Arin Ray

About Arin Ray

Arin Ray is an analyst with Celent's Securities & Investments practice and is based in the firm's New York office. Arin's expertise lies in capital markets where he has extensive research experience in exchange trading, clearing and settlement, brokerages, and use of technology in capital markets. In his recent consulting work, he has advised a large European financial services provider to devise their post trade (settlement) strategy, a tier 1 Japanese brokerage in their product and technology strategy, and a leading international exchange in their market entry and growth strategy in Asian markets. He has published research reports on exchange and over the counter trading, exchange strategies, and adoption of trading technology in different sub-segments of capital markets.

Arin has been quoted regularly in the media, including Reuters, Wall Street Journal, Financial Times, Dow Jones, Press Trust of India, Economic Times, Financial Express, Finance Asia, Global Investor Magazine, BusinessWeek, Business Standard, Asian Investor, Pension & Investment, Business Week, and Securities Industry News. In addition, he regularly contributes bylined articles for the financial media; his articles have appeared in The Journal of Trading, Advanced Trading, Free Press Journal, FT Asian Investment, gtnews, and Ignites Asia among others.

Arin received his MBA from the Indian Institute of Management, Bangalore and B.E. in Electronics and Telecommunication Engineering from Jadavpur University. He is fluent in English, Hindi and Bengali.

Utility-Managed Services in Capital Market

Utility-Managed Services in Capital Market

Need to cut cost to boost sub-optimal levels of RoE is becoming essential for capital market firms in the backdrop of tepid revenue growth and increasing compliance burden. Firms have tried short term measures to cut cost, but should now consider long term strategic review of business and operations.

Moving beyond traditional outsourcing arrangements, mutualization of costs at a group or industry level through adoption of shared service and industry utilities would enable long term cost reduction.

Celent has been tracking the utility landscape for the last two years starting initially its coverage of the utility solutions in the Know Your Customer space, as that area saw a number of solutions emerge in a quick period of time. However, the industry has seen development and launch of newer solutions under the managed service/utility model that span across the value chain of capital market ecosystem – such as post-trade operations, reference data management, collateral management, regulatory reporting etc.

The utilities in capital markets are a new phenomenon with the potential to significantly transform how operations are carried out at financial institutions. Understandably, this has created a lot of interest and curiosity among several participants as they look to redesign their operations and solutions around the utilities to adapt to the changing situation. Uptake of the utility and shared services will be driven by a growing realization of value and can take a while.

Many large banks have already realized the valuable proposition that a utility can bring and have therefore taken an active role in adopting, and even in the development of, some of the utility solutions. Such large institutions are best suited for utility adoption in the near term. Some of the utility providers are large industry players with significant industry penetration in their respective markets; they can hand hold and provide a level of comfort to clients who are now considering adopting utility solutions. This would pave the way for next wave of adoption of the utility model and will likely take place over the short-to-medium term. As the firms in the above two categories adopt utility solutions in the short-to-medium term and demonstrate successful use cases, others who are currently on the wait and watch mode are likely to adopt this new model in the medium-to-long term.

A recent Celent analyzes salient features of the emerging utility-managed service in capital markets including detailed discussion on thirteen such solutions; the report is available for download here.

Improving Operational Efficiency in KYC-AML Using AI solutions

Improving Operational Efficiency in KYC-AML Using AI solutions

Regulatory scrutiny and growing cost pressures are severely impacting Know Your Customer (KYC) and Anti-Money Laundering (AML) operations of financial institutions. Discussions with several banks have revealed they are finding it hard to keep track of constantly evolving regulations, interpret and implement global regulatory changes at a local operational level, collect and refresh information from numerous sources and systems across different businesses and jurisdictions, manage and analyze growing volumes of structured and unstructured data to identify patterns, networks, and beneficial owners, while containing costs amidst a difficult economic environment.

Banks so far have looked to address the challenges by hiring more staff, as traditional rule-based KYC-AML technology necessitates significant dependence on manual efforts. But too much reliance on manual efforts can make the process costly, error prone, and inefficient. Banks therefore need to think out of the box and consider new and innovative solutions to alleviate operational and cost pressures.

