German Exchange Architecture: Built to Spec
BT’s Chris Pickles charts the history and structure of German exchange networks.
Wherever you may be from, when you arrive in another country you often find yourself comparing how things are done in the local market, to how they are done at home and in Germany, there is usually a very good reason for what they do in the financial markets. Germany is probably unlike any other financial market in Europe. As the largest single national economy inside or outside the European Union, it has its own dynamism and momentum that can follow the flow of the rest of the world or take its own direction when it sees that a different approach is needed.
The structure of the market is different for many reasons. Germany is a federation of states, each of which has its own government and economy, and until recently each of the “old states” of western Germany also had its own stock exchange. Those eight exchanges competed headto-head for order flow, and it was only some twenty years ago that the Frankfurt Stock Exchange grew from being the number two stock exchange in Germany to become the largest of the German stock exchanges and a leading world exchange. But the other German stock exchanges – Dusseldorf, Munich, Hamburg & Hannover, Berlin and Stuttgart – are still actively competing in the market.
Bonds trading has always been a major service area for German stock exchanges. As a result, the concept of integrating trading and trade-related services horizontally across asset classes and vertically down the STP (Straight-Through Processing) chain to provide more cost-efficient solutions for the local financial community has been an underlying principle behind the development of all financial trading in Germany. That has led to a different market expectation of how technology, connectivity, networks and standards are applied.
Central to the architecture of the German securities and derivatives markets is Deutsche Boerse Group, which operates the Frankfurt Stock Exchange and Eurex, the German derivatives exchange. This Group also includes Clearstream, which is the domestic Central Securities Depository (CSD) as well as being an international CSD. And the group also includes Eurex Clearing as the Central Counterparty (CCP). Deutsche Boerse Group is not, as the name would imply, the German exchange, but it includes almost all of the central functionality that a domestic market participant would need in order to domestically trade securities and derivatives.
German securities exchanges have continued to offer floor trading right up until today, and many TV stations around the world that want an image of “real people trading” tend to use a picture of the Frankfurt exchange floor – no matter what market they may be talking about. Order matching has remained a fundamental of German securities trading. While the USA went to quotedriven markets, and the UK used “Big Bang” to move to a single quote-driven exchange, Germany continued to use competing order-driven markets to deliver cost-efficient trading to investors. That may sound conservative, but as a counter-argument, the London Stock Exchange has re-introduced order matching and this now processes greater trading volumes than its quote-driven system.
When the German exchange systems were being developed, ISO industry standards for securities messaging and market data were in their very early days, and were not truly “fit for purpose”, so that any exchange system that wanted to use ISO message standards had to apply work-arounds, typically using free-text fields to try to make up for the inadequacies of the standard formats. As an example of how cooperation can sometimes be better for markets than pure competition alone, the German exchanges jointly created BrainTrade, which operates the Xontro national order routing/matching system, which offered the FIX Protocol as the interface standard for use by the German trading community. FIX was first introduced by Deutsche Boerse as a commercial product running at the customer site on top of the legacy interface VALUES, although take-up was limited.
The FIX Protocol is also now being applied by Deutsche Boerse for users of its Xetra securities trading systems and its Eurex derivatives trading system, initially as a front-end to its high-speed proprietary protocol ETS. This will allow member firms to apply their existing use of the FIX Protocol to both Xetra and Eurex, but only where latency is not considered to be critical. The next stage will be to offer a native interface supporting FIX semantics over a high-speed transport in the context of new platforms for trading and clearing. This will provide performance as well as simplicity of access, starting with Eurex and followed by the Xetra trading system.
Though Deutsche Boerse manages the country’s largest execution venues, and its private network dominates the domestic market, other German exchanges have developed differentiated competitive positions that attract significant trading volumes. Stuttgart Exchange today is the key venue for structured notes, and Frankfurt, Berlin and Hamburg & Hanover Exchanges are key centres for trading in fund units. As a result of MiFID, Germany also has a noted MTF in Equiduct, operated by Berliner Boerse.
Investment managers expect their sell-side service providers to have the latest technology in place to deliver the best possible service. They rely on their OMS/EMS systems to interface to their brokers, and as yet do not showa great interest in how that happens from a technical viewpoint. In many ways, Germany has seen a “back to the future” approach to latency issues. Some 20 years ago Deutsche Boerse operated a mainframe-based centralised trading system. Today, its members that want the lowest-latency access to its systems locate their technology centrally with the exchange systems, where all of the technology used to be located before.
So, with highly-efficient domestic systems and networks that link the exchanges and their member firms across Germany, and with integrated clearing and settlement, Germany has one of the most efficient national market systems in the world. Despite this, there is still a major flow of buy-side orders to sell-side firms located outside of Germany, including to German sell-side firms abroad and including orders for German securities. While the national system is efficient, it is also rigid and slow and expensive to change. Using the FIX Protocol more broadly across German markets should help to provide the agility that the national market system must develop in order to compete internationally and cost-effectively.