By Makoto Nagahori, COO, Chi-X Japan
Since the introduction of TSE’s tick size program, we have seen three key developments in Japan:
1. Greater interest amongst investors in trading mid cap names on PTS’s.
2. Increased interest from key technology providers and local brokers in accessing alternative markets
3. Investors placing greater focus on execution costs and achieving better execution quality.
For the month of July 2014 Chi-X average number of symbols traded reached 1678, up from 1330 in January 2014. This is a trend we expect to continue as firms embrace an ability to efficiently access liquidity across multiple markets.
Market share in mid-cap names surpassed 10% market share in several well know names, with over 89% of the trades capturing Price Improvement.
We are encouraged by the trading community’s response to the most recent set of changes in tick sizes, as investors intensified their search for Price Improvement opportunities and lower cost of execution; as a result alternative venues are well positioned to attract new liquidity.
Our technology partners have also embraced these changes and capitalised on the tick size changes by proactively offering their customers, many of which are local broker dealers, access to Chi-X Japan. We are excited to see brokers redefine best execution by connecting to markets that offer them access to greater liquidity.
We operate markets in both Australia and Canada where tick sizes are harmonised. We believe that over time the TSE’s tick size program will enable local and retail brokers access to alternative venues and promote fair and equal competition.
TSE Tick Sizes: Phase 2 Outcomes
The Impact Of Stock Connect
An edited transcript with Charles Li, Chief Executive of Hong Kong Exchanges and Clearing.
This is probably the first time ever that the two markets, the international market and Chinese domestic capital market can be said to be truly connected. It’s not an artificial program where there will be a lot of restrictions in place, although there will be restrictions, for example, quotas. This will allow investors to feel that the wall that has artificially divided these two markets is beginning to come down. I think the true significance of this program is probably not going to be fully understood and appreciated for months and maybe years to come when people will start to look back and see this event as the beginning of the end of China’s real capital closeness.
The mechanics: how the Connect will work
The most important feature to understand about this program is that the market itself is not actually connected at a fundamental level. The connection is really exchange to exchange and clearing house to clearing house. The investors still sit behind their respective trading systems and clearing systems. The premise behind this program is not to fundamentally change the respective markets: we all know that China and the international market have important differences in terms of regulatory environment, market structures and culture of investment. It will take years to facilitate full integration of trading. We said we need to see if we can significantly accelerate that process by not changing too much too quickly.
We will have an exchange-exchange system where all the orders will actually go through the home exchange routed through to the other exchange, and at the end of the day of trading, the clearing and settlement will happen in the home market. The buy and sell will be netted out: only the clearing house of the investor originating market will have a net position of either net cash or net securities. That way, the actual fund flows will be reasonably small because the buy and sell will already be netted in the respective home market before the clearing house has to actually settle the net clearing positions. You could actually have a very significant trading activity going on in both markets but have really a very minimal actual cross border fund flow.
One key distinctive feature of this whole program is that business will all be conducted in Renminbi. Every day when the Chinese investors come into Hong Kong to invest in the Hong Kong stocks, China Clear will take that Renminbi out into Hong Kong and then convert it into Hong Kong dollars to trade Hong Kong counters. When they sell the Hong Kong dollars they will revert back to Renminbi. Meanwhile, the international investors will all be converting their US dollars or other foreign exchange in Hong Kong into Renminbi which then go into the system. Significantly this program will make Renminbi an investment currency for the first time ever.
A Super Highway or Bridge to Success
We are not trying to promote the program as a product as we see ourselves as road builders and bridge builders. As such, you know what capacity it should ultimately be able to withhold and so you build it strongly, on solid foundations. You make sure that it’s of great quality, it’s smooth, it’s wide enough and it has enough controls built into the systems. As long as we build great infrastructure I’m not terribly obsessed as to who is going to run on it, how fast people are going to go or how much traffic we will have during the first week or two. I will leave that to the market. What we wanted to be sure of is that the road, the bridge is there for a long time to come and that traffic will come once people feel that travelling along it works. The purpose of the roadshows was to explain how the bridge/road works and how the road conditions are different, where they are different, from anything else that they are familiar with, an example might be RQFII. Perhaps we can call them ferries and tunnels: they have their own issues. People need to understand whether the bridge is fundamentally more convenient, faster, or cheaper and whether there are other things that they want to do that the bridge is not yet able to do. So, the purpose of the roadshow was not really to promote the program’s use, but simply inform participants what it is and how convenient it could be to use. Feedback has been very positive so far and the momentum has been building. People have really started to fully appreciate the impact this could create in the marketplace. We started to see a massive uptake in interest.
Elephants in the room: taxation, T-1 and short selling
I am quite confident that by the time of the launch, the issue of taxation, currently at the top of the list of concerns for investors, will be completely resolved or clarified. I don’t want to speculate right now before the announcement as to exactly how this question will be resolved but, it will be resolved or clarified so that people won’t need to speculate or operate under a cloud of uncertainty. The T-1 issue really arises as you have to have shares in your account before you are able to execute a sale order in the Shanghai market. This requires people to move their securities before the trade day: so that’s why people call this T-1. In fact, the Hong Kong exchange has already built a system where you won’t have to do a T-1. You will be able do it on T day before 7:30 in the morning. After the launch, we will earnestly look for a solution to provider people with greater convenience. We are also going to be able to do short selling largely according to our own way of doing it here. We will however need to incorporate certain restrictions and certain reporting requirements that the Chinese market has.
Pressure for Predictions, Quotas and Scalability
Inevitably there is pressure to project this and predict the traffic flow and how fast the initial take up is going to be. I resist the temptation to do this because nothing like this has ever been tried before. The quota is in place purely to regulate the initial pace of the take up because we don’t want to create too much momentum or short term surge in activity. This is a long term program: it’s not meant to be just some sort of short term arbitrage, a gold digging opportunity. If that objective is achieved and everything is considered successfully launched, I believe we and our colleagues in China will very quickly begin to evaluate the necessity of quotas on an ongoing basis. I will also work with them to begin to look at other natural extensions. The product level currently is only cash equity with only 80% of the market cap included, but we could expand it into ETFs, bonds, and other possibilities.
