For trading firms who see diversification as a means of uncovering alpha, the challenges of entering new markets can be daunting. From navigating unfamiliar regulatory landscapes to ensuring optimal connectivity, the journey is fraught with potential pitfalls.
In this Q&A, we talk to Michael Ourabah, CEO of Infrastructure & connectivity provider BSO, about how firms can take a stepped approach to strategically and efficiently venturing into new territories.
TTI: Why are your clients diversifying into new markets, what challenges do they face in this process, and how does BSO help them overcome these challenges?
MO: We’re seeing firms place more and more focus on diversifying asset classes and expanding their geographical trading footprint in order to generate increased alpha. Firms that remain stagnant risk a reduction in their profits and margins. To counteract this, they’re exploring new asset classes and venturing into new geographies to determine if their strategies or algorithms can be effective in untapped areas. This dual approach is pivotal in enhancing their profitability.
However, such expansion does indeed come with challenges. Firms have to navigate new jurisdictions, address compliance and regulatory concerns, identify suitable partners and brokers, or even consider direct exchange membership. The logistical aspects, such as procuring and shipping equipment overseas, establishing brokerage arrangements if there’s no subsidiary in the country, and ensuring connectivity, can be daunting.
At BSO, we offer solutions to these challenges through our colocation-based bare metal offerings and cloud hosting services. While we don’t always provide a cloud node directly within an exchange’s colocated facility, we often have it in a nearby data centre within the same metropolitan area. This gives firms what they need to start testing the waters to see if their algorithms are profitable in these new arenas. Then, after some time, they can fully commit by buying and shipping hardware, securing space at the colocation facility, and optimising their proximity to the exchange.
This phased approach, facilitated by our cloud solutions, allows firms to cautiously explore new asset classes or regions, instead of sending dedicated hardware to remote locations, which often involves extended lead times, sometimes nine months or more. During this period, firms can be left in limbo, unable to test or implement anything, which leads to wasted resources and capital. Of course, they may be able to utilise their existing trading platform or O/EMS, receiving market data and executing trades remotely, but obviously that doesn’t match the performance of having hardware proximate to the exchange and a network with deterministic latency, which is what their trading strategies often rely on to be profitable.
TTI: What types of firms are using this service?
MO: Although top-tier firms, like the leading 20 or so HFTs, might bypass such intermediary steps and invest fully from the outset, there’s a much broader pool of prop trading firms and hedge funds that can certainly benefit from our approach by conducting back testing near the exchange for several weeks to gauge the effectiveness of their strategies. Essentially, this method lowers their initial barriers to entry, making diversification into new markets more accessible and serving as a preliminary step before firms decide to fully commit their capital, manpower, and resources to a complete deployment at the exchange.
We’ve found that this approach has been very effective for firms looking to explore new markets. They are able to use our bundled services that include low-latency connectivity, market data (where we are a vendor of record), and options for either bare metal hosting or cloud VMs. Importantly, our cloud solution is extremely versatile; it can accommodate specialised hardware like a Solarflare FPGA card within the chassis, directly connected to a VM via a PCI Express lane, for example. This ensures maximum flexibility for our clients.
Also within our ecosystem, we have prime brokers that we can directly introduce to firms. We approach these brokers with partnership proposals, highlighting the mutual benefits of bringing in more clients and optimising connectivity. Not only are the brokers eager to connect and utilise our connectivity for their own requirements, but we also facilitate a seamless transition for mutual customers entering the market. And given the foundational nature of the infrastructure we have in place, we already have an established network of contacts ready to assist clients at any stage of their deployment in these new regions.
TTI: What words of advice would you give to firms looking to diversify into new asset classes or new geographies?
MO: Don’t assume that operations in other regions mirror those of major Western exchanges. This is a crucial insight for firms to grasp for various reasons. If you attempt to directly replicate your existing model, expecting a smooth transition from the outset, you’ll likely encounter obstacles due to costs and regulatory challenges, and it will quickly become evident that certain practices can’t be executed as desired. Each market has its nuances, so it’s essential to tread cautiously and consult with experts who have deep experience in these markets spanning decades.
This advice isn’t exclusive to buy-side firms or proprietary trading firms aiming to harness alpha in these regions. It’s equally relevant for service providers, banks, brokers, and others who perceive a market opportunity. So working with the right partners is essential.
TTI: Any final thoughts?
MO: In terms of asset class diversification, we continue to see significant growth in the crypto sector. Even with the pronounced bear market since November 2021, these past two years have been a period of building. Traditional finance (TradFi) firms are not just contemplating but actively creating solutions to offer custody services through partners, aiming to meet the demands of their clients. Despite some regulatory bodies pushing for stricter controls, I don’t foresee this interest waning. Instead, it’s more probable that digital assets will eventually be regulated in a manner consistent with the existing regulatory framework for TradFi.
We’re now witnessing major banks, hedge funds, custodians, clearing houses, and other key players in the traditional finance ecosystem diving headfirst into the digital asset markets. The narrative remains consistent: BSO has been immersed in these markets for over half a decade and we have infrastructure in place, so engaging with us can save firms considerable time and effort.
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