Business Intelligence for Financial Markets IT

n Reference Data Review

A-TEAMINSIGHT
February 2011
Fixed Income Processing: Alleviating the pressure
By Paul Clark, Product Manager, Gloss Solution, Broadridge Financial Solutions
It should be no surprise to anyone that the post-financial crisis economic climate has spurred many firms to extend into sectors of the market in which they were only sporadically, or not at all previously active in a bid to achieve better returns. one such move has been into the fixed income sector, as firms have expanded their remit to products such as bonds, rates and commodities in a bid to seek out alpha in a tough market climate. With the benefits of higher issuance and increased returns, the appeal is obvious. Moreover, firms already active in these markets are seeking to increase volumes as a result of the gradual move towards electronic trading, especially in the government bonds sector, and the growing prevalence of exchange traded products. Regulators, for one, are keen to move a lot of the over the counter (otC) trading onto exchanges to increase market transparency and this will result in much higher volumes of standardised fixed income products being traded overall. the appeal of greater price transparency and faster speed of execution is also driving front offices to invest in their technology capabilities to this end. the Association for Financial Markets in europes recently released annual survey, for example, indicates that 51% of respondents expect to see an increase in their fixed income electronic trading in 2011, with only 2% expecting a slight decrease in these activities. Further, 33% of these respondents executed more than 60% of their fixed income trading activity electronically in 2010; and one can expect that to be a much higher percentage next year. however, one of the unforeseen consequences of these moves has been the pressure that these firms middle and back offices have been put under to cope with the processing requirements of both the expansion into new markets and the increase in volumes. Fixed income has traditionally been the poor cousin of equities in the back office due to its lower position on the It investment priority list; hence it is struggling to keep up with the demands of the market. Another factor that has put the issue of fixed income processing firmly into the spotlight has been the regulatory reform process going across the globe. the current review of MiFId in europe, the dodd-Frank reforms in the us and basel III are just a few of the regulatory developments impacting the fixed income markets. For example, under the new basel III standards related to capital and liquidity management, financial institutions will find themselves under pressure to squeeze out returns, as they face the requirement to allocate much higher amounts of capital to their fixed income operations. Firms will therefore be compelled to invest in technology in order to be able to gain vital operational efficiency benefits and keep processing costs as low as possible. Investing in the right back office solution will also ensure they can support developments such as the move to t+2 settlement in europe and the appetite for further product innovation in the front office in the face of diminishing returns. Growing volumes, changing market dynamics, regulatory reforms and market infrastructure developments are all adding up to make a compelling argument for investment in a technology solution that is able to scale with these new requirements. however, simply extending firms current equities specific processing architectures and solutions to support fixed income products isnt an option. debt instruments have many more moving parts and come in many more flavours than equities; multifaceted business processing is required for numerous accrual bases, complex repayment methods (e.g. inflationlinked, amortising securities) and a variety of financing options (e.g. traditional repos, buy-sell-backs, multi-lat-

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eral repos such as tri-party and dbVs). these processing complexities can also mean that relatively small volume increases in the trading of a particular instrument can result in unsustainable costs if the right systems are not in place. throwing people at the problem is also not the solution. so, what should a firm be looking for in a solution or service provider in order to ensure they are able to meet the current and future requirements of the fixed income world? At a basic level, their processing requirements need to be fulfilled in alignment with their planned expansion into other geographies and other products. In an increasingly competitive and cost conscious environment, firms need to ensure they are able to meet their clients requests to move into new markets in a scalable and timely manner. time to market is a critical factor to bear in mind, as is a low risk implementation path; hence an experienced and specialist supplier is essential. the alliance between a firm and its supplier should be founded on the

trust that the solution and service provider is a specialist in the fixed income space and has the appropriate service oriented culture in place to ensure all requirements are being met. solution providers that have been in the market for a considerable amount of time, have a strong and growing user community, have built up the capabilities and resources that understand the peculiarities of the fixed income markets and have proven their credentials in this endeavour should be top of the list. Firms should also look for a supplier that has continuously invested resources in solutions to cater for the changing market dynamics of recent years. this investment should be evident in the domain expertise and the broad spectrum of asset coverage that the vendor partner is able to offer. At a basic level, the inherent design of the solution or service should also be such that it is best suited to dealing with the complexities of fixed income processing. For example, it should be able to take into account the conventions of specific fixed income mar-

kets on an asset type or geographically defined basis, including Japan, and emerging market regions such as Asia Pacific and latin America which have witnessed a high rate of growth over the last few years. Connectivity to market infrastructures such as the increasing number of central clearing counterparties out there is also important, if firms are to meet the transparency requirements of the new regulatory regime. obviously, implementation time is also an important factor to consider in the equation. A faster time to market will allow firms to realise the benefits of the solution that much quicker in terms of reduced costs and risk. Given the larger ticket size of fixed income trades compared to equities, reducing the risk of trade breaks and failures will have that much more of an impact. Moreover, a client centric and trustworthy partner with a strong underlying service culture should demonstrate flexibility in its offerings, so that firms can choose from a selection of delivery options that best suit their business.

This article has been reproduced by permission of A-Team Group, publishers of A-Team Insight. For further information about A-Team Insight please visit: www.a-teamgroup.com
Copyright A-Team Group. 2010. Reproductions or imitations are expressly forbidden without the permission of the publishers 2011.