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Q2 • 2017 • Issue #62
G LO B A LT R A D I N G
ETFs For Fixed Income Liquidity Sean Cunningham, Head of Capital Markets for iShares and Index Investing APAC, BlackRock ALSO INSIDE : DEUTSCHE ASSET MANAGEMENT, EASTSPRING INVESTMENTS, JP MORGAN ASSET MANAGEMENT, STATE STREET In support of
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GlobalTrading’s Editorial Think Tank Dear Readers, Access to new and consistent sources of liquidity is a key issue for all trading desks and technology service providers. Automation is already firmly embedded within the equities trading process, and more sophisticated systems are being adopted to improve order execution, implement complex strategies and better manage risk. Necessity is the mother of innovation and changes in liquidity and market structure caused by recent and imminent regulation have spurred Fintech experimentation and led to the creation of valuable services and products offered by third-party vendors as well as within buy- and sell-side firms. Bill Hebert Co-Chair, Global Member Services Committee, FIX Trading Community
Much of this liquidity is automatically generated by various types of quant algorithms. Algorithm strategies need to be smart enough and that’s where the implementation of effective artificial intelligence and machine learning proves its worth. The fixed income trading landscape is also shifting. During the past few years, rules restricting proprietary positions and tougher capital adequacy ratios have imposed balance sheets constraints on banks that had provided liquidity to the fixed income market through their ability and willingness to hold inventory or take short positions. Electronic bond trading platforms have proliferated to help investors find liquidity and match buy- and sell-orders. Under more intense scrutiny, some of these platforms will do better than others.
Carlos Oliveira Brandes Investment Partners
Greg Lee Barclays
Fixed income investors already use open-trading platforms that give them the capacity to act as price-makers, where they post selective axes and positions, and all participants enjoy access to rich sources of data. They also use matching pools that enable them to trade with other market participations, achieving execution prices inside the bid-offer spread. In addition, fixed income Exchange Traded Funds (ETFs) are increasingly popular as a complement to active investment strategies. ETFs can enhance price discovery, provide investors with low execution costs to establish a diversified portfolio, and increase bond market liquidity and transparency.
Emma Quinn AB
Michael Corcoran ITG
Clearly, the industry is finding ways both to meet the challenges of regulation and devise greater efficiencies for its clients. Best Regards,
Bill Hebert Co-Chair, Global Member Services Committee, FIX Trading Community
GlobalTrading Publisher Edward Mangles
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CONTENTS 7
FOCAL POINT
15
BUSINESS STRATEGY
30
ASIA
27 Plato Partnership: Addressing The Challenges For Successful And CostEfficient Block Trading - Mike Bellaro and Nej D’Jelal, Plato Partnership
39 Artificial Intelligence: The Core Of A New Generation Of Agency Algorithms - Eugene Kanevsky, CLSA
12 Block Trade Routing - Sanjay Awasthi, Eastspring Investments
EUROPE
15 Multi-Asset Platforms For Singular Needs - Edward Sanderson, Credit Suisse
30 New Era For Fixed Income Trading - Cathy Gibson, Deutsche Asset Management
42 Simple Binary Becomes A FIX Standard - Don Mendelson, FIX Trading Community 46 FIX Trading Community Members
OPINION
AMERICAS
19 Disrupting The Disruptors - Mark England, State Street
34 Automating The Trade Process - Curt Engler, JP Morgan Asset Management
23 Professional Standards Within The Electronic Trading Industry - Jim Northey, Itiviti
36 Buy-Side Trade Surveillance: Drivers, Challenges and Implications - Michael O’Brien, Nasdaq
7 ETFs For Fixed Income Liquidity - Sean Cunningham, BlackRock
INSIGHT
INDUSTRY
MY CITY 48 Hong Kong - Sean Cunningham, BlackRock
39
COMPREHENSIVE COVERAGE FOR BUY-SIDE SURVEILLANCE REQUIREMENTS With over 20 years of experience as the industry benchmark for crossmarket surveillance platforms, Nasdaq SMARTS technology powers surveillance and compliance for 45+ marketplaces, 16 regulators and 130+ market participants with coverage spanning 139 markets globally. For the buy-side, SMARTS meets specific data needs covering all points on the trade lifecycle, from parent order through child order to trade execution, helping provide transparency for potential manipulative behaviors at every angle. TRADE SURVEILLANCE / eCOMMS MONITORING / aCOMMS MONITORING PROFILING ANALYTICS EQUITIES / DERIVATIVES / ENERGY / FIXED INCOME / FX
Learn more: http://business.nasdaq.com/tech/surveillance
© Copyright 2016. All rights reserved. Nasdaq® and the Nasdaq Stock Market® are registered trademarks, or service marks, of Nasdaq, Inc. in the United States and other countries. 1336-Q16
HIGHLIGHTS “In several ways, ETF trading is a potential precursor of the future operation of the bond market, exhibiting low cost, transparent, on-exchange trading in a standardised, diversified product.” P.7 Sean Cunningham, Head of Capital Markets for iShares and Index Investing APAC, BlackRock
“The buy-side still requires a network of trusted market relationships established and coordinated by skilled sales traders who can search for a matching interest to trade and close really large blocks.” P.12 Sanjay Awasthi, Director, Central Dealing Desk, Eastspring Investments
“Data intelligence can be used in predictive analysis for scoping out future investor trends, understanding client needs and finding new ways to benchmark performance.“ P.15 Mark England, Senior Managing Director, Head of Asset Manager Sector Sales, Asia Pacific, State Street
“The key will be the ability to demonstrate and document the best execution process and show it can be monitored, assessed and rectified should any weakness be identified.” P.30 Cathy Gibson, Director and UK Head of FI Trading, Deutsche Asset Management
“At all levels, the technology is first used experimentally, tested and, if suitable, is then applied more extensively while constantly monitored and checked for any deficiencies.” P.34 Curt Engler, Head of Equities Trading, The Americas, JP Morgan Asset Management
FOCAL POINT | 7
ETFs For Fixed Income Liquidity By Sean Cunningham, Head of Capital Markets for iShares and Index Investing APAC, BlackRock
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8 | FOCAL POINT
Exchange Traded Funds can be an increasingly important vehicle for investors to access depleted fixed income liquidity, reduce costs and improve trade efficiency. There are regional variations, but their popularity in Asia is set to grow. Exchange Traded Funds (ETFs) are a well-established and still rapidly growing alternative to mutual funds. They combine the benefits of diversification in a passive portfolio with the liquidity and security of a stock exchange listing. Most attention focuses on the wide array of equities vehicles available, but increasingly, bond ETFs are gaining traction.
“A vibrant primary market sometimes contrasts with a tepid secondary market, but this bifurcation has also provided market participants and industry service providers with an opportunity.” It’s not difficult to understand why. During the past few years, regulatory proscriptions and stricter capital adequacy ratios have imposed balance sheets constraints on banks that had provided liquidity to the fixed income market through their ability and willingness to hold inventory or take short positions. The Volker Rule and Basel III have curtailed banks’ capacity to hold large bond inventories. At the same time, new government issuance volumes soared as central banks implemented quantitative easing policies, while companies across the credit spectrum raised long-term debt at historically low borrowing costs from investors hungry for incremental yield. Hence, a vibrant primary market sometimes contrasts with a tepid secondary market. New investment grade bond issues are typically over three times oversubscribed. However, less than a third of large
GLOBALTRADING | Q2 • 2017
issues trade daily, and bid-ask spreads have widened more than 70% since 2007. Nevertheless, the bifurcation has also provided market participants and industry service providers with an opportunity. ETFs can provide liquidity and low costs As one of the world’s largest bond investors, BlackRock is a beneficiary of this environment. Yet for several years, we have been enthusiastic about the merits of fixed income ETFs as a complement to active investment strategies. They comprise only around 0.6% of the underlying bonds markets, compared with equity ETFs which make up about 4% of the underlying, but they are set to grow in popularity. In several ways, ETF trading is a potential precursor of the future operation of the bond market, exhibiting low cost, transparent, on-exchange trading in a standardised, diversified product. ETFs can enhance price discovery, provide investors with low execution costs to establish a diversified portfolio, and increase bond market liquidity and transparency. ETFs combine characteristics of both stocks and traditional open-end mutual funds. Like a stock, an ETF can be bought and sold on the exchange intraday; like an open-end fund, ETF shares can be created or redeemed during the trading day – although, with the difference that these primary trades are facilitated by a group of institutional firms, known as approved participants (APs) who have entered into an agreement with the ETF’s distributor.
“In several ways, ETF trading is a potential precursor of the future operation of the bond market, exhibiting low cost, transparent, on-exchange trading in a standardised, diversified product.”
FOCAL POINT | 9
Sean Cunningham, Head of Capital Markets for iShares and Index Investing APAC, BlackRock Primary trades do not require securities purchases or sales by the ETF. Instead APs present a basket of securities to the ETF provider in exchange for ETF shares. APs also act as agents for creations and redemptions on behalf of their clients, whether market makers or end-investors. ETF liquidity can be additional to the underlying bond market liquidity because buyers and sellers can offset each other’s transactions without having to trade in the underlying market. Being able to trade fixed income ETFs on a stock exchange, away from the bond market itself, can provide a layer of additional liquidity that is not present in many other financial instruments. The bid-ask spread for one of BlackRock’s High Yield ETFs (which was launched in early 2007 on the eve of the global financial crisis) averages one basis point (bp), compared with 50bp for a basket of US high yield corporate bonds, and 14bp for one of our Euro HY ETFs compared with 85bp for the equivalent basket .