Maximising Our Buy-side Skill-sets
By Neil Bond, Equity Dealer, Ardevora Asset Management
The buy-side has made huge leaps forwards in the last five or six years –their reliance on the sell side has reduced and now they are using the same tools and skill sets as the sell-side, and this is why a lot of people are moving across to the buy-side; control of trading is moving in-house. There are lots of things that have led to this – mergers in banks and money managers have led to much bigger orders flows through fewer partners – more program desks used algos with higher rates, so algo control moved to the buy-side to manage that cost, but they had to acquire the skills and people to monitor the trading with algos and to do the analytics pre- and post-trade. The consolidation of money managers and brokers led to a growth in program trading which in turn led to the proliferation of algos. As the buy-side squeezed the sell side on costs, the responsibility for algo use moved to the end user. With this responsibility comes the need to understand the tools you are using, not just the algos themselves, but the pre and post trade analytics too.
When orders hit the blotter I have already got the capabilities to analyze order characteristics – expected market impact and %ADV etc and I can use that information to slice and dice the flow into different strategies. The easy stuff can go through a vanilla strategy – VWAP, TWAP etc and the trickier stuff we can work ourselves according to the best strategy – IOIs, who has been trading the name, and trying to find a more sensible way to do the trades. We do like to use a lot of the dark pools for that as the anonymity levels the playing field between small and large players. We also split orders over different dark pools to find liquidity and minimize impact. We use in-house tools to monitor performance throughout and after a trade, and we look to see what we can do better and why. And we use 3rd party TCA tools to analyse trades over a longer period, particularly for peer comparison.
Ardevora funds are just over three years old and have recently surpassed the $1bn mark, so we are a relatively small firm but we are able to leverage technology, either in house or provided by brokers, that closes the competitive gap with larger firms greatly. We use Bloomberg AIM as it has multiple tools that you need for trading, and it also gives you what you need with regard to pre-trade analytics, and during the trade it can monitor performance and do post-trade analytics and TCA. Those tools help massively, and our size is often not a problem as a large proportion of our trades are executed anonymously in dark pools.
The biggest difference between small and large firms is the extent of bespoke automation of trading and monitoring. However there is a lot that we can achieve without a high level of customization.
Trading Bitcoin
Dave Chapman, COO of Bitcoin exchange ANX answers a range of questions on the cryptocurrency and its role in institutional trading.
Is it possible to achieve an institutional level of liquidity?
We developed our platform from the ground up to be institutional-ready. We’re seeing an increasing number of corporates and institutions engaging the bitcoin space. It’s also one of the reasons we’re actively developing our FIX API’s. In saying that, we’re today facilitating large institutional orders by means of block trades; some on exchange, some off exchange. The liquidity in bitcoin today is still too primitive to shift large orders without moving the market.
What remains clear however is how much illiquidity in bitcoin is owing to the lack of it not holding fiat currency status. Bitcoin’s market value and turnover are still trivial by currency standards. Bitcoins average daily trading volume across the major exchanges is somewhere between 20 and 50 million US dollars per day. Comparatively, the average trading volume of FX Futures on the Chicago Mercantile exchange is around 33 billion for Euros alone.
I’ll be the first to admit, there are few financial asset classes that share the tiny market cap in terms of size that bitcoin currently maintains and that equally exhibit bitcoin’s impressive volatility. Provided this small market cap however, bitcoin will definitely fall foul to market manipulation and will do so for some time. We often hear about this manipulation in the media and its negative impact on the crypto currency. However market manipulation is not new to bitcoin, nor is it a problem that only affects small, new and experimental markets (e.g. one only has to examine the numerous and still ever-present scandals that afford themselves to the likes of interest rates, precious metals etc.).
We’re now witnessing numerous bitcoin ETF’s requesting approval from the regulators, and we’re now also seeing derivatives and options products being made available.
Bitcoin may appear very much a consumer, retail market, however we’re seeing the corporate and institutional sides show far more interest and I anticipate that momentum continuing in to this year and beyond.
What are the algo trading possibilities?
Algo trading is definitely active on bitcoin exchanges. One can rely on the various API’s offered by the bitcoin exchanges to develop their own strategies. On the inverse however colo services are not really necessary right now for arbitrage between exchanges. We’re talking sub-second latency at best, not sub-millisecond, though I anticipate colo services will be offered as the opportunities to arbitrage prove more difficult to profit from.
Who regulates, controls the bitcoin ledger?
The bitcoin ledger, known as the block chain, is a transaction database shared by all nodes participating in a system based on the Bitcoin protocol. A full copy of the block chain contains every transaction ever executed in the currency. With this information, one can find out how much value belonged to each address at any point in history. There is no central body or regulator who overseas or controls the block chain; instead every user of Bitcoin oversees and validates it.
Why would one use it over a traditional currency?
Payment freedom – It is possible to send and receive any amount of money instantly anywhere in the world at any time. No bank holidays. No borders. No imposed limits. Bitcoin allows its users to be in full control of their money.
Very low fees – Bitcoin payments are currently processed with either no fees or extremely small fees. Users may include fees with transactions to receive priority processing, which results in faster confirmation of transactions by the network. Additionally, merchant processors exist to assist merchants in processing transactions, converting bitcoins to fiat currency and depositing funds directly into merchants’ bank accounts daily. As these services are based on bitcoin, they can be offered for much lower fees than with PayPal or credit card networks.
Security and control – Bitcoin users are in full control of their transactions; it is impossible for merchants to force unwanted or unnoticed charges as can happen with other payment methods. Bitcoin payments can be made without personal information tied to the transaction. This offers strong protection against identity theft. Bitcoin users can also protect their money with backup and encryption.