Adoption of Artificial Intelligence-enabled solutions could be one way to mitigate current challenges, increase efficiency, and reduce costs, as they can not only automate significant parts of operations but also offer superior insights through advanced capabilities for analyzing structured and unstructured data. In a new report, Celent discusses several challenges plaguing financial institutions’ Know Your Customer (KYC) and Anti-Money Laundering (AML) operations, and proposes how Artificial Intelligence (AI) enabled solutions can help in addressing them. This report was commissioned by NextAngles, an Mphasis Fintech venture, while Celent kept full editorial control. The report is available for download here.

A New Black Swan

A New Black Swan

So the latest Black Swan was spotted in the last few days in the UK when the outcome of the Brexit vote took everyone by surprise. While many are still trying to make sense of the whole situation and figure out what it means for the future, the only thing that is certain at this moment is there will be a lot of uncertainty in the coming weeks, months and possibly years.

In question is the constitutional and political arrangement of the United Kingdom and broader EU, but how is it going to impact the financial services industry? The future of the “bank passport” that allowed financial institutions to do business easily across Europe will be a topic of much interest. Restrictions in ease of doing business might result in them moving out of the UK, and some have already started the process. This would not only result in shifting (if not loss) of banking jobs, but could also balkanize the markets. Technology requirements, for example hosting of data centers within national jurisdictions, could similarly balkanize operations. This would also impact adoption of centralized operations, like cloud services, and slow down the growth of start-up culture and innovation. Balkanized operations and restricted market access would deter or slow down smaller players in designing and launching innovative solutions, and help larger incumbents.

Then there is the question of pan-European regulations and initiatives like Target2 Securities. T2S entailed firms with significant European presence to restructure their operations across Europe. While UK never decided to join the T2S project, firms with European operations were so far busy designing their optimal operational mix within continental Europe. If the UK vote now requires further restructuring that may force them to rethink their current plans and impose additional resource constraints. Also of interest would be the LSE-DB merger; even though both parties have said the deal is not threatened by the vote, politicians might have other ideas.

The political negotiations in the coming weeks would therefore be closely watched as market participants look to navigate their way through the latest developments. All in all the level of complexity and uncertainty in the system has suddenly grown manifold. All blame the Black Swan.

Regulators to end ASX’s clearing monopoly

Regulators to end ASX’s clearing monopoly

In an interesting development Australian authorities are looking to end Australian Stock Exchange’s (ASX) monopoly on equity clearing and relaxing ownership restrictions that removes a potential hurdle to the ASX’s participation in overseas mergers. First, some background: Australia for long was like many other Asian markets with a single incumbent national exchange that is vertically integrated carrying out clearing and settlement activity. Departing from other Asian market practices, regulators introduced competition in the local exchange space by allowing a foreign player Chi-X, which entered the market in 2011 and quickly took significant share away from ASX. However, clearing of trades, including those conducted at Chi-X, was still conducted by ASX as it was the only clearing agency in the country.

Chi-X has been complaining for some time that this situation gives ASX unfair advantage and possibly creates conflicts of interest in that Chi-X has to depend on its competitor for clearing of its own trades. They have therefore called for introducing competition in the clearing space to mitigate the situation, bring down clearing fees, and accelerate innovation. ASX has cut clearing fees in the past, and again indicated that it would further cut fees by 10% from July, 2016. It has also argued that the Australian clearing market size is not big enough to make multiple clearing houses viable.

While the new changes indeed pave the way for newer players to enter, whether and when that materializes would be interesting to see. The Financial Times observes that these changes are “unlikely to result in the establishment of a rival clearing house in the near future”, but will “create a regulatory framework that gives competition authorities the power to arbitrate disputes about access by rivals to the ASX’s clearing and settlement services.” It may be noted that competition in the OTC clearing space was introduced a while back and LCH.Clearnet has already entered and captured significant market share. Merger with an overseas player, in spite of the rule changes, may not be easy. In Asia, the issue of national pride associated with national entities such as exchanges is a particularly important factor, and can make mergers and acquisition by foreign entities tricky, as was seen in Singapore Exchange’s failed bid to acquire ASX previously.

ASX on its part has been active in upgrading its technology and systems to stay abreast with international best practices and ahead of potential competition. In some cases it is taking the lead in the industry and looking to build innovative solutions that could transform trade processing operations. It would be interesting to observe how these initiatives shape up and what impact these changes have on the Australian and global exchange landscape.

