not look at them in my daily work. They are influenced by different factors and behave very differently to the traditional currencies we invest in. However, I am open to them but we have a long way to go before they become an investable asset. At the moment it is still a niche and there needs to be a greater understanding as well as better security and credible regulation before it gets more widely accepted.
©BestExecution 2019
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How did the company start?
David Karat: Peter Maragos (co-founder) and I met in 2009 but we came from different parts of the industry. He had more of a derivatives background while I came from more of a quantitative equity background. However, it was obvious at the time that there was a demand for real time transparency and an agnostic approach to performance, regardless of the asset class. Our objective was to let the client define what performance meant to them versus a broker just giving them a product in what they thought was their best interests.
We formally launched Dash in 2011, a time when the buyside was under pressure and were culling brokers. While our platform was multi-asset from the beginning, most of the broker contraction was occurring in equities, so options is where the most immediate interest was. We launched a suite of execution and transparency tools tailored to market microstructure and quickly gained market share. Our product broke down where, how and why each order and its child slices were routed, how long it took each venue to acknowledge each message and how long it rested on each venue, which was revolutionary at the time and is still uncommon. We now route approximately 14% of the daily OCC (Options Clearing Corp) volume and an additional 30% touches our workflow and compliance tools.
How have you managed your substantial growth over the last few years, and what challenges has this posed?
David Karat: We have grown over the past seven years to 150 people, which has included us acquiring Convergex’s LiquidPoint options business and an introducing prime brokerage called eRoom Securities, but the culture has not changed. Our focus is the same and we still look to hire intelligent people who want to learn and be developed. Sarah Hall, who we hired last year as Managing Director, Chief People Officer, is responsible for all aspects of the firm’s human capital investment, employee relations and mentoring and development programmes. By professionalising the function and adopting industry best practices, it has helped us pivot from being a classic fintech growth story to a larger, more mature organisation. However, I think we have managed to keep the buzz that we started with and the aim continues to be the same: to offer clients full transparency into every aspect of every order and a level of performance they will not find elsewhere.
Glenn Lesko: And, regardless of our growth, common sense and logic continues to be part of the company’s DNA – we do not want to make the mistake of becoming a second-generation company that loses sight of the client. We continue to be laser-focused on being responsive and nimble enough to innovate and customise best-of-breed solutions as our clients require them.
What was the driver behind the merger with LiquidPoint to create Dash Financial Technologies and how are you developing the business?
Glenn Lesko: Scale is important in the options business and while there were many synergies in merging the two businesses, there was little overlap in the client base and the product suites were complimentary. Having LiquidPoint’s front-end/workflow solutions and combining it with Dash’s routing and analytics prowess gave us the ability to solve a wider set of problems. We now have four verticals: Execution Services, Trading Technologies, Analytics/Data Visualisation and Regulatory Technologies.
Execution Services include a wide range of highly configurable algorithms and routers, including SENSOR, our flexible routing solution that provides industry-leading volume capture rates and cost optimisation. Also under this vertical is our newly launched, next-generation portfolio trading (PT) algorithm, which we believe includes some extremely advanced portfolio workflow, benchmarking, venue selection and real-time analytics/measurement capabilities.
Trading Technologies includes Blaze, our OEMS solution and BrokerPoint (a proprietary routing network, with access to a comprehensive network of brokers on the floor of the exchanges and the inter-dealer community) that adds a compliance layer to voice-brokered trades.
Analytics/Data Visualisation tools includes Dash360, our web-based dashboard that provides real-time transparency into every aspect of the routing and execution cycle, from pre-trade analytics and cost estimates to advanced TCA and reporting.
And the Regulatory Technology suite includes a selection of reporting tools and analytics for the sellside community who custody client assets and require multi-asset, intra-day haircut calculations.
What was the catalyst behind the equities push?
David Karat: We’ve been in equities since we launched, but for a confluence of factors options is where we saw the most immediate growth. But with MiFID II, best execution, and the transparency required to achieve it, has become a much more critical aspect for institutional traders globally, and that is precisely what our platform solves.
