September 27, 2013

Nearly one third of buy-side firms are considering making a change in their trading systems, according to a study on trading technology by Greenwich Associates.

In a webinar yesterday, the Stamford, Conn.- based research firm presented the findings of its Trading Technology Optimization Study based on nearly 500 respondents representing equities, fixed income and FX markets.

Fixed-income desks are increasing their budgets more than other asset classes, which is not a surprise given how derivatives reforms are changing the market-structure in swaps and cash markets, said Kevin McPartland, head of market structure technology and research at Greenwich Associates.

About a third of buy-side firms are expanding their technology budgets, and in fixed income they are increasing their budgets by an average of 23 percent, according to the study.

“The market is in such upheaval that nearly half of fixed income desks are looking for a new trading option,” said McPartland during the webinar.

Amid the market changes, buy side firms are thinking about connectivity to swap execution facilities (SEFs ) and central clearing counterparties(CCPs) and new sources of data, some that already exist and others that will come into existence. In addition to new sets of analytics — pre and post-trade optimization — new trading strategies will emerge in fixed income “that used to be done as a package with one phone call,” said McPartland. Some trades will need to be split up between the phone and screen, he said, adding, technology is needed to manage that process, he said. Also, buy side firms have increased the number of broker relationships by 30 percent over the past few years, so they need systems to manage their liquidity providers.

Multi-Asset Trading A shift toward multi-asset trading is driving some of the technology decisions. Seventy percent of buy-side respondents said they are trading multiple asset classes on their desks. That is expanding as well, said McPartand, Many people are looking to combine equities, fixed income and foreign exchange together and put it all one on desk, he said.

Combining these assets is a matter of necessity because finding alpha in those markets has been harder due to volatility, high correlation between the asset classes in the last two years, said McPartland. For example, credit default swap (CDS) indices have become highly correlated with equities in the last two years, leading CDS traders to look to equities to hedge or gain leverage on a CDS position, and conversely, equity traders may want to use CDS.

The Great OMS/EMS Debate Despite the strong demand for a combined order management and execution management (OEMS) system, only 26 percent of buy-side traders said they have combined system. Why is this the case? McPartland said it’s possible that some traders and IT folks are comfortable with the way things work and want the world to remain the same. Or, it’s possible they are not aware of the options, though many vendors claim to offer combined OEMS platforms. Some traders may want a targeted interface to trade a particular asset class, such as options.

Even so, one-third of respondents said they are considering a change in their trading systems. Smaller funds with assets under $10 billion t in fixed income desks are among those seeking to replacements. While the competition will be tough on the vendors, McPartland said that users would have an opportunity to obtain the most innovative features.

In fixed income, buy-side traders will need to look across all verticals within fixed income, "so not only cash products, but futures, ETFs and swaps as those markets are going to be become more entwined,” he added. As for vendors, winners in the fixed income space will have to offer connectivity, pre-and post-trade credit checks, execution optimization technology and a host of other items.

Meanwhile, 79% of buy side traders said their EMS is hosted or cloud system, which is the trend. The trend on buy-side desks is away from buy side firms using multiple EMSs. The broad average is two systems; one is the primary and the second is the backup. “There’s no need to use more than two, when talking about access to exchanges, multiple liquidity venues or multiple dark pools, or multiple broker algorithms said McPartland.

Those considering replacements are 90 percent past the EMS consolidation phase and are looking to find the best single system to meet their needs, he said.

Greenwich also examined the build vs. buy issue. In equities, a mature market, only about 5% of respondents said they build their own equities platforms. “Proprietary is almost extinct,” said McPartland In FX and fixed income, firms still hung onto proprietary systems. In fixed income, 49 % of EMSs were vendor provided while 29% were proprietary. With OMSs, 49 percent were from vendors and 37 percent proprietary.

TCA Advancements When it comes to transaction cost analysis, Greenwich said most desks are using TCA in their trading process, but there are differences among asset classes. In equities desks are more likely to use TCA both pre and post-trade. This is due to the automation within equities making it easier to capture the implicit and explicit. In FX, TCA is not as prevalent as in equities, but it’s getting there, said McPartland.

The biggest shifts are happening in fixed income where TCA is not pre-trade or at-trade, but where advancements need to occur as trading is more electronic and spread across a host of venues and new feeds arise. “You can expect to see a host of new technologies designed to figure which SEF or CCP a trader should go to,” he said.

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Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in ...