Over the course of the past 20 years, electrification of transactions has been a fast growing theme, and affects nowadays all parts of the financial products ecosystem. Liquid instruments have been traded electronically in their vast majority for years, but new FinTech players are coming along to try and disrupt market segments that were until now mainly addressed by established brokers and banks, especially in the Direct Market Access space (DMA). Similarly, even complex structured products are now being traded electronically, with a deployment of platforms that cater to end customers like wealth managers or private banks and offer comprehensive coverage solutions, streamlined processes and user-friendly interfaces.
In this note, we propose to give a general perspective on electronic platforms, and we will cover successively electronic execution platforms and electronic distribution platforms.
Electronic execution platforms
1) Alternative Exchanges and MDP platforms
Traditional exchanges have been challenged for some time by new entrants like BATS or Chi-X, who now have large market shares for equity trading both in Europe and in the US.
For non-listed activities, mainly in the FX and fixed income world, third-party operated multi dealer execution platforms disintermediating large broker dealers, have also been active for many years. These platforms work under the disclosed counterparty model, whereby trading interest is initiated by clients requesting firm price quotes. The identity of both counterparties is known in advance of execution, and this disclosure is made only to the parties involved in the transaction. There are two types of trading models available: RFQ (request for quote) and RFS (request for stream). In the RFQ model, the platform operator transmits the price at which dealers are prepared to trade in response to an ad-hoc request, and the price remains live for a pre-set time period. In the RFS model, market makers provide continuous streams of firm quotes with available size, and client receiving the quotes can click to trade.
In FX, 80% of the volumes are traded electronically, and half of this electronic volume now goes through multi dealer platform, the balance going through individual broker-sponsored single dealer platform. The largest platforms have been up and running for several years and operated by large technology firms: Currenex, FXAll, 360T, FXConnect, EBS, Hotspot, Blomberg…
The fixed income market is much more fragmented and experiences a still low level of electrification: less than 30% for interest rate swaps, less than 20% in corporate bonds, less than 60% for government bonds, although this is increasing fast. The main platforms are Brokertec, Dealerweb, Liquidnet, MarketAxess, Tradeweb, Bloomberg…
2) B2B DMA providers
One area of large disruption is in the B2B market access space. To accommodate the increasing volumes of algorithmic and high-frequency trading, reliable and low-latency DMA technologies are being proposed by many new firms, further disintermediating incumbent brokers. These solutions are offered to institutional investors to enhance their trading capabilities, and several are proposed as white labelled packages in a B2B2C business model.
- TraderGO is a multi-asset trading platform, launched in May 2015 by Saxo Bank, with an OpenAPI framework at its foundation. It is proposed to white label institutional clients. It allows to provide access to trading as part of a full-service value chain (pre-trade, execution and post-trade services) and integrate the platform to partner’s existing
- OptionsCity partners with financial institutions to improve their trading experience by providing exchange connections, cross-platform access and off the shelf, white labelled solutions for options
- Object Trading delivers a global, multi-asset trading infrastructure and provides exchange connectivity, including market data and order routing, through a single API. It can be interfaced with any trading application front end and risk or analytics platform. Clients are banks, including many Tier 1, asset managers, hedge funds and trading
- Spryware is a provider of ultra-low latency exchange feeds. The software takes in direct raw market data and provides data collection, normalization and distribution services for reliable, uninterrupted and real-time access to high volumes of market
- Dastrader provides DMA equity execution solutions to broker dealers, online brokers and institutional trading desks. It offers collocation, access to private dark fibre lines, ultra-low latency to some exchanges and low latency for most. Solutions include DMA FIX/API, pre- trade risk management, smart
- Dashfinancial relies on a proprietary low-latency routing architecture to provide high performance execution for equities and options through routers and algorithms, including real-time transparency through proprietary visualisation
- LMax Exchange was ranked in 2015 the UK’s sixth fastest growing FinTech. It is the first Multilateral Trading Facility for FX trading, based on the premise that the exchange model is an efficient and cost effective way to trade very liquid products like FX. The MTF structure and exchange quality execution provide a solution to the industry’s main challenges: lack of transparency of the true cost of OTC traded FX, and the lack of precise, consistent and reliable FX trade execution. Its trading technology excellence (low latency), ensures full pre- and post-trade transparency, precision execution and
3) B2C providers
Similarly, the B2C segment of market access is being targeted by FinTechs that can provide technology enhanced solutions and/or innovative business propositions.
