FIX Allocations: Redrawing the Post-Trade Terrain

Scott Fitzpatrick, Vice President / Business Manager of FIX Marketplace for NYSE Technologies breaks down the increase in FIX allocations in post-trade, with buy- and sell-side commentary from Wellington Management and Nomura.

Recently there has been a growing trend of post-trade allocations being delivered from the buy-side to their brokers via the FIX Protocol. Over the past year, we have witnessed significant growth in the number of allocations being sent via FIX through our FIX Marketplace community. Comparing the first half of 2009 to the first half of 2010, we have found that allocations sent via FIX has grown over 70%. We believe this high growth could be the start of a true paradigm shift in how the allocation process is treated.

Post-trade allocations are the breakdowns of a block trade – executed in any asset class – to a buy-side firm’s underlying client funds. Historically, allocations have been communicated to the broker by a variety of means and methods like phone, email, or fax as well as various other electronic systems.

These typical methods are failing to keep up with the faster pace of today’s trading requirements and the need to reduce risks and costs from a firm’s trading processes. As the financial industry continues to grow in new directions, we have reached a critical juncture in how post-trade allocations are handled and many forward-thinking financial institutions are turning to FIX to help solve this issue.

Why Change is Afoot

Today’s trading systems handle thousands of client orders and instructions in mere micro-seconds. With such lightning fast systems in place, the post-trade settlement process still takes days to complete. The global banking and market crisis that has occurred over the recent years should drive financial market regulators and practitioners to seriously look at changing the settlement process by reducing the risks and costs associated with the post-trade process.

For example, in Europe, where pan-European trading platforms are becoming the norm, so too will the eventual introduction of pan-European settlement. In this case, and others, reducing risk and costs will result in changes to the lifecycle of the trade and increase the demand for much shorter settlement cycles – possibly even to settle transactions on the day of the trade.

Even without the market dictating change, firms are still looking to reduce costs in this area as every cent spent is under laser focus in order to meet investor and client demands.

Today, we see two main ways in which institutions are trying to reduce this friction through FIX.

  1. Moving traditional middle-office functions, such as allocations, closer to the point of execution
  2. Modifying current post-trade practices to include all asset classes, particularly futures, options and Foreign Exchange

Bringing Allocations Closer to the Point of Execution

Because of the industry’s demand for immediately available information, firms today are looking at trade allocations – once considered to be a purely middle office function – as being an integrated part of the trading process. Buy-side firms are moving middle-office functions like allocations onto the trading floor as they look for new ways to communicate trade details between two trading counterparties.

By moving the allocation process to the front-office, errors relating to allocations can be recognized earlier in the settlement process. This, in turn, helps to mitigate trading errors as the trade moves through the settlement process. This shift in workflow requires new ways to communicate information between trading counterparties. Since FIX is a well established protocol and is ingrained in the current trading workflow for order generation, buy- and sellside firms can take advantage of existing technologies to push FIX into the post-trade process. This has led innovative firms to begin communicating allocations and, in the future, possibly even confirmation details using the FIX Protocol.

Global broker Nomura already supports using FIX for allocations and plans further investment in this space. “FIX already allows front-offices to communicate electronically, globally and crossasset with minimal cost,” said Nomura’s Andrew Bowley, Head of Electronic Product Management, EMEA. “Now our clients are looking at their middle office and looking for the same flexibility and cost savings.”

Lee Saba, Vice President of Trading Applications at Wellington Management and current Chairman of the FPL Americas Buy-Side Working Group, adds, “Allocations, in some way, represent a new frontier for FIX. Even though support has been available since the beginning, it hasn’t been widely utilized to date, and there is a lot of opportunity out there to grow the use of the protocol. Industry-wide, we’re definitely seeing a trend toward adopting FIX allocations across all asset types.”

In many cases, the requirement for FIX allocations is not a replacement for existing messaging or electronic transmission of data using a file – it is simply being used to replace workflows that were historically manual.

Using the Agility of FIX to Meet Multi-Asset Challenge

Many buy-side firms attribute the emergence of FIX in the post-trade space to their interest in achieving straight-through processing (STP) across an increasing number of asset classes. As the fund management business has evolved, these firms have pursued multi-asset strategies and as a result have required their trading operations to support a broad and continuously growing spectrum of instruments. To keep pace, operations have been restructured and systems enhanced up and down the trading cycle.

As the buy-side races to support the need for better, faster and more adaptive multi-asset trading environments, the post-trade services they rely on to allocate and confirm trades with their brokers and banks have been unable to keep up. When new, unsupported asset classes have required automation, they have had no choice but to turn to FIX and the cooperation of their key trading partners to automate post-trade processes.

What they have learned along the way is that FIX is a very effective post-trade solution for allocations, that provides the agility required in today’s fast changing, multiasset trading environment.

Lee Saba of Wellington Management agrees. “Working in conjunction with our brokers, we have recently revamped our futures orderrouting, allocation and confirmation processing to utilize FIX 4.4, thus greatly enhancing our trading capability and efficiency across both our front and middle-offices. Now we’re looking at improving other asset types with FIX allocations to gain even greater efficiencies.”

Andrew Bowley of Nomura also agrees with the assessment. “Each region’s execution functionality and regulation is diverse, but this is just as true of the post-trade environment. Confirms, give-ups, rounding, taxes and charges – each region has its own conventions. Catering for this variety, while still providing a global service is challenging, but it is where the real efficiency savings lie.”

If FIX works for the most difficult challenges and is more agile in dealing with new ones, why not use it for more workflows? Existing services do adequately support the processing of traditional equities and fixed income trades, but there are considerable costs:

  • Trade operations need to support multiple infrastructures and processes within separate asset class silos.
  • Monitoring and risk management capabilities are constrained because information is not standardized throughout the trading cycle.
  • Third-party systems need to support (and charge for) separate interfaces.
  • Service providers do, in fact, need to be paid.

Many firms today struggle with these costs and are looking to find ways across the trading process to deal with their growth into new asset classes. By adopting FIX as a standard, end-to-end protocol, buy-side firms could better address these cost issues and create a more efficient process.

The Future of FIX in the Post-Trade Process

The suggested shifts in how the allocation process works are not going to happen overnight. Many of the electronic systems that exist today still provide valuable services in the post-trade world that the industry relies on. However, as the landscape of the trading industry expands in new directions and the pressure to drive down costs and risk continues, a common platform to handle the entire life cycle of a trade will help many firms optimize their bottom line performance.

Utilizing FIX and existing standards for the entire post-trade process – even in areas not discussed in this article, like settlement – will help firms leverage existing technology, and thus, remove development or outside system costs from their processes. Plus, it would create a more efficient FIX community that would allow counterparties to communicate in a more seamless and end-to-end manner with one another. Further, by adopting FIX, investment managers, brokerage houses, and clearing entities would be able to exchange post-trade information in real-time. This would eliminate risks in the post-trade process, as any errors would be able to be identified and rectified immediately.

With NYSE Euronext’s key assets in so many different areas of a trade’s life cycle and knowing how fast our industry can change, remembering the 70% growth in allocations using FIX through our Marketplace, we believe that it is certainly worth exploring new methods to handle post-trade processes sooner rather than later.

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