Transparent and neutral – All information concerning the Bitcoin money supply itself is readily available on the block chain for anybody to verify and use in real-time. No individual or organisation can control or manipulate the Bitcoin protocol because it is cryptographically secure. This allows the core of Bitcoin to be trusted for being completely neutral, transparent and predictable.
Is ANX trustworthy?
Founded in June 2013, ANX has grown into one of the most used bitcoin exchange platforms. According to Bitcoincharts.com, ANX is the seventh largest bitcoin exchange in the world by volume.
It is ANX’s mission to promote a healthy eco-system by providing value-added bitcoin exchange services to the public. ANX is also lowering the barriers to bitcoins and other crypto currencies adoption by increasing ways for consumers to acquire and access crypto currencies. ANX introduced the world’s first physical Bitcoin Retail store, the world’s third Bitcoin ATM machine, a multi-currency online bitcoin exchange platform, as well as mobile Apps for crypto currencies. ANX have also just launched the world’s first bitcoin debit card allowing ANX customers to spend bitcoin at any traditional retail, POS, or online merchant along with the ability to withdraw cash from any one of the millions of standard ATMs available around the world.
ANX is committed to enhancing its development and innovation capabilities to strengthen its global branding. Finally, ANX is a licensed Money Services Operator with a rigorous stance towards KYC and AML compliance.
Profile : Serge Marston : Deutsche Bank
eCOMS: WHERE ARE WE NOW.
Serge Marston, managing director, and global head of eCommerce sales at Deutsche Bank discusses their evolving eCommerce platform.
There has been so much regulation since the financial crisis. Which are the most important for your business and what impact has it had?
In the past, we had three internal areas of focus – trading, sales and technology and they would all leverage e-commerce. Now we have a fourth – regulatory and compliance – which is also a significant focus. There are three main pieces of regulation that have and will change the business fundamentally. There is Dodd Frank in the US and EMIR (European Market Infrastructure Regulation) which among other things is forcing the migration of OTC (over the counter) product onto electronic exchanges. Europe also has MiFID, while globally Basel III is imposing capital and liquidity coverage ratio requirements on banks. That is having an impact on their balance sheets and the ability to provide products and services.
The main challenges are the co-ordination of all these different rules. There are a lot of moving parts and it is still a work in progress. I also think that there is a difference between the US and Europe in terms of the legislative process. The US tends to implement the rules more quickly than Europe and then they introduce amendments over time. In Europe, it is the reverse in that if you look at MiFID I and II, there is about ten years between them but once the rule is passed, it’s much more final.
In terms of impact on the industry, the raft of regulations has seen the buyside take greater control and the sellside develop new solutions and models. For example in the pre-trade space in credit, people try to get as much information as they can now before making a decision while there has been greater attention to post-trade analytics and how orders are filled in equities and this is seeping into the FX space. In rates, on the trading side, there is more time automating the way we aggregate liquidity.
Against this background, what changes have been made to your eCommerce platform?
When I first started, ten years ago, the e-commerce channel was all about the hit ratios on the platform and tweaking the dials. However, it has morphed into a much more complex channel and moved from a pure execution support platform to being one that also manages transfer and execution risk between the buy and sellside. This is driven by the depth and breadth of product offering over the timeframe. The role has also changed in that we provide more advice in terms of how to trade, which platform to use, trading protocols and the size of orders. Also it is not just about price but the timing of the execution. We have invested significant resources into adapting the technology and recalibrating the infrastructure to make it much more scalable in order to manage the migration of bonds and the increase in electronic trading.
Are you seeing more cross asset class trading?
The cross asset piece has become more important and we have moved away from being a silo driven organisation. It is more prevalent in the hedge fund community but increasingly long-only asset managers are migrating more fluidly across assets to chase alpha. One of the drivers is the low yield environment and the need to broaden their scope to generate returns.
To reflect clients’ needs, we take a much more co-ordinated approach and the feedback has been positive. We now have a generalist model that is overlaid with product specialists. We can also leverage the expertise of other people in the investment bank who have a broad understanding of asset classes.
How do you see the business developing?
I see the world becoming increasingly complex in terms of how you trade due to the regulations. There are now multiple channels, many more liquidity pools and protocols and as a result more decisions that have to be made in terms of the best ways to trade. This is why buyside firms are asking more questions, such as should they use electronic platforms or pick up the phone, or is it better to use central clearing or go bi-laterally. From a technology standpoint this means that they will need more connections within their order management systems.
In the past, there were limited options. Historically, a buyside firm would call a sellside firm and ask for a risk price and we would provide one either on the phone or electronically. We would be rewarded for the business but after the financial crisis things changed significantly. The risk price today is not always there and it is more acute in illiquid securities. The question then becomes who owns the execution risk? In some cases it has been transferred to the buyside. The decision-making has become more complicated, which is why we are providing much more guidance and advisory services.
How do you keep your competitive edge in this changing environment?
We think one of the ways we can differentiate ourselves is through our gamut of products but more importantly our services. In certain asset classes it is about the functionality you offer and it is an arms race in terms of technology. It means continually having incremental improvements and enhancements. However, we also have developed value-added services and thought leadership to help clients navigate their way through the increasing complexity and to mitigate the execution risk. The goal is that we become a valued partner.
Serge Marston has been at Deutsche Bank in London for 17 years and is currently the global head of eCommerce sales within corporate banking & securities. Previous to this Marston held several eCommerce roles, including head of rates eCommerce. His first role at DB was in FX sales. Prior to his arrival in the UK, Marston worked in Toronto, Canada for two years at TD Ameritrade in the equity markets. He has an undergraduate degree in finance and an undergraduate degree in political science from the University of Ottawa.
