Utility in Capital Markets

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Oct 24th, 2014

In the aftermath of the financial crisis, the regulatory environment has undergone rapid changes and is still evolving, creating additional obligations for financial institutions, particularly in the areas of risk management, reporting and regulatory compliance. Since many of financial institutions have to make same, or similar, changes to their processes and systems due to new regulations, many of them are looking to “mutualize” the costs – an arrangement where an independent third party provides the technology and services that banks can in turn use on pay per usage basis. This is giving rise to a new utility type of offering that is a step in the outsourcing value chain.
As a consequence of these changes we have observed in last 6-12 months the emergence of shared service-utility mode of offering which is a highly standardized type of offering built by a third party provider and offered to financial institutions on a pay-per use basis. Often these solutions were conceived in direct response to the user communities’ expressed needs for them. Not surprisingly therefore some of the ones being launched in the market are by bank owned or bank backed institutions and have had active involvement of many banks in their design and development processes.
One area that has seen a number of solutions emerge under the utility-shared service model is the know-your-customer (KYC), client on-boarding space. The current practices in managing KYC, on boarding operations are complex and redundant requiring every customer to exchange information with every financial institution they deal with. The utility model on the other hand envisages gathering all customer information at a single space that can in turn be shared with financial institutions.
A recent Celent report discusses the drivers behind the emergence of the utility model and studies four solutions in the KYC, on-boarding space that have been or will soon be launched under the shared service-utility model, including SWIFT KYC Registry, Thomson Reuters Accelus Org ID, Clarient Entity Hub (by DTCC and 6 co-founding banks), and Markit | Genpact KYC Services.

Fintech and the Democratization of Investments

Will Trout

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Sep 29th, 2014

One of the most remarkable characteristics of this September’s FinovateFall 2014 conference in New York was the number of presenters focused on wealth management. Typically only a handful of WM firms dot the PFM and payments landscape, but this year nine of the 70 seven-minute demos concentrated directly on investments and financial planning. Presenters included established WM vendors (eMoney Advisor, which rolled out its EMX platform for advisors), well known disruptors such as Kapitall, and a few companies that seem to have just come out of the woodwork.

The diversity of wealth management platforms and providers speaks to a trend at Finovate that has been gaining traction in the broader market: the democratization of investments. Democratizing firms posit that best-in-class ideas, managers and investments should be accessible to all investors, and not just to the rich alone. Firms such as HedgeCoVest and iBillionaire (platforms that allow investors to mirror the trades of hedge funds and billionaires, respectively) and Loyal3, which offers no fee access to IPOs, embody this line of thinking. So do the strategies of UK based firms like Algomi (bonds) and True Potential (micro payments), which undo trading obstacles for investors, while lowering the bar for entrance.

The democratization of wealth management is also noteworthy in the traditionally advisor-driven financial planning space. While B2B vendors like eMoney Advisor seek to enhance advisor interaction with clients, iQuantifi offers financial planning services directly to individual investors, as does FlexScore, which throws in the added element of gamification or gaming.

The idea here is that planning and investing should be fun. No firm at Finovate represented this quintessentially Millennial ideal more than Kapitall, an online brokerage firm that bills itself as a fusion of investing and gaming.

Indeed, efforts to incorporate gaming into the historically sober wealth management business represent only one of the ways that fintech startups are seeking to capture underserved populations (i.e. democratization), target market inefficiencies (i.e. build a better mousetrap), or in the case of firms like Blooom, do both. The Kansas-based firm won a Best of Show award for its tools-based platform enabling entry level investors to better manage their 401k plans.

Tellingly, while these firms tend to target opportunities created by local market inefficiencies, their ideas may have resonance in other markets as well. Investors in Australia, for example, have just as much a need for advice on their retirement savings as do Americans. The universal appeal of the ideas put forth by the fintech startups, combined with the inherent efficiency and scalability of their business models, suggests that real disruption in WM may have barely gotten started.

