Q&A with John Honeyman, Senior Manager Execution Services, Credit Agricole Indosuez Securities
John Honeyman is responsible for sales of the electronic trading services of CAI Securities in Japan, covering Asian cash equities and equity derivatives, as well as sales of the execution services of CAI’s regional dealing desks handling discretionary client trading for Asia. Prior to joining CAI, John worked for several years in one of the prominent vendors of order management systems, and was responsible for helping penetrate domestic Japanese sell-side accounts. His background is concentrated on technology sales and software project management. He is originally from Chicago, and has lived in Japan for 13 years, over time becoming fluent in reading, writing, and speaking Japanese. He is a member of the Japan FIX committee.
a) What recent technological advancements have there been to make electronic trading more appealing and effective than before?
Electronic trading systems have been in step with the overall advances of the IT industry, and in many cases new technology gets deployed in the financial sector first, due to its importance to capital markets. I would broadly classify solutions into three basic categories: market information (including price and instrument data, news, charts, research, etc.), trading technology (which is specifically centered around the transmission of an order to either a place of execution e.g. an Exchange or ECN, or to a Dealer to subsequently manage), and operational/risk management (which encompasses risk measurement and management, post-execution trade data handling, links for STP, reporting, settlements, compliance, etc.). Recent developments in the global telecoms infrastructure, wider acceptance of the FIX protocol, and an increase in web-based technologies have helped create a convergence of electronic trading systems that is very beneficial to sell-side traders and more importantly their clients, the money managers.
In the not-so-distant past, clients had to call their broker for any timely information on stock prices or trading results. Now, the availability of real-time market information is pervasive, and can even be gotten from a PDA, mobile telephone, or web portal very easily. Trading technology has advanced to the point where managers can work extremely complex strategies in multiple markets and across multiple instruments using technology to find trading opportunities and make money on them. Many strategies like quantitative, index or stat. arbitrage, pairs trading, and market making are highly technology driven and very difficult to do effectively without electronic trading systems.
b) What have been the major effects of recent developments in electronic trading systems on fund managers?
Traders can be truly free from geographical bias in their choice of location. Before, Asian fund managers were forced to either locate themselves in the markets they were investing in or in the vicinity of their main investor base with either choice affecting the success of the fund. Now, however, the wider availability and attractive cost structures of global telecoms and pure internet-based solutions, means that money manager and traders can effectively trade any market from anywhere. Several offshore locations offer excellent qualities of life as well as closeness to major pools of investor capital, and still allow the trader almost identical trading performance to locally-based competitors.
c) Apart from reduced brokerage fees what other key benefits do these systems offer?
Good electronic trading systems span market information, trading technology, and operational/risk management. This creates an efficient pathway from initiation of the trade to settlement of the trade. By automating that process, it allows the trader to concentrate on their core competence: TRADING. Most traders are not specialists in IT or operations, so the more that these functions appear transparent to them, the more time these traders can dedicate to achieving better executions and better results. The goal is to keep the traders focused on trading and making money, and certainly not distract them with operational and technical details. This is especially true for smaller funds with limited manpower; automation increases productivity and reduces errors, making it critical to the business.
From a broker’s perspective, automating as much of the order process, from order capture through to execution and settlement has lead to a decrease in the cost per trade. These savings are passed directly on to the client through lower commissions while still allowing a slight profit margin per transaction.
d) How suitable are electronic trading systems for active, discretionary hedge fund managers?
I believe we need to look at electronic trading systems across the generic spectrum of money manager, the order originators, which could loosely be classified as traditional long-only manager and the hedge fund manager who has more freedom to trade anomalies in a market.
Certainly many of the fundamentally driven long-only equity fund managers will continue to have extensive relationships with research-focused brokers, not only for access to idea generating research but also for the brokers expertise in managing order flow. However, many managers (and their clients) are becoming increasingly concerned over spiraling costs in the face of poor markets and performances. Cost of trading (brokers commissions) is one area where there are real solutions. Thus we are seeing a gradual increase in the traditional fund manager dealers taking more responsibility for their own executions by placing a portion of their order flows directly into the market themselves, particularly if the trading logic can be clearly and concisely identified. While today this electronically traded flow is not a large percentage of overall volume, it is increasing and shows a fundamental shift within the industry.