© BestExecution 2014
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Profile : Buyside perspective : Kristian West
A NEW LOOK.
A NEW LOOK.Kristian West – global head of equity trading at JP Morgan Asset Management explains why his division has changed its modus operandi.
What have been the changes you implemented since taking over the global role in 2013?
Historically the firm did not operate on a global model but each region was in charge of running its own operations. However, last year we decided to break down the silos and launch a three year roadmap to ensure that best practice is adopted globally. My role was created in order to co-ordinate and facilitate this change for trading. Some of the challenges are not technology but a change of mind set of people who are used to working in a different way.
How has it worked in practice?
We have done a number of things such as creating a global co-ordination team which leaves little opportunity for any information gaps. For example, if we meet with our Asian technology teams, we ensure that the US and European teams are part of the conversation. We are also in the process of standardising our service level agreements and analytical frameworks across the different regions. Before, decision-making went to different hierarchies, but now there is much more harmonisation across the equity franchise. We still have regional centres of excellence and chief operating officers but now there is a more global frame of mind.
What were the drivers behind JP Morgan Asset Management (JPMAM) building its own order management system?
There are several reasons why we did this, the first being that because of our size, we did not want to be reliant on a single vendor to build our controls and manage compliance modules as well as broker restriction obligations. In the past, the OMS has been a fairly rudimental application but we are now expecting the application to do more and so we wanted the opportunity to create our own intellectual property. The OMS is now live for convertible securities, derivatives and equities. It also ties back to our globalisation push and the need to have consistent OMS and execution management systems whilst taking into account regional nuances.
What are some of those differences?
In Asia there is much less self direct trading than in Europe. Equally there is less in Europe than in the US due to the number of different markets. The automated platforms also operate differently in Europe – they are more dependent on external algorithmic tools with the engine deciding which strategies and parameters are the most effective. In the US we have our own core algo platform that then uses the smart order routers of the brokers.
How do you think your relationship with the sellside has changed?
I think one of the biggest changes has been our ability to analyse execution quality. Every six months we conduct a broker review and within each category, whether it be programme trading, single stock trading, or algos we have a score and can rank the relationship. For example, on algos we can apply our own internal metrics consistently and assess performance across our brokers. This enables us to have informed conversations on how a broker can optimise their execution services to better serve JPMAM and its clients. It has led to a more consultative process and more tailored products.
In general the relationship discussions have become more performance based. One reason is that the commission sharing agreements have given the trading team more autonomy as to whom and where to trade. The trading team must be able to measure the performance of those decisions.
What impact do you see regulation having?
If you look at MiFID I, the biggest change has been fragmentation and the ability to trade off primary venues and on broker crossing networks (BCNs) and dark pools. This can offer greater flexibility to institutional investors because you don’t always want to trade on an exchange with pre-trade transparency. You want optionality. However, MiFID II’s desire to reduce this flexibility may impede institutional investors. Additionally reducing deferred trade publication times may have a material impact on risk management and liquidity of securities, especially SMEs.
Do you think there will be an end to dark trading?
There will be caps – a 4% cap on the amount of trading in a stock that can be carried out on a single dark pool as well as an 8% cap on the amount of trading in a stock that can be traded across all dark pools, so dark trading will be impacted. However, the rule does not impact all pre-trade transparency waivers. We, along with other institutions, are talking to the European Securities and Markets Authority (ESMA) about using large-in-scale waivers for the larger orders which are not subject to a cap. This may encourage more institutional crossing opportunities.
Do you think best execution has improved since MiFID I?
The fragmentation created by MiFID has forced firms to scrutinise best execution in greater detail. Today, there is a lot more technology and resources to measure performance and question whether a trading strategy was the right one. I think firms also use such analysis to differentiate themselves from their competitors.
Looking ahead, how do you plan to continue to develop the business?
Two things we are looking at are greater global consistency around our execution processes and the analytical framework because these two pieces can add significant value. It is not so much about the automated process but the creation of an implementation strategy specifically for the client that can be put into an execution framework and then measured.
We are also using the technology to better measure the overall implementation processes. We have a considerable amount of data that we can analyse to change behaviour and help improve the overall implementation of investment strategies. This helps us reduce frictional costs to the fund and makes it more relevant to the end client.
Kristian West, managing director, is global head of equity trading at JPMorgan Asset Management. An employee since 2008, he was previously head of trading strategy. Prior to that, he was head of equity execution services at Barclays Capitaland worked at Goldman Sachs, responsible for trading within their electronic transaction services(ETS) department. Before that, he was a US sales trader at Spear Leeds & Kellogg, and worked at Ford Motor Company’s research and development centre. West has a BSc (Hons) in Management & Design in Engineering at London City University, School of Engineering and an MBA from the Universityof Cambridge.© BestExecution 2014
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Data management : Low latency market data : Heather McKenzie
THE NEED FOR SPEED.
Heather McKenzie explains why FPGA is going mainstream.
In the world of data management it is not often that IT hardware is in the spotlight; the glory is usually grabbed by software-based applications. However field-programmable gate array (FPGA) technology is fast gaining attention in financial services.
FPGA is an integrated circuit designed to be configured by a user or a designer after manufacturing. The circuits can undertake complex digital computations rapidly. The technology has been deployed in diverse industries including aerospace, medical electronics, wireless communications and Bitcoin mining. In financial services, many high frequency trading (HFT) firms are adopting the technology as they seek to lower latency as much as possible.
FPGA is good at processing streams of data quickly and deterministically – meaning users can accurately predict how long a process will take. The technology delivers parallel and concurrent resources so that users can deploy it, for example, for five or 500 tasks and the latency will be the same. Platforms are designed with FPGA hardware to accelerate the flow of market data into trading algorithms.