Networks > social media

David Easthope

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Sep 3rd, 2014

I have never really liked the term social media. All media has the potential to be social.

What is really changing financial markets is the power of networks. Networks can be highly social (Twitter, Linkedin) somewhat social (lets not forget Bloomberg or even a Squawk Box as a type of network) or even anti-social (private networks).

Financial institutions and financial advisors should be looking for ways to leverage networks, not necessarily media. Content, services, insight, and advice can be delivered and shared among communities of users.

I am sure this is a lonely fight, but we should drop the term social media. Rather, we should emphasize the importance and power of networks to change financial markets.

How Automation Is Disrupting the Market for Financial Advice

Will Trout

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Aug 28th, 2014

 

My most recent report explores the competitive threat that online firms pose to traditional providers of financial advice, particularly in the area of investments. Some observations:

  • The portfolio construction and monitoring process has been commoditized. What a human advisor can do, an algorithm can do at least as well, and at much lower cost (typically under 35 bps). This means that automated investment managers such as Betterment, Wealthfront and SigFig have a built in competitive advantage over traditional (real life advisor) Brokerage and RIA models, especially if they can achieve some sort of engagement or relationship with the client.
  • A further competitive advantage is that because they are data driven, automated investment managers are naturally disposed to using data to improve both the client experience (for example, through better analysis and reporting tools) and portfolio performance. Algorithms can be used to test and develop new investment ideas, for example, as well as to monitor portfolio exposure or risk. Traditional advisors may be able to provide these functionalities but at much higher user cost and friction: that is, their delivery may not be as good, particularly if they have limited digital capabilities.
  • RIAs are under threat but the wirehouses and the discount/online brokerages are in a real pickle. Wirehouses recognize the need for automated advice but fear creating channel conflict with their sales force. The online brokerages also understand that automated advice is valued by clients (a few such as TradeKing are introducing algorithm driven platforms) but they will find it tough to overcome challenges of legacy technology (systems dating back to the early 2000s will need to be updated) and culture (the automated investment managers are mostly software engineers, while the discount brokerages are a mix of techies and investments people).

Given the deepening public embrace of ETFs and passive investment strategies, which enable automated advisors to manage money in a customized and highly efficient way, it may be that the online brokerages emerge as the most natural competitors of Wealthfront, Betterment et al. Most will want to launch their own platforms. The question then is whether to build or buy.

Webinar with Celent & Scivantage, September 18th @ 4:00PM EST

Aug 27th, 2014

Webinar with Celent & Scivantage, September 18th @ 4:00PM EST

The Race for Retail Investor Assets: Leveraging Analytics to Transform the Online Investment Experience

Register here:

http://info.scivantage.com/Sep2014sqope-Celent-Research_SQO_Landing-Page.html?cpstat=&ls=&pf=&lsd=&lss=Celent

The needs of the retail investor are rapidly changing as technological advances continue to push the boundaries of investment transparency, and social interaction.  With increased competition, the race for investor assets has never been more intense and it has financial institutions searching for new and innovative ways to transform their online investment experience.  From advanced portfolio analytics to community-based social investing initiatives, firms that are able to capitalize on this dramatic shift will realize game-changing ROI.

Join Ashley Globerman, Analyst, Celent, and Greg Alves, Senior Vice President, Investment Analytics, Scivantage, as they discuss the evolving expectations of the retail investor and the technology imperatives firms face in order to remain competitive.

In this complimentary webinar, you’ll gain:

  • Insight from Celent’s latest research into the evolving state of the retail investor landscape
  • A focused outlook into technology’s substantial role in connecting firms with their tech-savvy clients
  • Expertise on streamlined processes for delivering premium analytics and reporting solutions to a broader client base
  • An introduction to Scivantage’s new performance reporting platform, sqopeTM
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Time for a New Take on Trust

Will Trout

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Aug 26th, 2014

Five years after the end of the financial crisis, bank trust companies are taking steps to update their technology platforms. That’s a good thing as most of the trust accounting systems currently in place were implemented pre-2007, and the ability to track assets quickly, efficiently, and accurately is critical given today’s complex compliance and security requirements. Thinner margins and heightened client service expectations are also driving the push toward modernization. Small wonder that an executive with a leading platform vendor estimates that a third of wealth management firms using legacy trust accounting systems are in discussions with vendors to replace them.