Stress tests Even during periods of market stress, ETF shares are at least as liquid as the underlying portfolio securities. For instance, according to BlackRock and Bloomberg research, more than $1 billion shares (12% of total cash bond trading) of the ETF mentioned above were traded in a single day in June 2013 in the wake of former Fed chairman Ben Bernanke’s taper speech the previous month, yet there was no underlying impact. Furthermore, the shares of the High Yield ETF often traded at premium to the portfolio’s net asset value during the weeks of uncertainty following the Fed’s signal that it intended to reduce its asset purchases. Again, in December 2015, when there was a pronounced risk-off market in high yield, the corresponding BlackRock ETF traded more than $32 billion for the entire month. At the same time, the amount of net redemption for the fund was around $334 million, so the ratio of volume that cleared on
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10 | FOCAL POINT
the exchange away from the underlying market was roughly 20-to-one. In normal times, the ratio is a still impressive nine-to-one.
significant inflows, with a total of $456 billion in assets and the European market is growing at a fast pace with total assets at $146 billion.
In fact, most trading happens on the stock exchange, and the underlying isn’t actually traded in the bond market. Daily trading volumes of this particular ETF regularly amount to $1 billion, whether the bond markets are risk-on or risk-off. Since 2008, liquidity in the fund has grown 371 times versus a 52 times growth in assets.
Asia is the smallest market, with fixed income ETF assets of $9 billion, but the region’s investors are significant buyers of non-Asia ETFs, holding approximately $79 billion of iShares ETFs as of end February 2017, $15.9 billion of which is in fixed income iShares ETFs . Nevertheless, ETFs composed of Asian bonds, whether US-dollar denominated or local currencies, are likely to grow.
Bond ETFs have endured multiple stressed markets including the 2008 financial crisis, European sovereign debt crisis, US Treasury downgrade, taper tantrum, oil sell-off of 2014 and high yield corporate bond sell-off and fund “gating” seen in late 2015. During times of stress, fewer corporate bonds tend to trade over-the counter, while bond ETFs often see increased trading volumes.
“During times of stress, fewer corporate bonds tend to trade over-the counter, while bond ETFs often see increased trading volumes.” Institutions, such as pension funds and insurance companies, throughout the world are using fixed income ETFs to enhance portfolio liquidity amid a decline in overall underlying bond market liquidity. ETFs mean they can gain exposure to an index without the burden and uncertainties of making thousands of individual trades; they are also a convenient vehicle to park cash when a firm is in the process of transferring funds to a new manager. Moreover, optimisation techniques allow the ETF manager to track the benchmark by purchasing representative bonds, thereby minimising dealing costs. Regional variations The North American fixed income ETF market dominates in terms of size and continues to experience
GLOBALTRADING | Q2 • 2017
“Asian institutions’ need for liquidity and quick access to support their sizable fixedincome portfolios could speed up the adoption of bond ETFs in the region.” Currently, ETFs are being used for a wide variety of strategic and tactical applications in the region. The two most common uses, according to a Greenwich Associates paper, “ETFs Take Root in Asian Institutional Portfolios” (2016), are strategic in nature: obtaining core investment exposures and international diversification within portfolios. These strategic uses of ETFs by Asian institutions are being adopted at a much faster pace than they were at a similar stage in North America and Europe. Asian institutions’ need for liquidity and quick access to support their sizable fixed-income portfolios could also speed up the adoption of bond ETFs in the region. According to the Greenwich Associates paper, ETFs make up only about 1.4% of Asian fixed-income assets, and only about a third of Asian institutions employ bond ETFs. If Asian investors follow the example of US
FOCAL POINT | 11
and European institutions, and broaden ETF allocations to include fixed income, it will have a profound impact on the size of ETF holdings in the region. However, there are hurdles that inhibit a faster development of the sector. Despite fast growth in primary issuance in many Asian markets, secondary market trading and liquidity remain sub-optimal and fragmented. Asia ETFs should grow as the regions’ disparate domestic bond markets become more integrated.
of retrocessions favours the distribution of mutual funds, rather than ETFs, to retail investors. The region’s demographic changes and its funding requirements for infrastructure and urban development are likely to lead to more accessible, sophisticated and harmonised bond markets, which in turn should spur the growth of fixed income ETFs.
Regulations also need to be further streamlined to facilitate not only innovative products but also access to ETFs. For instance, in most Asian countries, fixed income ETFs owned by insurers are viewed by regulators as equity rather than bond securities – unlike in the US and Europe. Also, the widespread use
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12 | INSIGHT
Block Trade Routing By Sanjay Awasthi, Director, Central Dealing Desk, Eastspring Investments
Different levels of stock liquidity determine whether the best way to transact a block trade is through an algorithm or by human intermediation. The benefit of transacting in blocks and importance of such trades in achieving optimal price execution is broadly accepted by institutional investors. However, it is necessary to penetrate the surface and explore the intricacies of block trades. The respective roles of technology and human expertise in various situations need scrutiny in order to fully understand how to transact such blocks effectively. Block transactions can be examined from a perspective that distinguishes between different levels of scale and liquidity, with particular relevance in emerging markets. At the outset, it may be appropriate to distinguish between these two distinct categories of tradeable securities, that is, stocks that are widely held by institutional investors and those that are narrowly held by institutional investors.
creators and many grow to become large caps and dominant weightings in benchmark indices. The size of a portfolio is another categorisation that is pertinent when considering how to treat blocks. The individual order amount of a large fund, typically a global or a regional fund could be the equivalent of multiple days of the average daily trading volume (ADTV) of an active, widely-held stock. Often, it might make up a significant portion of the available free-float available in the market or even the total tradeable equity of a particular company.
Stock categorisation Widely-held stocks are generally actively traded. They comprise large- to mid-cap names and often form the core holdings of a diversified portfolio.
“Block transactions can be examined from a perspective that distinguishes between different levels of scale and liquidity, with particular relevance in emerging markets.”
The narrowly held category tend to be illiquid and comprise small- to mid- cap and are typically the alpha picks of country (both domestic and foreign) funds and some regional funds. They are usually the main wealth
Degrees of liquidity Therefore, access to liquidity will determine whether an order can be filled, and the nature of it will ascertain how best this can be achieved. In practice, a trader
GLOBALTRADING | Q2 • 2017
INSIGHT | 13
“The buy-side still requires a network of trusted market relationships established and coordinated by skilled sales traders who can search for a matching interest to trade and close really large blocks.” needs to differentiate between liquidity that is either undiscovered or non-existent which could be in either widely held stocks or in narrowly held stocks. Assessing the nature of the liquidity available for a stock at a particular time guides the trader in the attempt to complete an order. Undiscovered liquidity is available in the system as either an order on another dealer’s pad or expressed as an interest to trade by a market participant. These types of order can be matched and transacted as a block trade: some are more suitable for automation, others require the human touch. Technology-driven block crossing networks such as Liquidnet, POSIT Marketplace and other “indication of interest” (IOI) platforms provide extremely efficient ways for dealers to access available liquidity. Human agency However, human intermediation is also essential to convert an “interest to trade” to the completion of the transaction. The buy-side still requires a network of trusted market relationships established and coordinated by skilled sales traders who can search for a matching interest to trade and close really large blocks. Buy-side traders need to trust sell-side traders to ensure that information leakage is minimised and that their market isn’t spoiled. The sell-side trader should have critical mass, with access to a wide variety of counterparties, as well as discretion.
Sanjay Awasthi, Central Dealing Desk, Eastspring Investments Tapping resources Non-existent liquidity is a salient feature of narrowlyheld stocks and of orders by large funds whose size is much more than the ADTV of a stock and a significant proportion of its free-float or total number of shares. Completing these types of trades is tough, and in practice, they could be characterised as quasi investment banking mandates. Again, human networks, professional skills and personal sensitivity are essential ingredients for achieving a successful transaction. For narrowly-held stocks, there is an additional complication. Many leading brokers do not regularly cover them, so often buy-side firms are forced to approach brokers beyond their usual list to source such liquidity. Success in such transactions is highly dependent on market relationships and demonstrates the true value of a buy-side dealing desk.
Testing the waters can be counter-productive if it disturbs the stock price. Timing can be important and that is where the expertise of a trader is most evident.
