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(This article first appeared in Best Execution, a Markets Media Group publication.)
We’ve seen a shift towards multi-asset trading in recent years – why do you think that is, and what unique skills does it require?
The shift has been building up for years now, and it’s based around offering clients different exposures that they can’t just get from being in a single asset class. It’s about getting traditional exposures in non-traditional ways.
For example, the ability to trade futures, where you would traditionally trade broad equities. The ability to trade options, where you would traditionally trade single-stock only. Of course, you want to be mindful of the implicit cost of trading such instruments, but you also want to be exposed to those instruments that could lower explicit costs while potentially increasing liquidity and access. The usage of FX for example, for opportunistic and/or hedging purposes, and commodities for the same – the point is to broaden the profile of what you’re investing in to take advantage of all direct and indirect opportunities.
I think the move towards multi-asset is not only beneficial to clients, as it allows for choosing investments that have a broad exposure profile wrapped up into one investable asset, it also helps portfolio managers in terms of broadening return and risk profiles, especially with the inclusion of hedging protocols.
Expanding into a multi-asset class framework can be helpful on both sides of the coin: from a marketing and client perspective, as well as a management and a trading standpoint.
How does multi-asset compare to outsourced trading as a means of providing exposure and/or expertise that a desk might not otherwise have access to?
From the trader’s perspective, outsourced trading is a cost issue. You’re basically saying: I don’t have the time to build the infrastructure, I can’t afford the cost of hiring people, so I’m just going to send that out externally. By doing that, yes you might be able to get exposure to the asset classes you want, but I would contend that you run the risk giving up some of your execution quality because you are also giving up control. Outsourced trading definitely solves for certain problems. It helps with back-office issues, technology buildout, and so on, but developing a true multi-asset trading effort offers a unique way forward.
For a buy-side desk trying to do more multi-asset trading but doesn’t currently have the infrastructure, technology or talent, what’s the best way to go about it?
That’s an excellent question. In talking to people who have attempted this and have experienced implementation issues, the notion of bolting something on top of a single asset trading framework is usually the biggest fall down – trying to do something without allocating the proper resources. For example, investing in equities and determining that the usage of futures may be a natural extension execution-wise, but is a difficult lift because the instruments are totally different in so many ways. The execution technologies are different, the valuations are different, the way it needs to be cleared and settled is completely different. If you don’t have those things already in-house, then you must go out and acquire them. The reality is that a lot of firms do not want to spend the time and effort to do that so they either wind up walking away, or they do it in a such a way that doesn’t allow for them to actually experience all the benefits that they could.
The human challenge here is that it is difficult to harvest and grow talent internally based on some exposure to some asset classes. The differentiations between asset classes can be completely overwhelming in certain cases. You can understand equities inside out, but that doesn’t necessarily translate well into commodities or FX when it comes to criteria such as algo usage, access points, rolling strategies, use of capital and liquidity patterns. The nuances of these different asset classes, how they move, trade, and even react in certain market environments, are unique. You need to spend some time and effort acquiring the right talent base in order to best exploit that. Cutting corners on the technology side is usually considered the easiest path to take. That’s a big leap of faith if you do not have the right people in place. The knock-on effect translates poorly into infrastructure and back-office results.
I believe the pool of multi-asset traders is smaller versus more focused asset classes, so this really works to exacerbate the challenge. The Street has been so focused on algorithmic trading for years now that you end up thinking there is no other way to execute – and this can be detrimental in a multi-asset framework because there are so many other ways to gain access. Relationships matter, understanding entry and exit points matters, being able to pivot between assets classes in times of stress or higher costs matters. It’s a blend of art and science where the pendulum cannot swing one way too far without consequences.
Having traded before algorithms were introduced to the buyside, it became known over time that they cannot, and in certain ways do not, always do what you expect or want them to do. There are no dark pools in futures, no concept of order routing, they don’t trade at mid-point. Algos which were designed for equity trading where these parameters exist do not work in the same way. A trader who is used to achieving a certain profile of results will quickly find this out in their execution quality, which is why it so critical to have the right people in place.