The popularity of FPGA technology among HFT firms has not gone unnoticed. When it comes to market data management, data providers recognise they have to revamp their products in order to meet the need for speed and other requirements, and one route towards that is FPGA technology. HFT firms have bought the technology directly from hardware manufacturers and programmed it themselves – a complex task but worth it for firms whose strategy is based on low latency.
Exchanges have also embraced the technology with the London Stock Exchange Group’s Sri Lanka-based MillenniumIT technology business employing FPGA in its new Ticker Plant development. The initiative will be introduced in two phases and will replace all of LSE’s existing real-time data products with a bespoke, multi-asset, binary protocol service. All real-time market data for each of the Group’s markets (LSE, Borsa Italiana, Turquoise and MTS) will be delivered via the single, bespoke, binary protocol. Market data product management, processing, enrichment and normalisation will be completed by tailored technologies such as FPGA processing. In doing so, the LSEG is moving away from its traditional software process management to a hardware base.
Behind the scenes
Many of the companies developing FPGA hardware are quite modest operations, unlike the large multinationals that tend to dominate the financial services technology market. Sydney-based Metamako, for example, has developed what it claims is a world first in MetaConnect, a packet-aware physical layer switch. It combines speeds of four nanoseconds with an awareness of the messages going through it to improve network management and reporting through comprehensive packet statistics and time stamping. It can broadcast data from one to many recipients without adding additional latency or compromising signal quality.
Such is the arms race for speed in equities and futures trading, says the company, that it is launching significantly advanced technology and providing clients with a competitive “next-step” in terms of latency, functionality and flexibility. The device will enable the company to develop products for the application layer of the technology stack.
Founder and co-CTO Dave Snowdon (left) says the recent development of high-level languages for FPGAs is opening up the technology to ‘mere mortals’ in addition to hardware developers. As a result, he believes the market for this technology will extend out from market data and pre-trade risk into entire trading strategies. “High performance proprietary traders have been using FPGA technology in their in-house developments for some time. A few years ago Exergy developed a market data feed handler that became quite popular, so the technology is becoming more mainstream,” he says.
Another minnow in the technology world is London-based NanoSpeed, which develops FPGA devices for risk management and order entry gateways. Like Snowdon, Sanjay Shah (right), chief technology officer at the company, believes FPGA will make its way into many different applications and technologies. From January 2015, he says, Microsoft will deploy FPGA technology to its search engines in order to accelerate searches. In market data distribution, FPGA is ideal as it enables users to rapidly normalise or filter data.
The more familiar names in the financial services world are tapping into the advances being made by the FPGA manufacturers. In August, Thomson Reuters announced the launch of its new direct feed service, Elektron Direct Feed. The product has been designed for users for whom speed and agility are key components of their trading strategies as they seek out the best prices for their clients, says Thomson Reuters. The service uses FPGA technology from Celoxica, which began as a technology spin-off from Oxford University in 1996.
Celoxica provides hardware accelerated market data feed handlers for the main equity, options, futures, fixed income and FX markets in the US and Europe. The feed handlers enable a trading firm to consume market data from one or multiple exchanges and asset classes either as an embedded solution, which delivers market data directly to a single server, or a distributed solution, which delivers a multicast data stream to applications on multiple servers.
Brennan Carley, global head of transactions and platforms businesses at Thomson Reuters says the Elektron product doesn’t cater specifically for HFT proprietary traders – they tend to build their own systems – but is aimed at firms with a focus on best execution. The product is suitable for firms that have algorithmic execution strategies using volume-weighted average price (VWAP) and want to execute with minimal market impact and reduced slippage, firms with smart order routers that are seeking best price in many venues, and firms running matching engines. “None of this creates alpha, but it does improve execution quality,” he says. “These firms need timely market data and to receive and process market data very quickly. They are not profiting from low latency, but they will suffer poor execution if they do nothave good latency.”
Cost cutting
FPGA also enables firms to reduce costs – whereas it is typical for some firms to have hundreds of servers processing market data, FPGA technology will enable these firms to reduce their footprint considerably: ten markets could be handled on one server.
Among the users of FPGA technology is Quincy Data, a microwave distributor of low latency market data, based in the US. The Quincy Extreme Data service offers an integrated and normalised feed of select market data sourced from multiple financial exchanges in the US and Europe and is offered in exchange co-location centres in the US, the UK and Germany. The company recently upgraded its data service with FPGA technology from NovaSparks, a Paris-based company. Stephane Tyc, co-founder of Quincy Data, said the NovaSparks technology brings speed along with a rich set of features and functionalities that are typically found only in software-based feed handlers.
In August, NovaSparks released a FPGA-based feed handler to process the consolidated cash equity options feed from the Options Price Reporting Authority (OPRA). “FPGA technology does not only focus on latency reduction and determinism. It also provides amazing throughput capabilities,” says NovaSparks chief executive, Luc Burgun.
NanoSpeed’s Shah believes more widespread deployment of FPGA technology will help to reduce the frequency of ‘flash crashes’ in markets. “Since FPGA is deterministic, if applications are designed in the right way, there will be no lockouts as experienced with software operating systems.”
© BestExecution 2014
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Profile : William Knottenbelt : CME
MAKING ITS MARK.
William Knottenbelt, senior managing director for Europe, Middle East and Africa at CME outlines the European gameplan.
The CME has had a strong presence in London for many years but the momentum has gathered pace since gaining approval for CME Europe in the spring. Did you think the approval process would take so long?
We have had an established presence since 1979 but over the last few years we have built out our infrastructure in Europe, launching CME Clearing, the CME European Trade Repository and now CME Europe. The launch of the new exchange took longer than expected. The main issue was agreeing the delivery process with the regulators on how we used CLS (the global FX settlement provider owned by a consortium of banks and other financial institutions). They wanted us to use a different mechanism for delivery than we used in our US FX futures complex, and this took time to agree and bed down. We are using a paired settlement model, which is used in our treasury and equity complex but it is a new concept in FX. It requires members to settle trades through CLS agents bilaterally. This differs from the original third-party agent model the exchange currently uses for settling FX trades.