Q2 • 2017 | GLOBALTRADING
Nordic Trading Briefing 2017
26 September | Operakällaren | Stockholm FIX Trading Community is returning to Stockholm on Tuesday 26th September for a full day agenda developed by trading experts active in the region. Join 240+ senior industry participants expected to attend for updates on FIX initiatives and how to tackle the challenges facing firms in the coming year. With over 30+ speakers the event is renowned for it's quality education, debate and learning and will also feature a busy exhibit hall and post-event networking drinks making it a must-attend for Nordic market participants. SUPPORTED BY OUR SPONSORS:
REGISTRATION NOW OPEN! FREE passes are available for representatives of Buy-Side firms and Regulators. An allocation of FREE passes is available for all FIX Trading Community Member firms. Additional Member Passes: £175
Sponsorship opportunities still available - contact kelly.harding@fixtrading.org
Non-Member Passes: £350
To view full event information and for details on how to register please visit:
www.fixtradingcommunity.org/nordic2017
INSIGHT | 15
Multi-Asset Platforms For Singular Needs By Edward Sanderson, Vice President, Advanced Execution Services, Credit Suisse Sophisticated trading strategies, a shifting regulatory landscape and rising cost pressures are forcing firms to choose how best to integrate their dealing platforms. Traders typically aim to integrate their platforms across the spectrum, from market monitoring to idea generation, trade execution, analysis and risk measurement. However, although the usual image is of a trader operating with a multi-screen setup, there are limits to what can realistically be monitored simultaneously. Many trading strategies require dealing in multiple asset classes to better reflect their view in the
marketplace, whether the strategy is macro-, quantitative- or arbitrage-based. In addition, screen real estate remains at a premium. These pressures are driving a wider adoption of integrated automated platforms for different asset classes, notably to incorporate simultaneous trading in cash equities and futures. A multi-asset platform can take several forms and indeed will rarely comprise a single solution. As a result of the varying requirements of a number of complex financial products, a multi-asset platform will typically be made up of disparate platforms that have their own specialisations. These become
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16 | INSIGHT
FIX is the predominant protocol for transactional messages between dealing platforms. Ancillary systems frequently use a combination of different methods, such as secure FTP of text files that are used for, among other things, static data and trade position information. Although the traffic flowing through the system is FIX-based, other components are also often used to connect the buy- and sell-sides, that do not speak the FIX language. Moreover, the set of components that comprise platforms frequently include legacy applications, or applications that have been added through acquisition or “tactical” solutions, so the existing structures, and the roadmaps that led to it, are often convoluted, complex and confusing.
Edward Sanderson, Vice President, Advanced Execution Services, Credit Suisse
multi-asset by applying a veneer of technology or human management – and frequently a combination of the two – to enable them to work together. Choosing the right platform Platform selection is a matter of personal choice, and depends on numerous factors. Connectivity, product availability and individual experience are commonly cited as the most influential considerations, with one eye always kept on the overall cost and maintenance of the trading ecosystem. Furthermore, the demands of the platforms are quite different between buy- and sell-side firms. The buy-side normally links to two or more brokers with the aim of using a consistent suite of tools that will connect to the relevant systems within their own infrastructure as quickly as possible. In contrast, the sell-side aims to have one platform that can receive connections from multiple clients and enable the firm to manage cross-asset flow.
GLOBALTRADING | Q2 • 2017
“The varying requirements of a number of complex financial products means that a multiasset platform will typically be made up of disparate platforms that have their own specialisations.” Regulation is also a key issue here. As all market participants increase their focus and resources on new rules and requirements, and as the pace of regulatory development accelerates, buy- and sell-side firms have to make adjustments to previously stable, workable platforms to ensure compliance. In Asia in particular, the number of diverse regulatory jurisdictions across the region can add another dimension to the complexity in the design, implementation and maintenance of an automated system.
INSIGHT | 17
Restraints on automation An alternative path, especially for buy-side firms, and if the costs and complexity are too great, is to emphasise the role of human agency. A lack of staff and capital resources might limit the ability to install new automated systems, while the difficulties of dismantling engrained and often impenetrable legacy systems might make firms unwilling to replace them. In any case, many firms, even those that deploy sophisticated automated trading systems, value the human element to generate ideas, gather market colour and control information leakage.
“A lack of staff and capital resources might limit the ability to install new automated systems, while the difficulties of dismantling engrained and often impenetrable legacy systems might make firms unwilling to replace them.” In addition, trade execution algorithms (“algos”) typically follow a specific set of rules, whereas a human trader has more flexibility to follow more complex and variable instructions. Certainly, algos are moving towards less rigid, formalised functions, but again this might not be to every firm’s taste or budget. Of course, a compromise for some investment managers is to pass over the trade execution process to a broker or sell-side agency desk.
“Platform functionality at its very basic level is quite simple, requiring just product and transactional information - what to buy or sell, how many shares and at what price.” sophisticated systems that adapt better to future regulatory changes and are able to facilitate trades more successfully. There is no common set of requirements or functionality for platforms to aim at. It is likely that if such a standard did exist, it would become outdated faster than it could be maintained because of the pace and scale of changing requirements generated by regulation, products and technology. Platform functionality at its very basic level is quite simple, requiring just product and transactional information - what to buy or sell, how many shares and at what price. However, the shifting landscape means that both buy- and sell-side firms must be flexible and prepared to embrace systems that work best now and that are likely to be sufficiently adaptable to function in the future.
Clearly, the state of the industry is in flux. Market participants have to adjust to a rapidly evolving regulatory environment while digesting and perhaps assimilating new technologies. The danger is that the new, expensive and disruptive systems might be overtaken and made redundant by even more
Q2 • 2017 | GLOBALTRADING
OPINION | 19
Disrupting The Disruptors
By Mark England, Senior Managing Director, Head of Asset Manager Sector Sales, Asia Pacific, State Street The application of digital technology is shaking up the investment management industry, and incumbents need to rethink their business models.
their brand strength and reputations. This could give these organisations a competitive edge over the Fintech start-ups that are entering the market.
Digitalisation is re-defining the product offering and processes of financial institutions. The challengers, who tend not to be tied to legacy technology and unimpeded by excessive regulation, are introducing highly accessible services that remove many of the barriers and costs traditionally associated with investing.
So what do the dominant financial institutions need to do if they are to coexist alongside the digital disruptors?
Established institutions, however, do have some notable advantages over these newcomers, namely
Effectively managing data will be a huge determinant behind any financial institution’s success over the next few years. In a recent State Street Survey, industry leaders stated that they are putting data integration, intelligence and integrity at the core of what they do.
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20 | OPINION
“New data warehousing technology makes it possible to analyse data in near realtime, irrespective of whether it is structured or unstructured, which allows firms to verify the accuracy, integrity and timeliness of any data as it is being produced.” Data integration simplifies the aggregation process Streamlining data management internally at any organisation can be highly effective. At present, numerous companies simply transfer their information into a data warehouse pending analysis, which can be cumbersome as the data needs to be cleansed and converted into a standardised format. The same State Street research found that 52% of digital leaders were building an integrated, omni-channel approach, something which will simplify their operating model. The larger financial institutions tend to host a significant amount of data, and simplifying the aggregation process will be an important factor in them gaining a competitive edge over the Fintech disruptors. Furthermore, new data warehousing technology is making it possible to analyse data in near realtime, irrespective of whether it is structured or unstructured. This can allow firms to verify the accuracy, integrity and timeliness of any data as it is being produced. If there is an issue with data, it can be addressed immediately in this environment. Digital repositories enable investment firms to integrate third-party data, such as external
GLOBALTRADING | Q2 • 2017
Mark England, Senior Managing Director, Head of Asset Manager Sector Sales, Asia Pacific, State Street
benchmark data, with their own. Other unstructured data feeds such as social media posts, video/audio files and email text will eventually be incorporated into the process. Firms will then be able to leverage artificial intelligence to produce quality analysis of their data pools, which will allow them to identify trends or behavioural traits, enabling a superior product or service to be delivered. Data intelligence is more than just a risk management tool Having sophisticated data intelligence can help firms improve their performance and reduce risk. Many firms have bought into this concept, with 63% of digital leaders surveyed for State Street’s report stating that they were fully harnessing data and analytics to improve their decision-making processes. Using industry-leading technology to mitigate risk is supported by investors, with 39% of respondents expecting their investment firms to
OPINION | 21
use the latest technology to provide sophisticated data analytics. Firms have recognised this, and many are deploying data analytics to identify risk and gain a real-time view of how shifting market conditions are impacting portfolios.
“Many investment firms are deploying data analytics to identify risk and gain a realtime view of how shifting market conditions are impacting portfolios.” Data intelligence – or advanced data analytics as it is often known – is not just a risk management tool. It can also be used in predictive analysis for scoping out future investor trends, understanding client needs and finding new ways to benchmark performance. In addition, predictive analysis can be used to better align investment firms’ agendas with client needs. Data intelligence can also be applied to expanding market share in new market segments, or targeting individuals through a highly-customised approach. Advanced data analytics can enable firms to segment their client base more clearly, and this is an approach already being adopted by 63% of digital leaders surveyed by State Street.
investors acknowledged they trusted established wealth service brands more than new entrants. This is a huge advantage, and organisations should leverage that to their advantage. Sixty percent of respondents said reputation, brand and experience would be among the most important qualities investors look for in firms during the next five years. Complacency is not an option There is no denying that digital disruption is coming to the finance industry, and no firm can afford to be complacent. As the research in the State Street report illustrates, some investment firms are already at risk of being left behind.
“Data intelligence can be used in predictive analysis for scoping out future investor trends, understanding client needs and finding new ways to benchmark performance.” However, for those institutions that are bold enough to rethink their business models around digital from the bottom-up, and are always looking to improve their client service, the future looks bright.
For example, many organisations only use net worth to categorise clients whereas predictive analysis can dig deeper into client behaviour, allowing firms to better segment their stakeholders. Established market participants naturally have a brand and reputation advantage over the relative newcomers to the market. This is apparent in the State Street study, which found that 53% of
Q2 • 2017 | GLOBALTRADING
OPINION | 23
Professional Standards Within The Electronic Trading Industry By Jim Northey, Senior Vice President, Strategy and Research, Itiviti
As the speed and complexity of automation rises, market participants have a duty to ensure that they pursue and maintain best practices. Most professions have a set of ethics that guide behaviour - think of the Hippocratic Oath for doctors. In the absence of similar guidelines for our occupations in the hectic world of electronic trading, the Code of Ethics of the Institute of Electrical and Electronic Engineers (IEEE) has served me well since the early 1980s when I first joined the IEEE and the IEEE Computer Society. There is a degree of diligence associated with every profession.