As a result, we’ve been expanding our team in this area, for instance adding a very accomplished PT team in early 2018. As Glenn mentioned, their efforts culminated in the launch of our advanced portfolio trading solution in September that is fully transparent, fully configurable and EMS/OMS-neutral, which is the type of PT solution we think the market now demands. We have a significant number of blue-chip buyside institutions who are looking to adopt the product.
Can you tell me the rationale behind the recent acquisition of eRoom Securities?
Glenn Lesko: eRoom provides multi-asset trading technology, agency execution, risk management, reporting and clearing services to professional traders, institutions and hedge funds. The team is run by two highly talented individuals, Collin Carrico and Ben Schwartz, who will bring to Dash capabilities and a client base that is very complimentary to our current business. eRoom clients will gain access to the highly advanced Dash technology platform and service offering, while we’ll be able to bring prime services to Dash clients for whom it makes sense, as well as additional size and scale that should benefit our entire client community. We’re very excited to get them into the fold and officially launch Dash Prime.
Looking ahead, what are some of the biggest challenges for the industry?
Glenn Lesko: One of the biggest challenges is the data requirements of the CAT (Consolidated Audit Trail – a single data warehouse to collect millions of orders and quotes that pass daily across US equity and options markets in real time), which went into effect for equities exchanges in November and will require brokers to start reporting to it next year. Complying with this will be relatively straightforward for us since our platform was built so recently, but there are stories you hear about the preparedness of the overall brokerage community being behind.
For the buyside, one of the biggest challenges is that trading desks continue to be expected to do more with less. For example, you regularly see situations where desks that had ten people and are now expected to do the same amount with two or three. In both cases, it’ll be technology that helps solve these issues, which is why we think that Dash, which launched as a technology firm less than 10 years ago, is so well positioned to solve some of these massive challenges the industry faces.
Biographies
• David Karat is co-founder and chief creative officer of Dash Financial Technologies and has over 20 years of experience in the trading industry. Karat’s primary areas of responsibility include Dash’s brand and marketing portfolio, business development and the Dash360 suite of real-time analytics and data visualisation products. Prior to co-founding Dash, he was a director at Credit Suisse, managing key electronic trading relationships and 10 years at ITG, where he helped launch the firm’s quantitative research unit in London and served in various sales, trading and product management roles for its PT and algorithmic trading offerings. David began his career in corporate finance advisory at Société Générale in London.
• Glenn Lesko, a chartered financial analyst (CFA), has nearly 30 years of experience. At Dash Financial Technologies, he is responsible for driving the firm’s revenue growth objectives globally, both organically and inorganically. Prior to Dash, he served as CEO of Bloomberg Tradebook and before that he spent nearly 10 years at Instinet, serving as CEO of Instinet Asia and later head of Americas Equities. Lesko also served as a partner at outsourced trading firm CF Global; managing director at Deutsche Bank, directing the firm’s international trading desk; and managing director at ABN AMRO, first heading its Asian trading desk in Hong Kong and later its international trading desk in New York.
©BestExecution 2019
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Almost a year on from MiFID II – how has it changed the FX markets?
Chris Purves: So far it has not had a major impact on the FX markets. It has however taken an awful lot of work and resources for firms to become MiFID II compliant. This has consequently slowed down the number of new products that have come to market. There have of course been changes in terms of how we do our record keeping and reporting. It has also precipitated a move away from voice trading as a channel to electronic trading because the reporting is more automated and less error prone.
Expanding on that point, studies have shown that electronic trading has significantly increased – how do you see it developing?
Chris Purves: From what we see, electronic trading has definitely increased but probably because people want straight through and seamless trading. If you break FX down into spot and swaps by volume I would guess that around 80-90% of both are being traded electronically and that number will only increase over time. The electronic FX microstructure is challenging though, because there are around 12 to 14 venues, all of which you need to interact with. This requires the type of execution tools that are also used in equities, such as smart order routers and algos to get optimal execution.