The issue is not solely one of age, however. Trust accounting systems were not designed to manage investments, much less to serve as the backbone of a modern wealth management practice. Over the years, bank trust companies have compensated by deploying a dizzying array of back office systems (in some cases 50 or more), each with their own coding requirements. The result has been “systems spaghetti” and on the front end, old-school client service defined by manual processes and static performance reporting.

Trust platform vendors have ramped up efforts to tackle the technology and service deficit through the delivery of end-to-end solutions that embed onboarding, CRM and reporting tools directly into the trust accounting workflow, or what industry professionals call the “vertical stack”.

These newest trust accounting platforms do offer banks significant operational efficiencies but are for several reasons no panacea. First, efficiency in technology terms does not neatly translate into advisor productivity. Second, most gains are incremental: it is not possible to outsource everything and many of the major efficiencies such as straight through processing have been achieved already. Most critically, these efficiency improvements do not address the fundamental challenge facing the business: misalignment with the client viewpoint and interests.

Clients tend to see investments they hold within an institution as a whole, not in terms of separate brokerage, trust, or bank channels. They want to manage assets across platforms, receive a single statement from their financial institution, and so forth. The point is that while the immediate prospects for efficiency gains rest in the traditional vertical stack, the client’s desired perspective is horizontal.

It’s time to look past existing frames of reference and imagine what could be. Steve Jobs did it with Apple, and Jeff Bezos is doing it with Amazon. Where is the technology leader with a new vision for the bank trust company?

 

Big Banks’ exodus from Commodities

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May 30th, 2014

Goldman Sachs, Morgan Stanley, Barclays and JP Morgan used to be the biggest traders of commodity among banks. However, this space has witnessed many of the big banks exiting the business line in recent times. JPMorgan recently decided to exit physical commodities trading business by selling its raw-materials trading unit to Mercuria Energy Group Ltd. Morgan Stanley decided to sell its physical oil business to Russia’s Rosneft. Barclays decided to exit some of its commodities business. Deutsche Bank said it would exit dedicated energy, agriculture, dry-bulk and industrial-metals trading. Bank of America Corp. said it would dispose of its European power and gas inventory. UBS decided to shrink its commodities business sharply. Goldman began a process to sell part of its physical trading operations.

This retreat of the big banks from commodity business has been driven by tighter regulation, stricter capital requirements, increasing political pressure and lower profitability in recent times. Key regulations impacting banks in commodity trading include Basel III, Dodd-Frank, and the Volcker Rule. Rules brought in to address the financial crisis of 2008 (Basel III, Dodd Frank) require banks to hold more capital than in the past against trading operations, which has made holding commodities more expensive for the banks. New charge for credit valuation adjustment (CVA) – which requires higher charge for longer dated trades with lower rated counterparties – is likely to have significant impact on hedging practices of longer dated trades. Further, regulators are pushing for over the counter trades to the public exchanges, which is likely to significantly reduce profitability of such trades for the banks. Volcker rule, aimed at banning banks from trading with their own capital, is another catalyst in this regard. Anticipating this rule many banks have already scaled back or spun off their proprietary trading desks.

Politicians have also exerted pressure on banks to cut back their commodities business. Regulators and some senators have expressed concerns about banks being in the business of natural resources. This has been largely prompted by events like Deepwater Horizon oil spill, complains from other industries and associated media coverage. Policy makers are now seeking comment and exploring ways to limit banks’ role in trading of commodities.The U.S. Federal Reserve is considering new limits on trading and warehousing of physical commodities. Policy makers suspect that there are conflicts of interest when the same entity is involved in the physical market and also in trading derivatives on the same underlying. Commodity Futures Trading Commissions (CFTC) is investigating the effect banks are having in the commodities markets, as it has been argued that banks played a major role in the rising commodity prices, including that of agro-prices, in the latter part of the last decade.