When we examine some of the major recent crimes in our industry, it is clear that there was an enabling technology component and an enabling financial technologist. Would Nick Leeson have been able to take down Barings Bank without the assistance of an IT specialist who hid trades within the error account? Would Bernie Madoff have been able to continue his Ponzi scheme for so many years without the aid of technologists? These are important questions we should ask ourselves. Every day we are faced with choices that separate someone merely putting in the time
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24 | OPINION
“In the areas of automation, operations, and testing are we adopting and promoting best practices or do we do the minimum to keep the business running?” from someone that is committed to a profession. So, we should ask whether we actively promote best practices and standards for automation, operations, and testing, or merely do what is obligatory to meet regulatory requirements. This is especially pertinent now. Electronic trading has grown in speed and complexity since the early days when the FIX timestamp only had a resolution down to the second. The most advanced among us measure time in picoseconds or the equivalent the length of fibre optic cable in millimetres. Yet, there are still firms that are struggling to implement basic time synchronization and will face significant challenges to comply with the Markets in Financial Instruments Directive (MiFID) II in Europe and the Consolidated Audited Trail in the United States. There are several other serious failures of resolution within the industry: • Information Security Professional firms always encrypt their FIX network connections, use two factor authentication to access resources, and maintain access control lists and auditing on sensitive data. However, there is a disturbing laxity regarding protecting data in motion and at rest, and in fact, the CPMI-IOSCO white paper on cyber resiliency singled out the FIX Protocol as having information security issues.
GLOBALTRADING | Q2 • 2017
Jim Northey, Senior Vice President, Strategy and Research, Itiviti
The FIX Community is stepping up by creating a cybersecurity handbook and in defining the FIX session layer, which is a formalisation of the long-standing recommendation to operate FIX over a Transport Level Security (TLS). • Resiliency The best firms implement a business continuity plan that includes failover and hardening of key points of failure. The financial markets were early adopters of fault tolerant architectures, using systems made by Tandem and Stratus, for example. The industry then migrated to high availability architectures, some of which have implemented quite sophisticated and optimized versions of the Byzantine quorum algorithm. Yet, just a few years ago, some alternative
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trading systems and brokers were running on a single platform with no or inconsistent backups and no physical access security. • Operations Best practices in the financial services industry finds one of the major global exchanges using continuous testing so extensively that it can push an update of its platform into production weekly. This is near the top in terms of achieving DevOps nirvana. Some firms have fully integrated monitoring and alerting and a mature issue resolution practice. On the other hand, there are firms that lack full control over their operational environment and have to be informed by their customers
“There are still firms that are struggling to implement basic time synchronization and will face significant challenges to comply with MiFID II in Europe and the Consolidated Audited Trail in the US.” when there is an outage or other failure. • Testing There are now market participants starting to adopt model-based testing that can exhaustively monitor all edge cases of complex systems. The best firms use a combination of virtualisation of both venue and customer interfaces to continuously test their systems. Yet, again, many firms perform minimal testing and only discover the edge cases in the production environment.
“There is a disturbing laxity regarding protecting data in motion and at rest, so that the CPMI-IOSCO white paper on cyber resiliency singled the FIX Protocol out as having information security issues.” FIX Community we found that many firms were unwilling to adopt the party component block to carry the additional party information, even though it is permitted under the FIX standard and would not require them to upgrade their FIX version. Twenty-five years on since the inception of FIX, these firms push to obtain user defined fields so that they can add in relevant party information, instead of adopting standard fields or upgrading to more modern and feature rich versions of FIX. There are still remnants of FIX.4.1 in use in the industry. We could continue elaborating these contrasts – but, you get the point. The question each of us must ask ourselves is whether we are professionals who are responsible for upholding high levels of standards and quality - or are we just time serving? Now I will put in some time and do some introspection, and identify those areas where I am falling short of my ideals and values when it comes to my involvement in the electronic trading profession.
• Supporting Standards While working on the MiFID II response within the
Q2 • 2017 | GLOBALTRADING
26 | PRODUCTS
Market Announcement May 2017
CertiFlyer automates client onboarding and certification FIX Flyer launches CertiFlyer, a solution that reduces the time to certify trading partners over FIX connections.
April 2017
Itiviti introduces certification solution for FIX order flows to ensure timely MiFID II compliance Itiviti launches Itiviti MiFID II Certification Solution, designed to facilitate on-boarding and recertification efforts for FIX protocol order flows, as required by the updated European market regulation.
Views from the City: A European Equity Trading & Technology Report Trading desks believe that changes in complaint handling and trading obligations are the two MiFID II factors set to have the biggest impact on their role, according to a WBR Digital & TradeTech survey, analysed by Ullink. Sinolink Securities goes live with Fidessa Fidessa says that Sinolink Securities (Hong Kong) has implemented Fidessa’s trading platform for its international equities business.
March 2017
Turquoise Plato announces solution to liquidity issues facing small businesses Plato Partnership and Turquoise intend to develop a mechanism that allows users to call a liquidity event for less liquid securities, including small and medium-sized enterprises.
Hundson and Ullink announce strategic capital markets partnership for China Hundsun Technologies enters into an exclusive agreement with Ullink to connect its user community to the NYFIX Marketplace, Ullink’s international trading network.
Bolsa de Comercio de Santiago Selects FIX Flyer For Monitoring and On-boarding FIX Flyer announces that Bolsa de Comercio de Santiago (BCS), Chile’s leading exchange, deployed Flyer’s Daytona Trade Monitor in conjunction with the Exchange’s next generation HT Trading Platform.
Plato Partnership completes deal with Trade Informatics’ PLIA platform The collaboration allows end users to raise their standards and better understand counterparty risk, which in turn strengthens the best execution process in the market.
Nasdaq Signs New Market Technology Deal with Hong Kong Exchanges and Clearing Ltd. Nasdaq forges a new agreement with Hong Kong Exchanges and Clearing Limited to upgrade the technological infrastructure of Hong Kong’s main derivatives market, including trading, clearing and real-time risk management technologies.
Australian Securities Exchange (ASX) and FIX Flyer demonstrate a new paradigm for FIX on-boarding ASX deploys Daytona Trade Monitor software to rapidly conformance test their customers’ FIX Trading and Market data connections on their New Trading Platform.
GLOBALTRADING | Q2 • 2017
BUSINESS STRATEGY | 27
Plato Partnership: Addressing The Challenges For Successful And Cost-Efficient Block Trading By Mike Bellaro and Nej D’Jelal, Co-Chairs, Plato Partnership
As the current trading landscape transforms, it will be critical for the marketplace to deliver continual improvement and provide innovative solutions that address investor concerns. Recent years have brought some of the biggest challenges ever to be faced by the global equity trading marketplace, with the Markets in Financial Instruments Directive (MiFID) II arguably representing the greatest single challenge in a generation. Institutional equity markets are a complex ecosystem and these changes have had a particularly significant impact on the buyside’s experience of trading in size. It was in response to these challenges that Plato Partnership was born more than two years ago. At its core, Plato Partnership (Plato) is about anticipating how trading is going to change, what impact these changes will have on end-investors, and how it can deliver the most successful and cost-efficient solution for the marketplace. There is a notable shift towards block trading, a trend that has taken shape during the past 12 months and will continue to emerge, with volumes increasing markedly as we approach MiFID II implementation.
Working in partnership Since its inception, Plato realised that cooperation across the value chain was essential. Plato has brought together asset managers and broker dealers in order to identify the issues in the market that are having the biggest impact on end-investors. Crucially, not only have we brought together collective views of the market but we have created the vehicle through which real change can be explored and implemented. Today, Plato consists of a wide range of market participants, from the largest firms on both sides of the trade to newer entrants, infrastructure providers and suppliers. In March, it announced 15 new Plato partners, joining the 16 founding members from both the buy- and sell-sides. This breadth and depth of membership ensures we identify the pressing issues and bring creative solutions as quickly as possible. Turquoise Plato for automated block trading It was clear to us, given the performance benefits of block trading and MiFID II’s recognition of these benefits, that one of the strategic priorities was to produce an automated block trading mechanism.
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28 | BUSINESS STRATEGY
“There is a notable shift towards block trading, a trend that has taken shape during the past 12 months and will continue to emerge, with volumes increasing markedly as we approach MiFID II implementation.” impact. The big challenge is to create a marketplace that is efficient and focuses on price impact and posttrade reversion. Mike Bellaro, Co-Chair, Plato Partnership
We recognised in Turquoise an established, automated block trading mechanism in the form of block discovery. Turquoise Plato Block Discovery has matched over €18 billion since its 2014 launch, of which more than €14 billion or 78% has been matched since the September 2016 announcement of Plato Partnership’s cooperation agreement. Every month in 2017 has seen Turquoise Plato Block Discovery register volume highs.
Delivering successful block trading The intention is to increase transparency, reduce trading costs, simplify market structure and support end-investors. We are working with Turquoise to develop a mechanism that allows users to call an event on demand for less liquid securities, including small and medium-sized enterprises (SMEs), a vital driver of growth in the economy. Delivering Turquoise Plato trading innovations for small- and mid-cap SME securities will contribute to a more attractive capital raising environment for growth companies.
