2013 will be about rebuilding trust in markets, firms and infrastructure through regulation, risk management and strong client support, according to Object Trading, an independent provider of global direct market access.
Based on interactions with buy- and sell- side clients around the world, the firm predicts that regulation, risk management, managed products and capital efficiency will be the trends shaping the financial services landscape in 2013.
The anti-globalisation effect
With the implementation of Dodd Frank and the ESMA directives, amongst other long awaited regulations, firms are facing a number of new, and sometimes conflicting, guidelines for different geographies and jurisdictions, including increased reporting standards. The costs for reaching operational compliance in multiple markets can put a serious strain on a firm’s bottom line, particularly when margins are already so thin and the costs of failure can be so high.
“The differing, and sometimes contradictory, regulations coming from various markets are creating an anti-globalisation effect,” says Steve Woodyatt (pictured), chief executive for Object Trading. “Firms are finding it beneficial to concentrate their efforts in, or from, certain markets rather than incurring the costs required to be compliant in non-core assets classes or geographies. As regulation continues to unfold in 2013, we expect firms to either find a way to normalise how and where they manage trading lifecycles, or make some tough decisions about what markets still promise positive returns once the full costs are considered.”
Given the notable electronic trading incidences that occurred over the past year, regulators worldwide are reviewing the industry’s approach to pre-trade risk. Current efforts attempt to tackle certain risk factors including credit control across the give-up process and kill switch mandate proposals. Though some regulations are final, their implementations and the resulting effects on how firms can conduct their businesses remain unclear. And while some firms are trying to stay ahead of regulation with stronger pre-trade risk strategies, others are using a watch and wait strategy. Regulators, in the meantime, will focus their efforts on automated or manual exchange-level risk management. This means that it still falls on each individual firm to ensure that they have proper processes in place to manage risk from their own perspective.
“Regulation will continue to drive how the industry manages risk in the year ahead,” says Ian Grieves, managing director - Americas for Object Trading. “These changes will be designed to protect the industry as a whole. However, a firm should always have a better understanding of their total risk than any regulator would. Ignoring this fact exposes firms to the pain of repeating notable and possibly avoidable mistakes, unless they use this knowledge to better manage their risk.”
Issues associated with cost, compliance and capability are forcing firms to consider outside vendors for functions that until recently had typically been run in house. However, managed products bring precision to the traditional blunt tool of outsourcing. This allows firms to maintain control of the critical functions that provide competitive advantage, whether in risk management, trading strategies or customized client solutions, while reducing support burdens where specific resources are lacking.
“As margins continue to decrease, it is essential for firms to take a realistic view of what processes are best to handle internally and which ones would benefit from using outside providers,” says Gerry Turner, executive director for Object Trading. “Firms are considering the previously unthinkable, relinquishing direct control of highly specialised systems. However using outside subject matter experts reduces the risks associated with making this difficult decision. With the support of a trusted partner’s managed product, firms can maintain control while gaining competitive advantage, improved growth and enhanced client experience.”
Capital cost and efficiency
The new regulatory environment is driving substantial increases in collateral requirements and therefore increased funding costs and complexity for all market participants. Firms must critically analyse their options for the most efficient allocation of their assets across markets, systems and asset classes, while being mindful of additional risk they are incurring intraday. Exchanges and clearinghouses are now starting to offer cross-margining, competing to maintain and grow their share of participants by helping clients reduce the total collateral required to cover their positions. ICE’s recent acquisition of NYSE is but one recent example of this trend.
“Though margin efficiency was once a secondary consideration, it has now become an integral part of an effective trading strategy,” says Woodyatt. “Market participants are compelled to find better means to stretch the scarce quality collateral at their disposal. Because firms are trying to find the perfect balance that maximizes capital available to be dynamically deployed towards trading strategies and minimises margin consumption, it is essential to achieve a real-time, aggregated view of the risk accrued across asset classes. This view would enable dynamic, efficient margin offsets, thereby ensuring that the firm is realising its full potential.”