One of the problems with trading via the ‘old school’ telephone is that it can be difficult to capture an accurate timestamp for a trade. It is certainly less painful to do TCA (transaction cost analysis) and best execution reporting when trading electronically. We have seen this trend in equities and FX, and even credit, which was the last bastion of voice, is starting to go electronic.
How is TCA in FX evolving and how can it enhance execution and trade analyses?
Chris Purves: The conversations about TCA were already taking place before MiFID, However, the process was more manual and now it is becoming much more automated. We run TCA on our side and the clients conduct their own and together we can change the execution style to get the best outcome for the client. We have a variety of ways with which to execute, including principal which is the largest in terms of percentage of volume, and agency which is growing. It depends on the client. Some prefer agency because of the anonymity, while others are happy to disclose their name in order to get a tighter spread.
Rebecca Thomas: We also provide execution consulting services to help clients navigate their way through the electronic markets. Business models at asset management firms are changing because of cost pressures and they want advice on the best ways to execute their orders. However, we have many different client segments and the advice will depend on what type of firm they are and where they are located because executing trades could differ depending on the geography and other liquidity factors.
What impact has the Global Code of Conduct had? How much does it matter to clients?
Chris Purves: To date I believe all large sellside firms have adopted the Code which is not surprising as it provides a consistency of approach, a golden standard if you like, to ensure you are up to scratch. A more interesting question perhaps, is the extent to which the buyside have signed up. The very largest firms have likely signed it, but many of the smaller ones have not and do not particularly see why they should. It’s important that as an industry we find a way to increase sign-up over the coming months.
Rebecca Thomas: I have been in a number of conferences and forums recently where the transparency that the Code provides around participants has been well supported. It has also been suggested that to gain broader adoption, that platforms display which liquidity providers or participants have adopted it, so you can challenge either by not trading with those who have not, or at least have an awareness and potential discussions as to why they have not adopted it.
What role do you see blockchain playing and where do you see crypto currencies fitting in.
Chris Purves: There has been a lot of hype but I think we are on the other side of the hump now and I believe that over the next three to five years, distributed ledger technology (DLT) will have a role to play in FX. I do not personally believe that cryptocurrencies will have a role to play although this is not to say that there will not be digital forms of currencies such as the dollar, euro and sterling. I can see them being used as digital tokens for post-trade efficiency and in the settlement process. For example, at the moment, the FX markets are closed at weekends but with digital tokens settlement could be 24/7 and at low cost.
At UBS we are firmly in favour of DLT and are part of several collaborations such as R3. We also launched the Utility Settlement Coin which now has 17 members. The aim is to create a commercial bank digital representation of cash backed by central bank money, which could ultimately allow market participants to transact and settle wholesale payments using tokenised versions of different currencies on a distributed ledger.
What other technological developments are changing FX?
Chris Purves: Machine learning based algorithms are certainly popular today. We recently launched Orca-Direct which is an FX Spot trading tool that uses a machine learning algorithm to source the best liquidity across multiple external venues for immediate market orders. We are also looking at launching Netflix style recommendation engines to help trading and sales match our interests with those of our clients.
Rebecca Thomas: In the past, a sales trader would cover 10 clients in the traditional way whereas the technology is able to cover 100+ clients with the same quality. However you can’t just rely on signals and need to overlay the technology with human expertise and insight.
In terms of diversity challenges, how have things changed in terms of opportunities since you have been in the industry?
Rebecca Thomas: There are no magic beans to change things overnight and it will take time but we have taken great steps to attract a much more diverse talent pool. However, it’s not about applying a sticking plaster, or hitting quotas, but requires a culture shift. For example, we have widened our recruitment and look to hire people from career breaks, the armed forces as well as offering support for the BAME (black, Asian, and minority ethnic) and LBGT communities. We also offer shared maternity and paternity leave as well as flexible working hours. It means giving line managers training on how to be more inclusive leaders and surveying people when they leave in order to gain a better understanding of our working practices.
Biographies:
©BestExecution 2019
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