Lacklustre market conditions are another driver behind many banks’ decision to shrink or wind up their commodity business. While regulatory burdens have added to cost side of the business, less volatility in commodity prices have hit top line. Combination of these factors has resulted in lower revenue from the business. Industry estimates suggest commodity-trading revenue for the ten biggest banks shrunk by over 67% in 2013 compared to peak levels attained in 2008. This trend of falling revenues holds good for not only the commodity business, but also to the FICC (Fixed income, currency and commodity) segment in general. Forced by this, some banks are shrinking or winding up their Fixed Income business as well.

These developments are making commodity trading an inefficient use of capital at a time when other markets, such as equities, are showing signs of recovery.

Exchanges and innovation

David Easthope

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May 29th, 2014

I recently attended the 2014 IOMA/WFE conference in Moscow. An interesting panel debate was on the role of innovation in the exchange universe.

Some observations:
• While not all innovation begins at the product level, exchanges tend to focus energies there consistently
• Exchanges seek early feedback from customers on product needs, particularly any products that offer risk hedging
• In some geographies innovation must involve a wide array of stakeholders including regulators
• Exchanges also concentrate on innovation along the value chain; seeking and filling gaps

In summary, the current state of innovation at exchanges appears to be fairly customer-centric when launching new products (e.g. index options or futures products).

To get beyond product innovation at exchanges, one must consider technology innovation. Since only a few exchanges think of themselves as technology vendors, technology innovation is difficult, but some exchanges may focus on driving down latency, improving capacity or delivering technology to a community of users.

Collaborative innovation may be on the rise, as exchanges look outside their walls for partnerships. For example, CBOE plans to invest in Tradelegs, a developer of advanced decision-support software.

Beyond HFT

Neil Katkov

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May 15th, 2014

I recently attended the Tokyo Financial Information Summit, put on by Interactive Media. The event was interesting from a number of perspectives. This event focuses on the capital markets; attendees are usually domestic sell side and buy side firms and vendors, including global firms active in Japan. This year there was good representation from around Asia ex-Japan as well; possibly attracted by the new volatility in Japan’s stock market. The new activity in the market was set off by the government’s Abenomics policies aimed at reinvigorating the Japanese economy. But I suspect the fact that Japan’s stock market is traded on an increasingly low latency and fragmented market structure gives some extra juice to the engine.

Speaking of high frequency trading, Celent’s presentation at the event pointed out that HFT volumes have fallen from their peak (at the time of the financial crisis) and that HFT revenues have fallen drastically from this peak. In response to this trend, as well as the severe cost pressures in the post-GFC period, cutting-edge firms seeking to maintain profitable trading operations are removing themselves from the low latency arms race. Instead, firms are seeking to maximize the potential of their existing low-latency infrastructures by investing in real-time analytics and other new capabilities to support smarter trading. HFT is not dead, but firms are moving beyond pure horsepower to more nuanced strategies.

Interestingly, this theme was echoed by the buy and sell side participants in a panel at the event moderated by my colleague, Celent Senior Analyst Eiichiro Yanagawa. Even though HFT levels in Japan, at around 25 – 35% of trading, have probably not reached their peak, firms are already pulling out of the ultra-low latency arms race–or deciding not to enter it in the first place. The message was that for many firms it is not advisable to enter a race where they are already outgunned. Instead they should focus on smarter trading that may leverage the exchanges’ low latency environment, but rely on the specific capabilities and strategies of a firm and its traders.

Looking at this discussion in a global context, it seems interesting and not a little ironic that just as regulators are preparing to strike against HFT, the industry has in some sense already started to move beyond it.

How can financial advisors benefit from leveraging social media?

May 15th, 2014

Private Asset Management (PAM) magazine recently approached Celent about the benefits financial advisors could receive from leveraging social media.

Read what we had to say here:

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