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How to improve derivatives trading efficiencies

How to improve derivatives trading efficiencies

5 min read

Finance

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This piece is sponsored by ION.

The derivatives business is transforming to meet new market requirements and adopt technology that streamlines processes and protects margins. There may be a variety of potential solutions available, but the relevant questions remain the same. In an interview with trading software firm ION, its Global Head of Front Office Product Management, Mike Hughes, explains what should be considered when seeking technology-driven efficiencies. 

How are current changes in the global derivatives business impacting the industry? 

Reduced commissions, combined with regulatory and capital pressures, equate to lower revenue and higher costs. Handling derivatives workflow through multiple platforms is no longer sustainable. Participants are forced to modernize their technology to stay relevant.

The sell-side is under continuous scrutiny from the buy-side. The desire is increasing to execute any type or complexity of order flow from a single workstation or electronically over FIX, coupled with a better understanding of order performance. 

The larger sell-side firms are more selective with clients, and less focused on capturing execution flow through single broker screen distribution. Tier 1 banks are focused on automating electronic workflows in order to achieve large scale volumes and differentiate their offering, leaving smaller brokers in niche areas more suited to voice broking.

On the buy-side, participants are required to execute through multiple brokers and have pushed the sell-side to offer more sophisticated electronic workflows, ensuring best execution. The buy-side requires advanced execution tools across multiple brokers at the same level as on the single broker workstations, which is not the standard for most multi-broker EMS workstations. 

How much can efficiencies be improved by simplifying trading platforms? 

Reducing the number of platforms used removes the need for extensive integration and human data entry across different screens. Complex solutions with many disparate moving parts have fragile integration points, are error-prone and too expensive to maintain. Simplifying the solution by reducing the number of components means less integration points, fewer problems and reduced maintenance overheads.

Mike Hughes

The number of platforms in play often reflects a historical requirement that no longer exists or a niche offering that is now standard across the market. Firms with multiple platforms doing the same thing are effectively multiplying the costs of ownership.

Successful firms strive to differentiate and offer unique services. Duplicating platforms or building deeply embedded in-house solutions for a marginal gain is no longer viable in today’s market.

What should a trading business consider when evaluating the efficiency of its platform, and updating an existing platform

Automation: The largest gains are achievable by automating workflows and removing manual, high-touch processes. Automating execution workflow by managing all interactions electronically via the FIX protocol and executing through advanced execution tools is essential, but all aspects of execution, post trade allocation, trade confirmations and seamless integration with trade processing systems should be considered.

Seamless integration: Reducing integration points simplifies complexity and increases efficiency. Firms with multiple platforms for FIX connectivity, order management, advanced execution, post-trade allocations and exchange connectivity gain efficiency by adopting platforms that manage the full workflow.

Connectivity: Electronic workflows require a complex network of FIX connections and managing exchange connectivity is expensive. Platforms which connect the buy- and sell-side, providing direct or carry broker access to the exchanges, offer the most efficient option.  

Cost of ownership: Managing and supporting disparate complex systems is expensive. Removing duplication reduces costs and increases efficiency.

Industry competition: Electronification of the cleared derivatives markets has accelerated. Firms that cannot manage complex flows electronically will lag the competition. In addition to advanced execution tools, a feature-rich order management system makes high-touch workflows efficient.

Differentiation: Open platforms with APIs providing low latency integration on the back-end, integration with third party algo providers, and interoperability capabilities on the front-end, are recommended. This allows trading firms to provide unique features alongside their core functionality, without introducing high long-term maintenance costs.

What are the arguments for using a single solution provider instead of building something in-house or using several vendors? 

Although individual firms may have different pain points and business needs depending on their profile, the industry has many common needs. A common desire is a reduction in the complexity of the business.

Firms should carefully select where they can differentiate by building their chosen solution and avoiding widely available core trading functionality in-house for small marginal gains. 

The costs of maintaining the infrastructure, ongoing product development, managing all mandatory exchange upgrades, and testing place a heavy burden on the business.

Firms with multiple vendors need to maintain multiple vendor licenses and relationships, test the different solutions, and manage multiple integration points. Using multiple execution platforms also introduces the risk of rekeying and human error.  

A single solution provider reduces the complexity of the platform compared to building in-house or using several vendors. At the same time, risks of utilizing a single solution have significantly reduced thanks to improved resilience, capacity and performance of vendor platforms, as well as availability of open APIs offering the opportunity for differentiation via integration with in-house and/or other vendor solutions.

Michael Hughes, Global Head of Front Office Product Management – Cleared Derivatives, ION: He has over 25 years of experience in e-trading across cleared derivatives and cash equities. He has worked for NYFIX, FIS, Fidessa and ION.

At NYFIX, he pioneered the adoption of the FIX protocol in derivatives, and specialized in delivering global order management and execution platforms, and STP solutions. Michael joined Fidessa in 2010, where he helped transform the established Equities OMS into a global futures and options order management and execution system (GTP).

Following ION’s acquisition of Fidessa in 2018, Michael was appointed to his current role. He is responsible for formulating the product strategy for ION’s front office products and coordinating with the broader Cleared Derivatives product management team to deliver a unified front-to-back platform with streamlined execution and post-trade workflows.