- DriveWealth is a US brokerage, servicing businesses and retail. It offers streamlined online customer on boarding, fractional share investing capability, mobile technology and low cost trading.
- Kantox is a FinTech that proposes to disintermediate brokers and banks in the SME and midcap market by matching counterparties and having them trade at live mid-market level. They charge a transparent fee tied to annual traded
In the UK, iDealing and IG Markets provide DMA access for retail investors on the LSE.
Electronic distribution platforms
1) The emergence of single dealer platforms
As markets and clients got more and more digital, banks adapted their distribution channels and progressively built online portals to push their offering to external clients. Initially, these portals were a reflection of the silo approach to business at most investment banks, i.e. one bank would build various portals fed by individual product lines, services or asset classes. These portals allowed the banks’ clients to conduct their business more efficiently, to some extent, by giving them access to the best products and services in a more efficient manner. However, the advantage for a bank to have its whole service and product offering deployed in a single, coherent place became soon apparent, and banks started to consolidate their several individual portals into holistic platforms.
These platforms are now banks’ essential digital strategy tools that deliver their online customer experience. They are meant to be a single intuitive platform from a user experience perspective and an integrated technology service.
Today, most major banks have fully functional single dealer platforms, that cover the following areas:
- Several Asset Classes: FX, fixed income, equity and, more rarely, commodities
- Structured products
- Indices products (smart β, quant)
- Execution capabilities: algorithm suites
- Research (macro, equity and quant)
The main benefits of an SDP from a CIB perspective are:
- Stronger client relationship, through differentiation and added-value (workflow, pre-/post- trade integration, trade lifecycle servicing, secondary market…)
- Better monitoring of client behaviour, that can potentially be further leveraged upon with big data analytics
- Better link between market-makers and remote sales across banking group, increasing efficiency and promoting internalization of group-wide flow with increased cross-selling
- Increased deal flow, thanks to targeted offerings and ownership of client’s desktop
- Improved margins, thanks to precision per-client pricing
As these platforms mature, we can expect that they will further incorporate banks’ social media strategy:
- Strategy will assist banks in exploiting the opportunities offered by new communication channels
- Enriched service to client: access to wider array of information, social interaction, P2P relationship
- Improved operational efficiency and regulatory framework with open architecture platforms
- Effective sales force and distribution: use of big data for customer knowledge and to support FO expertise, development of heuristic CRM
2) Requirements and considerations prior to building a platform
- Technical considerations
As the new paradigm for single dealer platform is to deliver the whole bank to their customer, one of the main issue is data accessibility, given that most banks’ infrastructure is usually built around asset classes and product types silos: market data, static data, model data, trade and client data, etc. The standard technical answer is to incorporate API solutions to bring all the required information to the platform level for processing. The second issue is around scalability of the internet distribution solution, for which stability and reliance are key requirements. Finally, security of the platform and authentication robustness are of paramount importance.
- Operational considerations
As trading capabilities are offered by these online single dealer platform, one of the key challenges for the banks is to automate and standardize their workflow to serve a purely online business model. This basically means STP capability on a wide range of products, with automated confirmations and potentially trade life cycle management.
- Regulatory considerations
Banks selling products on their platform have to comply to regulation, and therefore streamlined, efficient processes have to be deployed, in term of KYC/ALM and also very importantly product suitability. New upcoming requirements in term of Key Information Documents (KIDs) for PRIIPs distribution (packaged retail investment and insurance-based investment products) in the context of MiFID2 will raise the bar in term of automation challenges.
3) Third party platform providers
Historically, banks have either developed their platform internally, or used external providers. Below are the main active third party providers.
Caplin has a base SDP framework product that incorporates several layers of architecture. It can be plugged onto any bank’s systems and then highly customized with a modular approach in term of user experience, trading and product capabilities. Caplin has an extensive experience of deploying scalable solutions, with Citi’s Velocity FX trading platform as a reference delivery for instance.
Lab49 is a financial markets focused technology company that develop bespoke solutions for their clients. They built the NEO platform for UBS, which is considered as one of the state-of-the-art SDP currently on the market.