What has been the result?
Our original plan had been to launch 18 months earlier, and we had agreed timetables with participants, however the delays meant that not all original counterparties were there on day one. Once we got approval in March we quickly launched our FX futures contracts and continue to build up our client base. We have also seen average daily volumes in Europe grow from a few hundred to around 4,000 contracts by the end of August. We are not only seeing liquidity from market makers but there are other participants starting to get involved. We would like to see that climb by year-end.
What was the strategy behind creating a much stronger European organisation?
Dodd Frank and EMIR (European Market Infrastructure Regulation) have created a fundamental shift in terms of how the market has worked from a futures and OTC perspective. Historically, clearinghouses went through futures commission merchants (FCMs) to get to the customer. Now with OTC central clearing, there is no uniqueness about the OTC products so you have two to three clearinghouses offering the same service. The client has more choice and will direct the FCM to link with the clearinghouses of their choice. This has led clearinghouses to build their own sales teams to reach those end clients. For CME Group, we were not that well known outside London, Amsterdam and Geneva and while there was an understanding of who CME Group was, we were not at the front of people’s minds for OTC clearing. As a result, over the past three years, we have done a lot of groundwork and built up the relevant relationships. We now have all the building blocks and infrastructure in place – the clearinghouse, trade repository and CME Europe – to develop a strong franchise.
How does the derivatives market in Europe differ with that in the US and how does that translate into serving client needs?
We initially established our OTC clearing operation in the US and are now leveraging that infrastructure to make our European offering as similar as possible so that we look and feel the same in each location. The client requirements are different in Europe as it is not as futures oriented as in the US. If you go back even five years, futures brokers were pitching to asset managers who were not using futures. This area of the market has developed significantly but European asset managers have tended to use more OTC than futures, so we have spent a lot of time promoting our European services to the OTC market. There continues to be uncertainty about how the Commodity Futures Trading Commission (CFTC) and EMIR cross-border rules will work and so we have found that overall European asset managers, where possible, wanted to clear in Europe unless they had US-denominated accounts. We did not want to cut ourselves out of such an important market as Europe because it trades around 60% of the global FX and interest rate derivatives. Hence the reason why we launched our European OTC offering.
Can you expand on the sophisticated client management system that CME Group has developed?
We are the first clearinghouse to have received approval from the Bank of England for the full segregation client protection model with enhanced protection for all bankruptcy scenarios. This new client protection model fully segregates collateral with an external custodian at the client level and expands client asset protection beyond EMIR requirements.
What are your future plans and how do you plan to be competitive?
Overall, we plan to continue to develop the FX product offering because as I said it is not as developed in Europe and the demand is changing due to the regulations. We want to fill in the gaps in our offering for both the FX and interest rate differential (IRD) OTC markets. We are also planning to launch a suite of European natural gas futures and cocoa in the fourth quarter. We believe that the construction of these contracts will suit the market and fill a gap that currently exists. Also, we recently took part in the tender to create the London Silver price mechanism, which we won in partnership with Thomson Reuters. This service went live in August and now creates the daily silver price. We will be participating with Thompson Reuters in bidding for the platinum and palladium and the gold prices CME Group provides the electronic auction platform on which the price is now calculated, Thomson Reuters are responsible for administration and governance and the London Bullion Market Association (LBMA) accredits the price participants. The new LBMA Silver Price benchmark is published and distributed by Thomson Reuters and will be available on the LBMA’s website.
William Knottenbelt is managing director, Europe, Middle East and Africa (EMEA) of CME Group. Prior to joining CME Group, he spent 25 years at the Royal Bank of Scotland where he was most recently global head of futures and global head of central counterparty clearing where he worked on developing the bank’s over-the-counter clearing solutions. His other roles included global head of futures, FX and interest rate derivatives prime brokerage. He began his career trading commodities at C Czarnikow commodity trading house. He also served as an executive board member at both the Futures Industry Association and the Futures Options Association.© BestExecution 2014 [divider_to_top]
Post-trade : T+2 : Mary Bogan
A SHORTER CHAIN.
Mary Bogan looks at how T+2 is injecting life into the once lethargic settlement world.
Settlement may not be the hottest topic in securities trading but, as the UK market hurtles fast towards the deadline for the first cut in its trading settlement cycle in over a decade, how to speed up internal process and operational efficiency by at least a third is proving a thorny one for key players in the trade settlement chain. 
“T+2 poses a huge challenge for operations and compliance,” says Scott Coey, head of broker dealer services for Pershing and BNY Mellon EMEA (above). “What we’re talking about is 27 European markets, each with its own nuances around settlement style and requirements, all changing to a T+2 settlement time frame on October 6. A lot of unknowns are going to fall out of that.” The move by regulators to reduce the time period in which equities and exchange-traded fixed income securities must be settled from three days after execution to T+2 is a key plank of the Central Securities Depositories Regulation (CSDR) and supports a much broader initiative designed to shake up Europe’s post-trade space. When it launches in June 2015, Target2Securities (T2S) will commence the substantive work of harmonising Europe’s disparate settlement arrangements and creating a borderless market in which cross-border trades can be settled more cheaply, easily and safely. A harmonised settlement cycle is therefore a necessary precursor to a wider harmonisation of settlement practices. “T+2 is part of the road map to T2S,” says Alessandro Zignani, head of post trade sales at Italian CSD Monte Titoli. “It’s part of a process that is now taking place throughout Europe’s post-trade markets.” Apart from facilitating the move to T2S, T+2 offers both capital and risk management benefits. By moving trades more quickly to settlement, additional margin and liquidity requirements are reduced during times of economic volatility. A shorter settlement cycle also cuts trade fails and counterparty risk and frees up capital for reinvestment. According to a 2012 DTCC study, reducing the settlement cycle from T+3 to T+2 cuts the potential loss exposure to the buyside from a sellside default from a range of between $300m to $2.6 billion, depending on market volatility, to between $190m and $1.6 billion.