On the other side of the coin are the hedge fund managers, who have been key sponsors of electronic trading. A simple survey of the origins of hedge fund managers would reveal that many have come from proprietary trading desks at some time or another. What this means is that as a trader they have been used to and expect to have access to whatever market they may wish to trade, at the touch of a button and at the speed of light, and at almost no cost. Accordingly, once this successful proprietary trader leaves and begins trading under the hedge fund they push their brokers and prime brokers to replicate what they previously had, namely low cost direct electronic connectivity.
e) How has the trading environment changed in Asia with respect to these systems?
Because the markets have been so changeable, it is much more popular now for managers to look for opportunities regionally, rather than just in Japan. While Japan is still a very large and liquid market, there is money to be made from trading other markets around Asia. Systems allow instant real-time access to any of the major markets in Asia, as well as globally, and thereby give the manager the flexibility to exploit opportunities on a much broader investment horizon.
Regulatory changes have also meant that systems have to be better designed in order to safeguard the clients from risk. Examples of this are the implementation of the revised short-selling regulations on Japan, or more effective use of “fat-finger” limits that protect clients from accidentally releasing orders.
f) Is it possible for a start-up hedge fund manager to replicate trading systems of a global investment bank with a limited budget?
In most cases, yes. It’s surprising how the marketplace for trading technology has changed. Five years ago, large sell-side monolithic systems were commonplace. Now, most platforms have a component-based architecture that allows you to plug various pieces together pretty easily. For FIX, many cost-effective solutions exist today, which weren’t available even two years ago. The key becomes identifying the critical success factors of the trading model, and linking them to the underlying technology. Much of the time, off-the-shelf pieces exist for market information, trading technology, and operational/risk management, which can be linked together pretty easily and within a limited budget.
g) How easy is it to link in trading systems with those of a prime broker, or even multiple prime brokers? Would this materially affect trading and / or cost?
Linkages to prime brokers are usually seen as end of day files containing the trading blotter information and are then uploaded into the prime broker’s system. However, some prime brokers have even automated access to their stock-lending book, for example, which allows fund clients to plan their stock borrow on-line. Accordingly, a trader can execute orders instantaneously and subsequently allocate the order to the specific prime broker who provided the share in the first place.
By having near real time allocations and reporting, it directly improves the operational efficiency of both the trader and the prime broker(s) and where there is increased efficiency there are cost savings to be made and ultimately it is the manager who will receive this benefit.
h) What are the main system features that buy-side clients are looking for in the current trading environment and how easy is it to deliver on these requirements?
Just as in mainstream IT, flexibility and scalability are highly sought after for electronic trading technology. “Multi” is the key word these days. Multi-instrument in order to support trading requirements across multi-asset classes, through multi-broker to diversify the positions, lessen market impact, and reward relationships, into multi-markets to access regional/global opportunities.
In addition, many clients are looking for systems that integrate or link their trading systems to their risk monitoring and management systems and subsequently to either their prime broker(s) or their own back office for settlements and reporting. While this may appear to be utopian, in reality it is certainly possible and depending on the levels of sophistication required can be done at a reasonable cost.
One important recent development has been the need by clients for electronic trading systems to support their internal compliance and regulatory reporting requirements. Systems today need to be able to provide full audit trails for every order, as well as millisecond time stamps. Many clients have become more conscious of the regulatory environment and are starting to prepare accordingly.
i) Do you feel that safeguards and back-up systems are keeping pace with the ever increasing reliance on electronic trading systems? Where do the real risks lie?
John Honeyman,
Senior Manager Execution Services, Credit Agricole Indosuez Securities
Tel: +81-3-3261-2923
Email: jhoneyman@caicheuvreux.com
Web: http://www.caicexecutionservices.com/
In fact, good electronic trading systems offer better safeguards and protection for firms and their clients than traditional manual processes. A good system will include an order management database, which records all the transaction data, and can be used to support audits, compliance requirements, and internal checks. It is also increasingly more common to have these systems be part of the firms business continuity planning, meaning that trade data is mirrored in safe offsite storage, and secondary trading systems are available in the event of disaster or other interruption.
Additionally, systems can provide limit checking to limit unwanted risk exposure and help prevent costly and dangerous trading errors. Changes of regulations like short-selling, for example, can be implemented at the server level to prevent violation. For mission-critical systems, a wide variety of security levels such as smart card access control, data encryption, and the like can be employed to make sure clients and brokers are not exposed to information security risks.
In summary, the current electronic marketplace is very exciting for traders and money managers. The ability to link systems together seamlessly, trade instantly, and manage costs effectively is stronger now than ever before. We expect this trend to continue to be an enabler not just of the growing hedge fund marketplace, but of the capital markets industry in general.
