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The leading knowledge platform for the financial technology industry

A-Team Insight Blogs

Sell-Side Tech – With Principles

Banks are building client awareness into their systems to achieve long-term goals and avoid disintermediation

Intensified regulatory activity has heightened oversight of trading technology, particularly within the sell-side community. This development has had significant impact on the skills and structures needed in technology teams.

“Technology can give firms a competitive advantage but can do so in a manifestly safe way that does not fall into the grey area and therefore not running the risk of running out of line,” says Alex Kwiatkowski, senior strategist for Banking & Digital Channels at technology provider Misys. “So whether it is the Fair and Effective Markets Review or any other set of rules, it shows the overseers that they are a well-run business.”

As markets continue to automate, banks with the ability to deliver technologically advanced support to clients or in-house traders can develop a considerable advantage, if it is hard to replicate. Examples of this are the UBS Price Improvement Network (PIN), which has expanded across multiple assets and seen a positive uptake relative to other crossing networks, and agency broker ITG’s transaction cost analysis (TCA) service which has long been considered an industry benchmark for trading analysis.

In the foreign exchange and fixed income markets, regarded as some years behind equity trading in terms of technological development, these advantages are very real and still fairly open.

Yet the increased oversight of technology makes the process of building a competitive platform more challenging. Some of the first rules for trading systems date back to 2012, when guidance was issued by the European Supervisory Markets Authority (ESMA) as its ‘Systems and controls in an automated trading environment’, and Hong Kong’s market supervisor, the Securities and Futures Commission (SFC), launched a consultation about proposals to regulate electronic trading.

These require the developers of trading systems and the investment firms that use them to put in place adequate procedures when developing the systems, when using them, and training for the traders that use them. In combination with the growing requirement for buy-side firms to prove best execution, banks have to be far smarter software houses than they have previously been.

The value of ethical development

For internal quantitative trading operations, the ability to manage complexity when designing trading systems is crucial says Paul Bilokon, director in Markets Electronic Trading at Deutsche Bank and CEO of quant finance think-tank The Thalesians.

Speaking at A-Team’s Intelligent Trading Summit in February, he said: “By keeping complexity at bay, the developer allows the quants to work consciously and safely.”

In November, Barclays was fined $150 million for its last look practices in the FX market, which authorities said were being used as a filter to reject customer orders that it predicted would be unprofitable to the bank. Technology can give firms the agility they need for a competitive advantage but can do so in a manifestly safe way that does not fall into the grey area and therefore not running the risk of running out of line. So whether it is the Fair and Effective Markets Review or any other set of rules, it shows the overseers that they are a well-run business.

The capacity to give insight into a system is now a must-have for both clients and stakeholders, says Simon Cornwell, head of Customised Execution Services (CES) EMEA at HSBC, “Clients are moving beyond the standard broker offering and asking us for bespoke analysis of how algos work. Clients switch on or off venues now, where they previously accepted standard connection feeding off the [Financial Conduct Authority’s] thematic review of best execution last summer, which emphasised that while there is a strong obligation on brokers to get best execution there is also a need for clients to determine they are achieving best execution.”

Dieting and bingeing

A barrier to supporting the development of slender, simpler technology is that operations are already run on existing, bloated technology stacks, often separated into different product lines. The ability to make changes to the status quo requires budget and motivation. For many sell-side firms, committing capital to speculative research and development would be a real stretch, given capital requirements of day-to-day business. Consequently sell-side firms find their resources stretched just at the time when they need to invest in technology innovation. However, says Lord Davies of Abersoch, former chair and CEO of Standard Chartered Bank, pressure will come to bear eventually.

“Costs are going to have to be attacked in a way that they have not been in the past, and some of the more remunerative businesses in the space of retail and wholesale payments are going to be attacked by new entrants, so I do believe you have a bit of a perfect storm,” he said, speaking at a breakfast briefing in early March. “The cost cutting in the industry will be profound; you have a shrinking industry, a shrinking cost base and while it may come out of this very strong, the process will be painful.”

This longer-term perspective on the investment required is apparent to a strategist with free rein, however banks that have little capacity to allocate resources need to make some tough calls about how to invest in technology, and keep on the right side of the rules, without hurting other parts of the business. One option is to exploit compliance-led projects. For example, BCBS 239 is a Basel Committee regulation that requires firms to use a single view of risk and finance data in order to ensure that the perspective from both aspects of the business is aligned; that offers considerable value to many areas of the business if it is used to overcome data siloes.

Paras Sidapara, global head of Managed Services, Financial & Risk, at Thomson Reuters says – despite the hype – people are waking up to the value that data and big data processing offer as a way of delivering transparency.

“Having lots of data at your disposal with the tools to be able to bind it together, then drive value into your business by deriving meaning from that data and applying analytics to it, that technology has moved forward so quickly,” he says. “I think people are now waking up, using that side effect from regulatory activities as a positive means of actually being able to value add to your customers.”

Cornwell notes that it is really the information more than the technology, which banks rely on for an advantage in delivering confidence to other counterparties.

“It is critical that we have the management information internally for regulators and externally for clients to prove we are doing the right thing and monitoring our platform,” he says. “Every broker has a best execution committee that discusses with compliance and the front office how we can get the best performance for our clients.”

For the tech teams, adds Bilokon, the capacity to reflect an open approach can create trust both internally and externally, “When conduct risk can make or break your business you need to trust the people you work with, with your life.”

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