Keeping pace
Some participants though think T+2 could stretch capital management. “T+2 will be an important test of collateral supply in the European market,” says Alex Merriman, head of global and European regulatory affairs at SIX Securities Services (below). 
“While there is a net gain in the clearing cycle of moving to T+2 because exposure and price volatility during settlement is reduced to two days from three and, in calm markets, there will be fewer calls on margin, at the settlement level, it’s the fact that the churn or the time you have to redeploy collateral that you might have used for one settlement operation is being cut by a third that’s the test. The velocity of collateral increases significantly under T+2.” In the shorter term, however, its process and operational issues, and particularly the speed of settlement processes focused on trade allocation, confirmation and affirmation, that presents the most immediate challenge of T+2. For many trades, especially more complicated ones, immediate or same-day processing will be required to meet the new deadlines. Confirming trade details and instructing settlement by the end of the transaction day means front-to-back transaction processing timetables, including FX transactions, funding or repo trades and stock borrowing, will have to be tightened and operations better co-ordinated. While many institutions already have experience of shorter deadlines given that the German market, for example, already settles on a two day cycle, it is the scale and magnitude of change that makes T+2 so challenging. “Just because your systems currently work in Germany doesn’t mean they will work in, say, Spain,” says Coey. “Because so many different settlement rules apply in different European markets, there’s a lot of change to manage.” Furthermore, if T+2 is going to speed up settlement effectively, then all players throughout the system, need to dance to a faster tune. “T+2 is a mechanical process change for us. It’s not just Monte Titoli and its direct clients that need to be prepared. It’s the whole chain,” says Zignani. According to a new white paper from technology provider Trax, however, few firms will be ready to implement all the changes needed to support T+2 in time for the October 6 deadline and the transition is unlikely to be smooth. Most at risk are firms, particularly on the buyside, that still rely on manual systems to process trades: in Europe it’s estimated up to 25% of post-trade processing is carried out manually. 
“Firms using manual systems will struggle in a T+2 environment,” says Tony Freeman of Omgeo (above), “Those hoping to speed up manual processes or use outdated legacy technologies to meet the challenges of T+2 will find that although these approaches may work perfectly well when there are no disagreements between participants’ versions of trades, problems become more difficult and time-consuming to resolve when you get differences of opinion.” Trades across different time zones will also put pressure on creaking systems. “Right now a broker dealer who gets a trade confirmation on a Monday from a client in Asia Pacific has Monday plus three days to confirm, match, transfer money and correct any discrepancies. But removing a day from the system when there’s a time zone difference of up to 9 hours is going to put extra pressure particularly on the settlement systems of European institutions that sit in the middle of US and Asian time zones,” says Coey.
Moving up the agenda
At a time of low trade volumes and when most institutions are pressed for cash, investing in settlement automation is low down the priority list. T+2 and T2S though are likely to change that. Ironing out glitches in a new T+2 world will inevitably push up failed trades at least in the short term, say market observers, and while regulators are prepared to allow for a period of grace during the initial bedding-in period, increased penalties for failed trades, as yet unspecified, and the possibility of naming and shaming institutions that fail to complete trades, are on the cards. In addition, a more challenging economic climate is forcing all parts of the settlement chain to get tougher with clients with sloppy, error-prone systems. “At the end of the day there is a cost to inefficiency. Persisting with manual processing while the rest of the world is automating is not sustainable. Competition will find out those institutions,” says Merriman. From the sellside’s viewpoint, T+2 could also be just what brokers need to pressure buyside clients into automation. “T+2 and the penalties for failed trades could be a blessing in disguise for brokers,” says Freeman. “It gives them a reason to have a serious discussion with clients about errors, inefficiency and who is going to pay the costs. Brokers can’t. Margins in execution are almost non-existent. Increasingly banks are getting much better at calculating the cost of different client relationships and involving both middle and back offices in assessing client efficiency.” And for institutions looking for alternatives to Omgeo, the dominant provider of post-trade processing services, products from the SWIFT and FIX protocols are gaining traction. “The FIX product we are building should offer a cheaper, more direct form of communication for asset managers looking for an efficient way of exchanging affirmation and confirmation messages with the sellside,” says David Pearson, strategic business architect at Fidessa, “and a better mechanism for handling ‘exception’ trades.” With T+2 and T2S waiting in the wings, the sleepy world of post-trade clearly stands on the brink of an organisational shake-up. To succeed though in a speedier, leaner and more demanding market will also require a new cultural and attitudinal approach. “Comparing levels of price and service up until now has been difficult in post-trade,” says Merriman. “But when everybody in Europe has got access to one platform, it will be speed of service and the end-to-end value chain that will determine who’s going to be the winners and losers. T2S and T+2 are initiatives that will really sort out the sheep from the goats in the settlement world and, in my view, it’s competition, rather than penalties for trade failures, that will raise efficiency and drive down costs.”
© BestExecution 2014
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Trading : Quants : Dan Barnes
CONNECTING THE DOTS.
Dan Barnes reports on how quantitative analysis of trading and investment is cutting through sellside obfuscation and portfolio manager bravado.
Quantitative analysis is bridging the gap between trader and fund manager by providing granular analysis of stock performance over time horizons that extend beyond that of a normal order’s lifespan. Execution cost and quality is being drawn closer into the portfolio construction process as a result.
Will Coulby (above), head of quantitative transaction cost analysis at JP Morgan Asset Management (JPAM) says, “Traders are focused on the detail and on a single trade basis. We can add value by looking over a much longer period of time and across a wider trade set.”
‘Quants’ as strategy analysts and traders, are becoming heavily engaged in the buyside investment and dealing process with the expectation that they will deliver better performance and more efficient execution. Although quantitative investment is not new, it is now being used to develop innovative ways of investing and with the right technology this can incorporate more data from the execution process.
