Justin Llewellyn-Jones of Fidessa explains how connectivity is adapting to meet the concerns of brokers and traders.
The ability to integrate electronic trading and FIX connectivity into receiving platforms is a minimum requirement for trading. As such, it has become something of a commoditized service. The industry no longer refers to an OMS specific connection, for example, because it does not exist. Instead, brokers rely on consolidators that eliminate the need for individual connections, and provide both asset- and application-neutral connectivity from any client.
Managing connectivity requires considerable effort: monitoring and capturing order failures and rejections, identifying the source of a problem, repairing it and going back to the client and convincing them to re-send the order is a constant challenge. The costs, time and resources required to maintain the communications infrastructure and relationships with telecommunications and application service providers can be significant.
What’s more, FIX expertise is a very specialized knowledge set that commands a correspondingly high price. FIX language is really more of a framework than a firm protocol. Many participants use the language to their own end to perform tasks such as interfacing with proprietary systems, which makes expert knowledge an absolute requirement.
As an expensive, commoditized service, connectivity appears to be a technology that should be outsourced in its entirety to specialist providers. Not surprisingly, a number of brokers have questioned the value they get from owning connectivity themselves. The infrastructure, the physical network connections, the relationships with telecommunication network providers do not add value, nor do they provide better quality of execution or improved relationships with clients.
But the wholesale outsourcing of connectivity management has not happened, which leaves brokers with ‘half and half’ solutions where, for example, a vendor’s consolidator and router might be used, but relationships with network service providers are maintained in-house. Brokers want to maintain a certain level of control, and do not trust vendors to deliver a cost effective solution, or time sensitive responses and customer service.
It is also considered that core services should not be outsourced at a time when it is becoming apparent that connectivity is a critical service, and one that is hard to separate from essential revenue-raising activity.
Brokers need to improve margins by attracting more flow from increasingly selective buy-sides. They need to do so by generating new investment returns, securing recognizable market differentiation or providing liquidity. Once more, we are seeing a definite trend where the buy-side is taking on the determination of the trading strategy. What buy-side traders need is the ability to confirm a particular broker’s trading strategy and then to customize it to a particular portfolio manager or investment fund. The implication is that buy-sides will increasingly demand instant access to new strategies.
As a result, buy-sides require a standardized ability to evaluate a particular strategy, through real-time, post-trade TCA, and information on execution costs which give them an exact read on quality of execution, where quality is not necessarily synonymous with price. Connectivity is therefore essential to a buy-side’s success because it allows access to a broker and that broker’s trading strategy, and it provides various tools to facilitate the evaluation of the broker’s trading strategy.
This is the competitive environment in which brokers operate. It is not just the quality of the strategy offered to buy-side clients that will secure their interest; it is also the speed at which it becomes available. Innovation no longer counts for much if there is a delay while connectivity is arranged. In a market where opportunities are lost in three minutes, a three-month period to build and test the underlying connectivity arrangements would be fatal.
Cost conscious, time conscious brokers need some means of making the necessary changes and evolving their service within a private space, whilst still depending on the standard FIX connectivity. A broker trying to provide a swift service will now typically be doing so behind the scenes, offering to map orders and run market data on the hypothetical results to demonstrate post-trade quality in order to attract and retain buy-side clients.
The fear is that outsourcing could compromise any of these elements as well as a broker’s ability to control his or her own destiny. The way in which brokers manages their clients, costs and time to market with new services or strategies is not viewed as safe if outsourcing.
The challenge is for vendors to provide brokers with the hosted, outsourced connectivity services that remove concerns about network fees and relationships with telecommunications providers, but still provide brokers with absolute control over their internal network. Hosted trading platforms have already demonstrated that outsourcing core functionality to trusted, third-party experts is a highly successful strategy, and a positive way for brokers to respond to a rapidly changing market environment. We expect that over the next year, more and more brokers will take the plunge and leverage the networking and connectivity expertise of trusted vendors in order to service their customers better.