Scottlogic is a more generalist technology firm with a strong presence in capital markets. They offer solutions for all areas of capital market business, from front office tools to middle and back office integration solutions, including single dealer platforms.
There are also firms that come with a niche expertise and propose specific solutions for some segments of the market. For instance, Numerix, a risk and analytics specialist, proposes highly modular solutions for structured products distribution platforms. Similarly, LeonTeq, a Swiss technology provider, offers a full-scale solution for structured products, from pricing to issuance and distribution.
4) Case studies
In the following two case studies, we propose to illustrate potential specific applications of distribution platforms in product areas that have witnessed tremendous developments in the past few years and that are expected to support continued growth in the future.
- Smart beta / quant indices platforms
As returns from active managers have been overall disappointing in the past, and as regulatory pressure on transparency and fees is increasing, exchange traded products (ETPs) are becoming natural beneficiaries of new asset allocation strategies, and asset under management of global ETPs are ballooning. A subcategory of ETPs is experiencing an even faster growth (5Y CAGR 39.3%, albeit starting from a low base): smart beta products. CIBs have a natural strength in two categories of smart beta products:
- enhanced beta, where stocks selected are weighted using a proprietary methodology (fundamental model, quant scoring…) as opposed to a standard market cap method
- alternative beta, which involved algorithmic strategies, including derivatives and quantitative capabilities (futures roll strategies, volcap, low variance, asset allocation strategies…)
Offering this product allows bank to leverage several things:
- Capture in-house Private Banks / Asset Management flows
- Increase visibility of internal research (Equity/Macro/Quant) and brand
- Build an annuity business that can support CIB business model: annual fees are 0.25%- 0.5% for enhanced β strategies and 0.75%-1% for alternative β
These products have been extremely successful at major investment banks, and are now a key pillar of the offering available on their single dealer platform.
- Structured products platforms
As recently as ten years ago, a wealth manager or a private banker willing to source an equity-linked structured product for his end clients had to contact, via phone and email, a range of investment banks to get competitive quotes. As this market became more and more standardized, the phone / bespoke email process got progressively replaced by automated email services, where quote requests were parsed by investment banks’ systems, automatically priced and fed back to the quote requester. However, this process did not allow a full level of customization for the quote requester, and it also lacked a real-time feature that was much needed for the distributors.
To satisfy these needs, CIBs progressively developed their online portals dedicated to structured products. These platforms allow full pricing flexibility for the clients on a range of products with many customizable variations. They also provide real-time pricing and execution features, straight- through processing capabilities. Some of these platforms even offer full trade lifecycle monitoring on these products (coupons calculation, barrier monitoring, corporate actions etc.). The underlying automation allowed to aggressively reduce the costs associated to structured product issuance, and as a consequence the minimum ticket size for these products decreased dramatically from a few million dollars to a few tens of thousand dollars, to the benefit of end customers.
As many banks have up-and-running structured products single dealer platforms, private banks users face a situation where they have to use multiple portals, with potentially different product description conventions. Multi-dealer structured product distribution platforms give them a solution. This type of platforms has been available for many years in Europe, and in Switzerland especially with market leader Vontobel. Multi-dealer platforms appear much more recently in Asia, where there are now 4 competing platforms, some of them like Contineo being sponsored by major CIBs who also offer their own single dealer platform.
The main benefits of a multi-dealer framework are:
- Simplification of price discovery process (RFQ with FIX or APIs), with a single access point to multiple issuers
- Reduction of cost and risk associated to a transaction, and provides audit trail for best execution policy, key requirement in the Private Banking industry
- Faster turnaround time and better servicing of client
The biggest challenge for these platforms, especially in Asia, is to push for the adoption of industry- wide standards for product description, which will allow full STP. This will in turn probably lead to a consolidation of these multi-dealer platforms, following a “one win all” model, and a market where both SDP and MDP will co-exist and serve different purposes.
Electronic platforms are profoundly changing the way business is conducted in financial markets, be it in term of trade execution and market access or in term of product distribution by banks. As specialist technology firms and FinTechs are progressively fully disintermediating banks from standard execution and market access functions, it is natural that banks are shifting their focus on their distribution capabilities, by proposing comprehensive electronic platforms and digital user experiences that achieve improved client centricity.