David Blitz (below), head of quantitative equities research at Robeco Asset Management says, “Increasingly asset owners recognise that well known factors, such as value and momentum, can be used to benefit an investment strategy. Smart Beta, or ‘factor investing’ uses [quantitative modelling] to weight a portfolio of stocks based upon factors other than their market capitalisation. That raises the bar for traditional asset managers as their alpha can often be explained as a result of smart beta.”
Quantitative analysis is also being brought to the trading desk to assist with analysis of market structure and execution. Several large asset managers, such as emerging market specialist Franklin Templeton, JP Morgan Asset Management and Alliance Bernstein, have employed quants on their trading desks to deliver greater efficiency.
Joined up trading
In its report ‘US Institutional Equity Trading 2014’, analyst firm TABB Group found that buyside electronic trading now compromises 41% of order flow, an additional 5% on 2013, with programme trading desks and sales traders seeing a corresponding decline in flow. The rise in electronic activity is being supported by increased quantitative analysis of execution, providing the eyes and ears for algorithms that in some cases are making decisions without intervention from human traders.
At the most sophisticated end, firms, typically hedge funds with broader mandates than traditional long-only investment managers, can employ highly automated trading and investment systems.
London-based Piquant Technologies has a fully automated, artificial intelligence-based, investment and trading system, simply dubbed ‘The Engine’, which is capable of learning based upon quantitative analysis of data.
Portfolio theory drives firms to maximise returns subject to constraining risk but James Holloway (above), CIO at Piquant Technologies, says the firm’s platform must account for trading costs, risk targets, diversification requirements, even self-regulating when it puts too much faith in a particular instrument. It also works across a range of timeframes, anywhere between three days and nine months. As a consequence it might end up working across 600 different dimensions, with each one increasing the complexity of the challenge. Imagination is the limit.
“How often do you have ideas?” he asks. “Well, having cheaper [computer] memory and faster processing has revealed an amazing psychological thing; the easier it is to conduct some research, the more likely you are to delve into it. It takes us a minute now to research something that, twenty years ago, might have taken a whole day. So there is a far greater capacity to explore ideas and conduct research based upon them, which often feeds back by providing us with even more new ideas.”
Building the system from the ground up took between 18-24 months and then required the firm to extract information from the market and subsequently work out what to do with it.
“We have various algorithms that look for certain features of time series behaviour,” Holloway says. “Trend-following would be one sort of feature, and there are many others. We have to ask how good these features are at predicting the markets and then based on cost of trading, correlations across markets, and many other things that one can measure quantitatively, we ask ‘how do we now construct a portfolio’? It all has to be based on scientific policy.”
Sophisticated long-only firms are also able to take a broader view of trading and investment to find bottlenecks and kinks that impact alpha generation.
Coulby says, “We find that delays upstream can lose more alpha than the subtleties on the trading desk. We try to focus on the wider implementation process not just the minutia of trading. There is often more value to be gained from looking at the business processes around implementation than around trying to micro-optimise our participation rates.”
Profiling work, conducted on fund managers to look at alpha capture from both a trader and fund manager perspective, can yield important information on the interaction between them.
“For example, during an alpha profiling exercise, we found that certain fund managers who raised orders before 9am were extremely profitable while if they raised orders between 9am and 11am they weren’t tapping the full amount of alpha. They were trading around news and trading later in the day often meant the event had passed. So we really sit between the investment teams and the trading desk.”
JPAM’s analysis work typically requires access to databases and MatLab, the algorithm development tool; profiling investment managers can require six months of data which contains around 400 million rows.
“You can’t do this in Excel; the way we handle the data is closer to the way portfolio managers back-test data,” Coulby says.
As firms experiment with greater levels of smart beta or quantitative investment, the ability to bring transaction cost analysis (TCA) to bear is crucial to avoid market impact.
“Big asset managers consider this to be a major drawback of these indices because they have limited capacity as a result,” say Blitz. “If you invest 10bn in a minimum volatility index then at the rebalancing moment, which comes twice a year for an MSCI index, you might have to replace 1% of a stock. That creates a 100m trade which is a huge amount of an average stock’s market liquidity.”
Off the desk
External barriers to best execution can also be more easily identified by using home grown quantitative analysis. Allegations emerged that brokers might actively undermine long-only clients in the Michael Lewis book ‘Flash Boys’ released on 31 March 2014 and were reignited when a case was launched by US authorities into the Barclays Capital dark pool on 25 June 2014. According to the case documents, the presence of a large high-frequency trading firm capable of preying on the block orders of investment managers was erased from marketing material.
That would have deliberately exposed them to the risk of additional costs while claiming they were protected. Since the case was brought volumes in the pool have dropped by around 60% but many senior buyside traders say they were neither surprised nor concerned by the news. Many reported that quantitative analysis of execution has removed their reliance on the brokers to provide guidance on best execution.
Emma Quinn, head of trading for Asia Pacific at asset manager Alliance Bernstein says, “I work with our quant traders to look at our TCA. We get the same set of data for our algo performance as our broker and perform own analysis. We then look to see if it aligns – where it doesn’t, typically it will be because of how people trade certain events, outliers and things like that.”
Coulby notes that all of JP Morgan Asset Management’s brokers provide TCA services, but they typically provide more value around execution consulting, such as selecting the benchmark for a given instrument, and less from their packaged services.
Holloway says that the advanced system used by Piquant can even identify changing market conditions in order to better to manage investment and trading. “On a more critical day-to-day basis it manages risk very well; for example our simulated margin to equity in 2008 fell to 5% when we usually operate at around 10-20%, because the system got in before the exchanges decided to raise margin requirements,” he says. “It spotted something was going very wrong before the exchanges started acting.”
© BestExecution 2014
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