What are the perceived challenges? What are the usual sticking points that can prevent success?
Outside of talent, technology and data are the single biggest issues that need to be addressed to move ahead in multi-asset trading. Your single asset class platform cannot work for others as a bolt on. You can’t just stick a solution together to marry them.
TCA is a prime example. On the equity side, everyone knows about TCA, they judge themselves on it, the cost curves are robust and mature. That doesn’t exist in futures or in options where lift cycles are finite, or in FX where the market is opaque so data access just isn’t there. So that data quality that you’re used to judging your traders’ performance on suddenly doesn’t exist, or if it does, certainly not in the same way. You can work towards it, but you can’t even buy it because it doesn’t exist in any meaningful, useful form.
There are definitely technology platforms out there, both in the OMS and EMS space, that work for multi-asset. The reality is that if you don’t have it in-house already though, you’ll have to acquire it. Building in-house will take more time and cost than one thinks. We use a best-of-breed approach. We have EMS technologies for each asset class that we trade, as well as high-touch connectivity. The platform solutions that offer a holistic multi-asset solution often end up doing one thing really well, and other things nearly well. That works toward reducing costs in acquisition and platform build, but there can be a cost in execution quality. It’s not like the technology isn’t there – direct market access (DMA) has been around for over a decade, and those platforms are mature and robust. But there’s no one real catch-all that does everything really well yet.
When people decide to make the foray into multi-asset trading, they’re often not thinking along the lines of: what do I need to acquire in order to make sure that I’m doing everything right in each asset class? Often, they’re thinking: how can I get there as quickly and cheaply as possible? The latter fraught with potential setbacks.
When expanding a desk, and moving other assets into a single asset desk, what steps should be top of mind?
Once you’ve got the right people and the right technology in place, the next logical step is going to be the valuation, the reporting, and how those trades are actually cleared and settled. There is reputational and economic risk on both sides of the coin: in the front office when we’re trading and how we’re approaching best execution and managing trading costs, as well as in the back office. Are we clearing and settling properly? Are we reporting correctly, and can the client understand this? If you address the front office, you have to address the back office at the same time.
A multi-asset class trader needs to understand the entire lineage of the trade. It’s not enough for us just to say, “I’ve executed the trade, push a button and ship it off to the back office.” Certain instruments that we utilize in multi-asset are negotiated, and we need to know what we’re negotiating. Not just the price, but the structure of the trade. What will the funding charge be? How is the PnL going to settle? How will it transfer and in what currency? All these questions and many more are crucial, especially when dealing with complex OTC instruments, and it’s the trading desk that often offers operations functions the guidance on that.
What do you wish you’d known when you started your program eight years ago? What has your journey been?
What’s happened with us over time has been the emergence of technology – as we’ve become more mature, the technology has caught up with us. At the beginning, we had many manual processes when it came to our OTC structures especially.
We need to make sure that we clear, settle, and valuate everything properly. Accurate reporting, internal and external, is crucial. Operational efficiencies in the areas of clearing and settlement have come a long way. TCA is still an ongoing challenge for multi-asset though, because the data is just not robust enough or readily available for all relevant asset classes.
What’s the outlook for multi-asset in 2024?
Having done this for almost 20 years, I can’t imagine the appetite for investment universe expansion has died off. I do believe some shy away from attempting it because of cost and time. From my standpoint, it’s far more beneficial to have access to more investible assets to manage a given portfolio, as well as the risks associated with those assets, than to have less. So the costs, as daunting as they might be in the near term, should be expected to more than pay for themselves over the long term. Over the last number of years, there has been a growing appetite for this. Looking ahead, the future seems brighter as the need and want becomes stronger.
©Markets Media Europe 2024
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