These figures showcase the emerging shift towards increased block trading in the years ahead. This growth has in fact not surprised us and underpins the rationale behind Plato Partnership’s cooperation agreement with Turquoise.
Furthermore, Plato has signed a cooperation agreement with LiquidMetrix, a best execution specialist, that will enable us to research, design and implement a stronger methodology for assessing block trade performance. This will allow firms to assess the execution quality achieved by block trading between different block venues and other execution options.
While MiFID II represents one of the biggest challenges the market has faced in decades, and one that will have a profound impact on equity trading, a clear outcome will be a strategic move towards largein-scale block trading. This shift can deliver significant performance benefits for end investors by delivering stronger implementation results and reducing market
A separate cooperation agreement with Trade Informatics PLIA will allow Plato members to raise standards and better understand counterparty risk, in turn strengthening best execution processes. This partnership also has Trade Informatics supporting the work of our MI3 research incubator as part of this collaboration through shared revenue, which will
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BUSINESS STRATEGY | 29
“A key part of the collaborative approach is to offer the forums through which all market participants can come together to discuss the issues that have the biggest impact on their activity.” we then work as a group to deliver the change that will work in practice as quickly as possible. Nej D’Jelal, Co-Chair, Plato Partnership
“The intention is to increase transparency, reduce trading costs, simplify market structure and support end-investors.” ensure additional research can be undertaken by Plato to provide further direction around market structure simplification.
A key part of the collaborative approach is to offer the forums through which all market participants can come together to discuss the issues that have the biggest impact on their activity. The first of these forums is taking place in May with our MiFID II Question Time, where more than 250 people will gather to hear from leading minds in the market and address some of the critical questions being faced by the buy-side as we approach MiFID II implementation. By taking part in Plato our members ensure they have significant influence in shaping our work, which will have a notable impact on the future of equity market structure in Europe. Any organisation interested in becoming part of Plato Partnership can register their interest via the website at www.platopartnership.com
Collaborative research The MI3 research incubator is only now getting started, with its first piece of rigorous research due to be published in June. This is fundamental to our model – we bring together all parts of the marketplace to identify the most pressing problems we face, we commission independent research working with the academic community in order to design solutions, and
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30 | EUROPE
New Era For Fixed Income Trading By Cathy Gibson, Director and UK Head of FI Trading, Deutsche Asset Management
MiFID II is reshaping the bond trading landscape, imposing more transparency and tighter monitoring of the order execution process, but it is also a catalyst for technological innovation that the buyside is keen to apply. New regulatory instructions and guidelines are having a major effect not just on operational models, but on the development and application of new technologies to fixed income trading. The industry probably underestimated the catalytic impact of Markets in Financial Instruments Directive (MiFID) I to equities trading in 2007, but the technological response to MiFID II has been immediate and the potential for major changes recognised. There is a subtle, but important shift in definition of “best execution” contained within the European Union’s MiFID II compared with MiFID I from a commitment to take all reasonable steps to obtain best execution to taking all sufficient steps to obtain to best execution.
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However, in practical terms, it won’t affect the trading processes already being implemented at Deutsche Asset Management. The more significant effects will be on the monitoring, testing and verification of trades, which will create a considerable administrative burden on the buy-side by increasing the amount of documentation it needs to compile and record. Many investment firms are applying the transaction cost analysis (TCA) methodology used for equity trades to their fixed income operations – including Deutsche Asset Management. TCA is not required as proof of best execution under MiFID II, but among other things it is good way of capturing live market data at the point of execution. Ultimately, TCA in fixed income is and will remain below the quality of the equity offering because there is no consolidated type in fixed income. This is a significant information gap for a large sector of the fixed income market. The European Securities and Markets Authority (ESMA) paper, published in April 2017, emphasises
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Cathy Gibson, Director and UK Head of FI Trading, Deutsche Asset Management
that firms should aim to achieve best execution, although it recognises that the intention will not always be attained on every occasion. Instead, we must institute a process that that can reasonably achieve best execution on an on-going basis, rather than obtain the best possible results on every single occasion. The key will be the ability to demonstrate and document the best execution process and show it can be monitored, assessed and rectified should any weakness be identified. In addition, TCA and its variations do not just apply to trade execution: they are applicable along the whole investment process, including pre-trade price discovery, communication with portfolio managers, inventory checks and post-trade settlement and confirmation. However, sometimes the focus is too much on the challenges the legislation imposes rather than the benefits. There will be an increased level of transparency for those bonds deemed to be liquid and increased visibility to our clients on exactly how best execution is achieved and monitored. Also, the
“TCA in fixed income is and will remain below the quality of the equity offering because there is no consolidated type in fixed income.� increased data the regulators will receive will allow them to more closely monitor for market abuse, which is a positive for all market participants. Regulation spurs technological innovation Necessity is a great innovator and the changes in liquidity and market structure that recent and upcoming regulation has created has led to an explosion of Fintech innovation and the provision of an abundance of sophisticated and valuable services and products offered by third-party vendors as well as within buy- and sell-side firms.
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32 | EUROPE
“The problem will not be the lack of data, it will be how to mine and manage the amount of data to get markets intelligence that adds real value to the investment process.”
Deutsche Asset Management, we believe in taking the initiative and help drive innovations and creative solutions to the challenges we face every day. Given that the vast majority of bonds now reside on end clients’ balance sheets and not with market makers it is a necessity to invest our time and resources in this space.
It is essential to keep abreast of Fintech initiatives and what they can offer to enhance the fixed income trading process. The order delivery process is changing across all stages, with real-time information updates and higher quality data. Clearly, there is a trend towards more efficiency and accuracy that will further enhance trade execution for fixed income securities.
These demands sometimes conflict with sell-side interests where balance sheet constraints can take precedence over maintaining consistent, fullyfunctioning markets. It is therefore vital that we partner with our key sell-side counterparties to ensure their limited balance sheet is available.
Some firms, such as Deutsche Asset Management, have already adopted new technology after carefully assessing their potential value. For instance, we now have higher quality pre-trade price and inventory discovery. We utilize open-trading platforms that give us the capacity to act as a price-maker, where we post selective axes and positions, and all participants enjoy access to rich sources of data. We also use matching pools that enable us to trade with other market participations, achieving execution prices inside the bid-offer spread and it allowing us to trade leaving a minimal foot print in the market. Trading in this way has the advantage of directly tapping liquidity, but it means that we must be especially vigilant and transparent about ensuring best execution processes are followed.
We have a constant dialogue with sell-side counterparties and Fintech companies, sharing concerns but also expressing our different motivations and objectives. Most especially, the buy-side wants ample liquidity, competitive pricing and non-volatile markets.
“A consolidated tape, recording transactions and their timings from all the myriad venues would be ideal.” There has been a behaviour change in the market, one that evolves working more closely and transparently to achieve an outcome that is ultimately in our client’s best interest.
Buy-side takes the initiative Buy-side bond traders are becoming ever more proactive about what they actually need from vendors and sell-side technology.
The best platforms have fast, efficient search engines that contain high quality, timely data. These venues are especially suitable for illiquid bonds, and enable traders to reduce the time previously spent scouring the marketplace and also minimise the risk of triggering adverse price movements.
They regularly advocate their interests and communicate their requirements at conferences and through formal channels, for example to ESMA via the International Securities Market Association. At
These are advantageous to all participants, allowing the sell-side to reduce their inventory and free up their balance sheet while allowing us to source the paper we need.
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More can be done to make electronic trading more efficient and accurate. A consolidated tape, recording transactions and their timings from all the myriad venues would be ideal. However, at the moment we don’t have solution to the creation of a European consolidated type, so this is definitely a space ready for innovation. Nevertheless, as much as 60% of trading in liquid, developed market rates and cash bonds is already conducted at electronic venues, on platforms such as MarketAxess (US dollars), Tradeweb (Euros) and Bloomberg. Dealers need to justify their choice of venues, which typically charge licensing fees or on a trade-by-trade basis. There will be increased onus on the buy-side to justify their choice of trading venue where there is direct or indirect fee charged on a trade-by-trade basis, as this will be part of the best execution decision. Electronification is an important and evolving trend, but in some spaces, such as off- the-run credit default swaps and less liquid bonds, such as high yield and emerging markets, they continue to trade in the traditional fashion - by voice. The new trading desk tasks The buy-side trader’s role has changed significantly during recent years, and it is continuing to evolve. The trader needs to have the ability to follow and interpret a plethora of regulations, as well as assimilate and exploit the rapid improvement in data volume with sophisticated analysis.
managers in a meaningful way, which add a further layer of responsibility and expertise to the duties and skills of the trader.
“The key will be the ability to demonstrate and document the best execution process and show it can be monitored, assessed and rectified should any weakness be identified.” In the new post-MiFID II world the problem will not be the lack of data, it will be how to mine and manage the amount of data to get markets intelligence that adds real value to the investment process. Although fixed income trading is becoming more scientific – or at least increasingly dependent on technology – there is still a strong need for individual expertise and intuition based on experience and strong relationships. The art of trading is not dead. The rise of the quants and the application of more automation, especially for data collation, analysis and interpretation supplements rather than replaces human agency.
Quant expertise is being recruited to work as or with dealers, and their importance will grow. Moreover, the fruits of the analyses must be shared with portfolio
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34 | AMERICAS
Automating The Trade Process By Curt Engler, Head of Equities Trading, The Americas, JP Morgan Asset Management
Systemisation should be a gradual process with each stage of implementation tested for weakness until it becomes a solid foundation for further development. New technologies have already had a profound impact on equity trading operations. Automation is wellembedded throughout the trade process and now systemisation is becoming more sophisticated, as trading desks leverage their quantitative skills and data analytics to further enhance order execution, strategy implementation and risk management. However, the introduction of technology is neither indiscriminate nor hasty. Instead, a successful adoption of automated systems requires a deliberate and incremental approach. In practice, that means starting with the less glamorous stages in the trading cycle before moving to more complex applications.
with our execution management system, then placing and monitoring small orders before extending usage more widely, we created a more streamlined and efficient process that lay the foundation for building automated trading strategies. Again, these were introduced gradually. The intention was to extract biases that human traders are susceptible to, while also weighing the benefits – lower costs, greater trade execution efficiency - against the risks of automation – reduced flexibility. We first made trial order placements in both lit and dark venues, and then gradually increased the trade sizes once we were sure the process functioned smoothly and the results were successful.
At all levels, the technology is first used experimentally, tested and, if suitable, is then applied more extensively while constantly monitored and checked for any deficiencies.
Now, between 70% and 80% of the notional amount of our trades is electronic and crossed in the market using sophisticated algorithms. The system accommodates a wide range of individual order size for portfolio managers with a variety of investment styles, such as momentum and reversal.
Incremental approach The trading desk at JP Morgan Asset Management receives up to 8,000 orders a day from its portfolio managers, so automating the workflow was an early priority. By synchronising our order management system
Broker selection is also systematised based on performance metrics for stock category and market conditions, and on their ability to facilitate orders within a particular investment style and increasingly complex trading strategies.
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“At all levels, the technology is first used experimentally, tested and, if suitable, is then applied more extensively while constantly monitored and checked for any deficiencies.”
Curt Engler, Head of Equities Trading, The Americas, JP Morgan Asset Management Although there are regional nuances, the structure has been adopted throughout our global operations. It is also being replicated for different asset classes, such as derivatives. Importance of quant skills In order to achieve this high degree of automation, trading desks have forged a much tighter, day-to-day working relationship with technology specialists than ever before. Indeed, it would not have been possible without a considerable investment in qualified staff specialised in quantitative research and trading analytics. Their expertise is critical throughout the trading cycle. They collect, disentangle and interpret data from a multitude of internal and external sources. For instance, they can identify tiers of liquidity for individual stocks at specific times and at particular trading venues in order to optimise trading strategies and fulfil our responsibility to achieve best execution - measured by transaction cost analysis.
We’ve also introduced predictive analysis, based on data mining and statistical modelling, into our trading structure, and developed visualisation tools to increase our understanding of possible scenarios that follow a trade decision. New roles Of course, there will always be an important role for human agency within the trading process, especially to manage trades during unusual circumstances or for unorthodox transactions. However, humans are clicking the trade execution button less and less, and the trend will continue. Machines are becoming more adept at completing even the most complex orders, ranging from crossing large blocks to finding a buyer for an illiquid odd-lot. On the other hand, dealing desks will still hire staff – but they are more likely to have quantitative skills than streetwise agility. At JP Morgan Asset Management, we will continue to leverage on the automation and systemisation that is already in place and has been rigorously tested and proven. More orders will be incorporated into the systemised process, which will be continually assessed for its performance and risk controls. Automation needs to be disciplined, but not rigid. Markets can be volatile and so the systems also need to be nimble and flexible.
For example, data can indicate disruptive or even manipulated market behaviour in an alternative trading system, which might be a signal to avoid trying to fill an order at that venue.
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36 | AMERICAS
Buy-Side Trade Surveillance: Drivers, Challenges and Implications
By Michael O’Brien, Vice President, Head of Product Management, Global Risk & Surveillance, Nasdaq Regulatory developments are continuing to play a major role in the buy-side’s adoption of trade surveillance technology, according to a recent survey. There is no doubt that there has been a shift within buy-side firms globally over recent years – buy-side institutions are increasingly relying on direct execution for trades and less on their sell-side counterparts. In fact, in Nasdaq’s 2016 Global Compliance Survey, 52% of buy-side firms cited that they are relying less on sell-side institutions for trade execution. However, with increased direct execution, and thus increased trading volumes, from buy-side firms comes additional focus from global regulators and new requirements from regulations, such as MiFID II and MAR. While traditionally, buy-side firms have relied on their sell-side counterparts to ensure regulatory compliance, they are now faced with the need to demonstrate that their own systematic surveillance processes and controls are in place. In a recent buy-side analysis, Nasdaq and Aite Group set out to determine the current state of trade surveillance adoption on the buy-side – further investigating its specific drivers, challenges and implications.
GLOBALTRADING | Q2 • 2017
Based on study participants’ responses, it was evident that regulatory drivers have and will continue to play a significant role in the adoption of trade surveillance technology on the buy-side. For global buy-side firms, there is a need to focus on both global regulations as well as local regulations in regions where they invest. Further affirming this, in Nasdaq’s 2016 Global Compliance Survey 64% of buy-side firms noted that they were concerned with global regulation and how it would impact their firms. MiFID II and MAR were the two most notable regulations of concern. Managing reputational risk Increased regulatory focus on the buy-side is forcing these firms to take a closer look at how they are currently managing their monitoring processes and whether these processes need to be adapted to effectively manage reputational risk and avoid costly fines. Almost all participants in the study stressed that they believed that upholding and protecting the reputation of their respective firms is the most important compliance function. This was also reiterated in Nasdaq’s Global Compliance Survey, with 64% of respondents noting that this was the most important role of the compliance team.
AMERICAS | 37
adoption. While there are several reasons for this, some of the key findings uncovered in the study implied that a major challenge in implementing trade surveillance measures on the buy-side is the inability to effectively consolidate disparate data sources, including trading activity, and electronic and audio communications, among others.
“As a result of regulatory pressure and the importance of effectively managing reputational risk, buy-side firms are showing more concern over specific types of manipulation.” Michael O’Brien, Vice President, Head of Product Management, Global Risk & Surveillance, Nasdaq Furthermore, some buy-side firms do not currently have the appropriate technology framework to support trade surveillance requirements. As a result of regulatory pressure and the importance of effectively managing reputational risk, buy-side firms are showing more concern over specific types of manipulation – most significantly, insider trading. With several public cases and fines in recent years, buy-side firms are well-aware of the potential reputational risk that insider trading poses, even when inadvertently. Study participants overwhelmingly noted insider trading as their foremost compliance concern. While insider trading is the main concern for buy-side compliance teams, buy-side firms face a number of other potential market abuse scenarios and sophisticated manipulation techniques that can pose significant reputational and financial risk to their firms, such as front-running from sell side counterparts, speed manipulation, layering and spoofing.
Despite the challenges, global and regional regulations continue to place additional pressure on buy-side firms to implement systematic trade surveillance and monitoring processes – further driving the shift from a traditionally reactive compliance culture, to a more proactive and even soon-to-be predictive compliance culture. Buy-side firms must adapt in order to remain compliant and protect their organisations from potential reputational risk. For additional information, contact MarketTech@ nasdaq.com for the full report.
Obstacles to implementation While there are clearly compelling drivers for trade surveillance implementation on the buy-side, numerous firms remain in the beginning phases of
Q2 • 2017 | GLOBALTRADING
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Artificial Intelligence:
The Core Of A New Generation Of Agency Algorithms By Eugene Kanevsky, Global Head of Electronic Trading, CLSA
AI technology is an indispensable tool for traders to gain an edge in the algorithm arms race, predicting future trends, volume, volatility and price and allowing agency algorithms to optimise execution. The concept of artificial intelligence (AI) conjures up visions of a future world yet AI already influences us in our daily lives and has done for some time. From simple things such as suggesting friends on Facebook or proposing our next Amazon purchase to
delivering news of interest direct to our phones and even through the apps that guide us by analysing real-time traffic conditions to suggest faster routes. The financial markets are also changing and algorithmic trading, previously seen as the leading edge technology, is now seen as static or even outdated unless it is augmented with AI technology. At CLSA we have launched the next generation of algorithms based on our proprietary AI machine
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40 | ASIA
“Algorithmic trading, previously seen as the leading edge technology, is now seen as static or even outdated unless it is augmented with AI technology.” Eugene Kanevsky, Global Head of Electronic Trading, CLSA learning framework, called “ADAPTIVE”, reflecting the ability to continually adapt in real time to the market. How is AI used in the next generation of algorithms? Recently we have heard a lot about the use of AI, predominantly with regard to stock classification initiatives. In effect, historic stock trading patterns have been analysed and classified into similar groups using machine learning techniques. These groupings then assist traders in selecting more appropriate trading strategies. AI models essentially redefine and expand upon the traditional groupings traders understood and used daily, such as large- or small-cap, liquid or illiquid and wide or narrow spreads. These models based upon stock classification are developed and continually refined to reflect trading pattern changes. The objective of AI stock classification is to optimise algorithm selection for stocks, and while the development offers some benefits, it does not address the fundamentals of the algorithms used to trade in the market. At CLSA, we wanted to know: “how will the stock trade next?” We knew that by answering this question correctly and regularly with a high degree of certainty would provide far more value to our clients’ execution.
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We base the CLSA’s ADAPTIVE platform upon a proprietary neural network. Neural networks are loosely inspired by neuroscience and the most effective machine learning method known today. This trained neural network generates real-time signals projecting what is going to happen next in the market enabling the ADAPTIVE algorithm strategies to adjust execution plans as they trade, rather than rely on static predefined scenarios. Our neural network is currently trained to predict short-term and long-term price movements, volatility and trading volume, but this is just the beginning in a process of continual development. Why is AI more essential than ever? In recent years, we’ve seen a growing number of non-traditional market participants exerting their influence on the Asian trading landscape, in some markets reportedly accounting for half if not more of the total traded volume. Much of this liquidity is automatically created by various types of quant algorithms. Algorithm strategies need to be smart enough for this new world and that’s where the implementation of effective AI proves invaluable. Algorithm trading has always been an arms race. For many years that arms race was largely limited to brokers with their algorithm quant and development teams releasing the next iteration of their latest, greatest and smartest enhancement to their suites of strategies, be that quarterly or annually.
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However, equipped with nimble, shorter release cycles and increasing utilisation of AI technology for prediction, it’s not hard to understand why short-term horizon non-traditional trading houses have found short-term profitable opportunities in many Asian markets at the expense of long-term investors.
“It’s no longer just about how the stock traded yesterday, it’s answering the question: how will the stock trade next?” In response, brokers have grown the number of quants and technologists in their algorithmic development teams in an attempt to shorten release cycles and keep up with the trading landscape changing at an ever increasing rate. The man-power versus automation scenario has played out in many industries, but it’s always more striking when it’s in your own area of expertise. Now, with the benefit of hindsight, observing ADAPTIVE do its work, taking just minutes to detect new patterns, multiple times during the trading day and at different price levels, the futility of more people working harder against smarter technology becomes apparent. CLSA’s ADAPTIVE short term price prediction signals achieve an accuracy of over 95% in volatile securities. We have implemented this AI technology in our agency algorithms to provide clients direct access to this impressive technology. Earlier I mentioned the challenges of competing with non-traditional market participants such as HFT and other short horizon strategies. While identifying short-term price displacements is an important element when improving execution, the ADAPTIVE framework also predicts future trends, volume, volatility and price, allowing the agency algorithms to optimise execution for the more traditional agency trading benchmarks, such as VWAP, IS, Inline or Close. Results have been impressive, and we see a win-ratio when compared with traditional algorithms in excess of 80%.
Is best execution really all about the smarter machine? One of the common misconceptions is that this new generation of agency algorithms with embedded AI are black boxes, and the sales traders’ role will be merely to enter the client order and then let the technology do its work. We do not agree. AI algorithms are there as an empowering tool for the sales trader and dealer to use within the overall trading plan.
“Equipped with nimble, shorter release cycles and increasing utilisation of AI technology for prediction, it’s not hard to understand why short-term horizon non-traditional trading houses have found profitable opportunities in many Asian markets at the expense of longterm investors.” Buy-side traders, with their knowledge of the investment objective and fundamentals, are essential in mapping out the appropriate trading strategy. The sell-side trader brings detailed knowledge of the market and current sentiment: AI algorithms provide an edge in the marketplace. CLSA’s interpretation of best execution is the sum of all the parts. We continue to believe in local market knowledge, the value of sourcing block liquidity and the importance of delivering timely and relevant information to our clients. Leading the way in market execution technology in Asia is a critical component.
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42 | FIX
Simple Binary Becomes A FIX Standard By Don Mendelson, Owner, Silver Flash LLC and Technical Architect, FIX Trading Community SBE has led to both a technical and an organizational revolution for FIX and is increasingly being adopted throughout the financial industry.
by the unnecessary translation between character and binary data.
For over two decades, FIX Protocol has been encoded on the wire in more-or-less humanly readable formats. The original FIX format, called tag=value encoding, is still the world-wide standard in trading messages. It was followed several years later by FIXML, which predominates in clearing. That was the state-ofthe-art until it crashed into a contradiction of high performance trading.
Several venues created proprietary message formats to solve the problem. But the FIX Trading Community is in the standards business. It would be to any trading firm’s advantage to have a FIX standard for binary messages rather than having to invest in supporting numerous proprietary formats. Therefore, the FIX organization launched a project to create such a standard. It was ultimately named Simple Binary Encoding (SBE).
Very simply, computers cannot operate directly on humanly readable character data. Rather, they calculate using binary numbers and data structures. Something had to change to avoid latency introduced
SBE is a FIX standard—any existing FIX message can be encoded with it and gain some benefit of low latency processing. At the same time, it conveys the same business semantics that people are familiar
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with. The huge knowledge base that firms have of FIX messages and fields still applies. Software developers need to learn the details of the encoding, but business leaders can still rely on what they already know about applications. Breaking down barriers to participation The SBE effort led not only to a technical revolution for FIX, but also an organizational one. Although the FIX Trading Community has broad membership in the financial industry, it was seen by some technologists as a closed system. Many small trading firms and vendors do not have the resources to participate in a standards organization, but they can benefit from transparency and a way of making their voices heard. Therefore, the FIX Global Technical Committee (GTC) made a conscious decision to break down barriers to participation in technical standards development.
“It would be to any trading firm’s advantage to have a FIX standard for binary messages rather than having to invest in supporting numerous proprietary formats.” One decision was to make FIX technical standards projects open to the public in GitHub, the one-stop shop for open-source code. Projects are created there for new standards and for demonstration code to get developers started. Any software developer can obtain their own user ID from GitHub for free. They do not need to be members of FIX Trading Community, nor does the FIX organization need to grant them rights to see the projects. That is as transparent as you can get. Not only that, but anyone can enter issues in the GitHub issue tracker to make corrections or request enhancements. They can even propose changes to standards or contribute new features in code, through what is called a pull request in GitHub. Another aspect of opening standards is publishing them with clear legal rights to copyrighted material.
Don Mendelson, Owner, Silver Flash LLC and Technical Architect, FIX Trading Community
FIX technical standards are published with Creative Commons Attribution-NoDerivatives 4.0 International License.
“Many small trading firms and vendors do not have the resources to participate in a standards organization, but they can benefit from transparency and a way of making their voices heard.” To summarize, the license says that anyone can republish the material so long as it is attributed to FIX Trading Community and the standard is not altered. (An altered standard is not a standard.) FIX demonstration code is open-sourced under the liberal Apache License, Version 2.0. It grants rights to
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developers to use and alter the code as they see fit, so long as they attribute it to the original author. Development process Each new FIX technical standard is developed by a working group that is formed by the GTC. Some of the groups, such as the High Performance Working Group, have a number of standards under their wing, so they are divided into subgroups. There is a subgroup for Simple Binary Encoding, as well as several other message encodings and session-layer standards under development. Each working group is supplemented by anyone in the world who wants to participate through GitHub.
“FIX Global Technical Committee chose to break down barriers to participation in technical standards development by making FIX technical standards projects open to the public in GitHub, the one-stop shop for open-source code.” Another important decision was establishing a documented process for developing and approving FIX technical standards. The process follows the proven industry trend of agile project development. Its most important principle is iterative development. It is impossible to foresee every impact or realize every requirement at the beginning of a project. Rather, new information and requirements are discovered by doing. In the FIX process, a milestone is reached by publishing a release candidate, an interim draft of a standard. Each release candidate either adds features or refines the work of earlier iterations. In the case of SBE, it went through four such iterations before reaching final form. Each release candidate is published on a FIX web site as well as in GitHub for a period of public review.
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Typically, the public review period for a release candidate is 90 days. User comments may be entered either in a forum on a FIX site or in GitHub. They are taken as input to be considered for a possible next iteration. Criteria to become a standard When a working group is satisfied with its product, then it recommends promotion to draft standard. There are two requirements that a draft standard must meet to be accepted. First, the public review period for a draft standard is extended to at least six months to make sure that all voices have been heard. Second, there must be at least two interoperable implementations of the proposed standard.
“A group that created the bestknown SBE implementation claims that it can encode or decode messages about 20 times faster than a well-known message encoding put out by one of the information industry giants.” When these requirements are met, the working group recommends promotion to final technical standard. The GTC must approve. After that, the standard is immutable. However, if there is interest, subsequent versions of the standard may be initiated. In the case of SBE version 1.0, it reached the goal of technical standard in February 2017. It met the requirements for an extended public review, but also multiple implementations were created by different authors. To prove interoperability, the GTC sponsored development of a conformance test suite. Like the SBE specification, the conformance project is opensource and resides in GitHub. Any implementer can run the test on their own SBE project while it is under development. And then they can announce
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conformance when work is completed if they want to share it with the world. SBE has been implemented in C++, Java, Golang and Python programming languages. Due to its success, other implementations are likely to follow. It has proven its worth. A group that created the bestknown SBE implementation claims that it can encode or decode messages about 20 times faster than a well-known message encoding put out by one of the information industry giants.
API formats, and a growing number of financial industry users employ it. It has even gained interest outside the financial industry due to its performance advantages. SBE version 1.0 was the first FIX technical specification to reach final approval under the process. Work has already commenced to explore a possibly enhanced version 2.0.
One of the early adopters was CME Group. It uses SBE for market data and internal messaging. Moscow Exchange is using SBE for derivatives messaging. Thomson Reuters has made SBE one of its supported
Other Happenings In The World Of FIX By Courtney Doyle McGuinn, Operations Director, FIX Trading Community Now that Quarter 1 is ticked off the calendar, of course the countdown continues in earnest to January 2018 and the go-live date for MiFID II compliance. The FIX MiFID working groups continue to meet regularly and most recently FIX Extension Pack 228 was published to extend the FIX Protocol to meet the requirements of MiFID II and MiFIR and covers a second set of critical data requirements identified by the subworking groups on transparency, and order data and recordkeeping.
Courtney Doyle McGuinn, Operations Director, FIX Trading Community and the development of FIX over TLS Standard which involves extending FIX to meet cybersecurity requirements.
That brings FIX to four extension packs that are available for firms to download and implement as part of their work on MiFID II: EP206 (clock synchronization), EP216 (post-trade flagging obligations) and EP222 (critical data requirements identified by the sub-working groups on transparency, and order data and recordkeeping).
Additionally, there is a strong push underway for adoption of FIX for post-trade and there will be a new page on the site to showcase those firms that have implemented FIX in this space to date, so if you wish to be added to the list please contact the FIX Program Office.
A few other things to highlight: work on the cybersecurity front continues with the further development of the FIX Cybersecurity Best Practices
Finally, please be on the lookout for the launch of the new FIX website, which will be revealed by the summer!
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46 | FIX TRADING COMMUNITY MEMBERS
FIX Trading Community Members *Premier Global Members marked in bold
360T Asia Pacific 42 Consulting Pte Ltd Actuare AFME- Association for Financial Markets in Europe Albourne Partners Ltd Algomi AllianceBernstein American Century Investments Ancoa Software Aquis Exchange ASIC Association of International Wealth Management of India Australian Securities Exchange AXA Investments Managers Ltd B2BITS EPAM Systems Company Baillie Gifford & Co. Banca IMI SpA Banco BTG Pactual S.A. Banco Itau S.A Bank of America Merrill Lynch Bank of Ireland Barclays Baring Asset Management BATS CHI-X Europe Baymarkets AB Beijing RootNet Technology Co., Ltd. BlackRock, Inc. Blitz Trading Bloomberg L.P. Bloomberg Tradebook Blue Bay Asset Managers BM&F BOVESPA BNP Paribas Bolsa de Valores de Colombia Bolsas y Mercados Españoles (BME) Brandes Investment Partners LP Bridline Brook Path Partners, Inc. BSE Limited BT BVI Cameron Edge Cantor Fitzgerald Capital Group Companies, Inc. Cedar Rock Capital Charles River Development Chicago Board Options Exchange Chi-X Global Inc CIMB Securities Cinnober Financial Technology AB Citi CL&B Capital Management
Clearing Corporation of India Ltd CME Group Colonial First State Global Asset Management Colt Technology Services Compagnie Financiere Tradition Connamara Systems LLC Convergex Corvil CQG Credit Suisse Crown Jewels Consultants Ltd Daiwa SB Investments Daiwa Securities Group Inc. DATAROAD DataArt Dealogic Delta Capita Deutsche Bank Deutsche Boerse Group Devexperts Digital Realty (UK) Limited Dimensional Fund Advisors Drebbel DTCC DXC Technology Eastspring Investments (Singapore) Limited EBS BrokerTec EDMA Europe Egypt For Information Dissemination Emagine Consulting Equinix Esprow Pte. Ltd. ETLogic Ltd Etrading Software Ltd EuroCCP Euronext Paris SA EuroTLX Exactpro Systems Exane BNP Paribas Eze Software Group EZX Inc. Federated Investors FIA (Futures Industry Association) Fidelity Management & Research Co Fidelity Worldwide Investment Fidessa Group First Boston Group FISD Fiserv FIS formerly SunGard FIX4WARDS FIX Flyer LLC FIXNETIX FIXSOL Flextrade UK Ltd FpML Franklin Templeton Investments FXCM Global Services LLC Gamma Three Trading, LLC
Premier Global Members
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GATElab GETCO Asia Goldman Sachs & Co. GreySpark Guosen Securities Ltd Haitong International Securities Hatstand Higher Frequency Trading HM Publishing Hong Kong Exchanges & Clearing Limited HSBC Bank PLC HSBC Global Asset Management ICMA (International Capital Markets Association) ICE Data Services IG Group Holdings PLC Ignis Asset Management Incisus Capital Partners Indata Recon LLC Indian Association of Alternative Investment Funds Informagi AB Infront AS ING Bank Instinet InstrumentiX Integral Development Corp. Intercontinental Exchange (ICE) International Securities Exchange (ISE) Investment Technology Group (ITG) Ipreo IPC Systems IRESS Limited IS Investment ISITC ISO Itiviti Jefferies J.P. Morgan Jordan & Jordan JP Morgan Investment Management (J.P. Morgan) JSE Limited KB Tech KCG Holdings Kotak Securities LCH Linedata Liquidnet LiquidMetrix LIST Group Lloyds Banking Group LMAX LSE Group M&G MACD Macquarie Securities Limited MAE - Mercado Abierto Electronico S.A. MarketAxess Markit
FIX TRADING COMMUNITY MEMBERS | 47
Marshall Wace Asset Management Mawer Investment Management MDSL Metamako MFS Investment Management Mizuho Securities Morgan Stanley Investment Management Morgan Stanley MTS SpA Nasdaq National Physical Laboratory Newton Investments NICE Actimize Nikko Asset Management Nomura Asset Management Nomura Nordic Growth Market (NGM) Norges Bank Investment Management OCBC Securities Private Ltd. OMERS OMG (Object Management Group) On Budget and Time Ltd Ontario Teachers’ Pension Plan Board Onix Solutions [OnixS] Options Clearing Corporation Orbis Investment Management Limited Oslo Bors ASA OTC Exchange Pantor Engineering AB Peresys (IRESS) PFSoft Pioneer Investments Portware Primary E Trading Principal Global Investors Putnam Investments QuantHouse Quendon Consulting R3CEV R Shriver Associates Rabobank International Rapid Addition Raptor Trading Systems, Inc. RBC Global Asset Management Research Exchange Royal Bank of Canada Capital Markets S&P Capital IQ Real-Time Solutions Santander Global Banking & Markets SASLA (South African Securities Lending Association) Schroders Sequant Shanghai Stock Exchange SimCorp Singapore Exchange SIX Swiss Exchange Skandinaviska Enskilda Banken AB Sloane Robinson smartTradeTechnologies Societe Generale
Softsolutions! Srl Southeastern Asset Mgmt Spectracom Spring Securities International AB SS&C Technologies Standard Chartered Bank Standard Life Investments State Street eExchange Solutions State Street Global Advisors State Street Technology Zhejiang Sumitomo Mitsui Trust Bank Swedbank Robur Fonder AB SWIFT Sycamore Financial Technology Symphony Communication Services LLC Systemware Innovation Corporation (SWI) Taiwan Stock Exchange Tata Consultancy Services Technistock Telstra Global The Continuum Partners The Investment Association The London Metal Exchange The Nigerian Stock Exchange The Realization Group The Technancial Company The Vanguard Group Thomson Reuters Tokyo Stock Exchange Tora Trading Services Tower Research Capital India PVT Ltd TP ICAP TradeHeader, S.L. Tradeweb Trading Technologies TradingScreen Traiana (ICAP) Transaction Network Services, Inc. Transatron Systems Trax Turquoise TWIST UBS Investment Bank ULLINK UniCredit Vela Trading Technologies Velocimetrics Verne Global VOEB Volante Technologies Warsaw Stock Exchange Wellington Management Company Wholesale Markets Brokers’ Association Winterflood Securities XBRL Xetra (Deutsche Börse) Zeopard Consulting
New Member FIX Trading Community wishes to welcome the following companies to its growing worldwide membership. For more information, please visit: www.fixtradingcommunity.org
Banco BTG Pactual S.A www.btgpactual.com
Blitz Trading
www.blitz-trading.in
Blue Bay Asset Managers www.bluebay.com
DataArt
www.dataart.com
Federated Investors
www.federatedinvestors.com
InstrumentiX
www.instrumentix.co.uk
Haitong International Securities www.htisec.com
Higher Frequency Trading http://chronicle.software
Newton Investments www.newton.co.uk
OTC Exchange www.otcxn.com
Rapid Addition
www.rapidaddition.com
Research Exchange
www.rsrchxchange.com
Technistock
www.technistock.com
Velocimetrics
www.velocimetrics.com
Premier Global Members
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48 | LAST WORD
My City
Hong Kong By Sean Cunningham, Head of iShares Capital Markets for APAC, BlackRock
Best thing about your city? Convenience – everything in Hong Kong is practically on your doorstep. Worst thing about your city? The flight back to my home country South Africa is not very convenient – I travel back fairly often and the jet lag is a killer. Getting to work? Red cab. I tried walking into work the first day I arrived in Hong Kong. Given the humidity, I have taken a cab every day since.
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View from your desk? I look onto the mountain over MidLevels – the greenery in Hong Kong astounds me. I couldn’t imagine a better “city” view in finance. Where to take your clients/brokers for dinner? The Chinnery – although I have been countless times it has never disappointed. It’s pretty old school and the service is impeccable. And a relaxed spot with friends and family?
Djibouti – it’s a very chilled bar in Wan Chai, off the beaten track and very low key. Best place to stay when in town? Mandarin Oriental – it was the first hotel I stayed in when I came to Hong Kong to do my “look-see”, before relocating with the firm. Even now I get a sense of nostalgia when I walk through the hotel. Best tourist spot? Sevva – every time we have visitors it is an absolute must to take them to the Sevva rooftop bar. On a crisp day the view is spectacular.