NSX: The (old) new kid on the block

NSX: The (old) new kid on the block

The business of stock exchanges has been making news for some time. The issue of market structure and market practices in the US has been a topic of much discussion for the last 18-24 months, especially since the launch of Michael Lewis’ book Flash Boys, and the subsequent bid by the IEX to launch a new exchange in the US. Across the Atlantic, the possible merger between the London Stock Exchange and the Deutsche Borse groups has reignited the discussion on further consolidation in the exchange space and more broadly its implications for the future of exchanges. Largely unnoticed amidst this fanfare, a new exchange has been launched (or relaunched) in the US that could also have significant and far reaching impact on the industry. This is the story of a group of industry veterans, discontent with the current market practices and lack of actions to remedy them, who have come together to found a new exchange that looks to address the issues with a market based solution.

This is the story of the National Stock Exchange (NSX) even though it sounds a lot like that of IEX, its more publicized competitor that is currently waiting for regulatory approval. The NSX is actually one of the oldest stock exchanges and was originally founded as the Cincinnati Stock Exchange in 1885. It became fully electronic in 1976, moved to Chicago in the 1990s when it took the name NSX, then moved to Jersey City, NJ, was acquired by the Chicago Board of Exchange in 2011 before shutting down operations in 2014 due to failure to attract adequate volumes. A group of individuals with experience in the capital markets came together and formed National Stock Exchange Holdings in 2014 and took over the ownership of NSX. Leveraging the NSX’s existing technology assets but with new ownership and management team and fresh round of capital, the NSX was relaunched in December, 2015.

In a marketplace already crowded with 11 stock exchanges and many more alternative trading venues, NSX has identified a clear differentiator for its business model: access fees. The issue of access fees charged by the exchanges has been a topic of contention for some time now. In particular the issue of exchanges offering rebates to broker-dealers for providing liquidity has raised questions around conflicts of interest and investor protection. While there have been a lot of debates on this topic, concrete measures to address this have not been forthcoming. This is where NSX is looking to differentiate itself by offering a simple flat fee structure at significantly lower rate by simply charging liquidity takers 3 cents for every 100 matched shares and zero cents for liquidity providers. Notably, the exchange also looks to maintain a level playing field by not offering co-location facility, in a significant departure from current market practices where other exchanges offer members speed advantage charging a co-location fee.

The success of any trading venue depends on the amount of liquidity it is able to garner by bringing both liquidity providers and takers together on the platform. Many market participants, including some of the largest asset managers, have been asking for some time for a trading venue with low fess and level playing field for all investors. While NSX has taken the initial steps towards establishing such a marketplace, its success will greatly depend upon its ability to attract an array of participants to create a viable liquidity pool. Still in its early days, the exchange has been focusing on this issue and talking to a number of market participants to get them on board. If it gets traction in the market, it would be interesting to see how the incumbent players react. The large exchange groups of late have been busy focusing on numerous areas of the business, such as adding new asset classes, expanding into clearing services, growing market data and index business, as well as driving economies of scale through large scale mergers and acquisitions. As a result, focus on innovation in the traditional equities trading business has failed to keep pace with some of the other priorities exchanges have been focusing on lately. NSX’s initiative, along with that of IEX’s (with somewhat similar goals but different means), has the potential bring the focus back on the equities exchange business and re-ignite the next round of evolution in this space.

Interoperability driving evolution among European CCPs

Interoperability driving evolution among European CCPs
The current CCP landscape in Europe broadly consists of two types of players. In the first category belong the national CCPs that focus on a single market; the second category consists of the “interoperable” CCPs that clear trades conducted at multiple trading venues. With the growth in electronic trading and launch of alternative trading venues, firms trading in multiple markets needed to connect to different CCPs and fund collateral on separate positions. Such firms increasingly demanded a single CCP for efficient settlement and collateral management purposes. Regulators responded by allowing interoperability among CCPs whereby investors could choose at which CCP they wanted to clear their trades, and the two counterparties’ CCPs could interact among themselves to clear a trade. This introduced an element of competition in the CCP space as the CCPs vied to become the CCP of choice for trading participants. However, the extent of competition was still limited, as some vertically integrated exchanges refused to open up their clearing functions to other CCPs, while others gradually allowed access to multiple CCPs for trades executed on them. Interoperability among CCPs, albeit limited, has already resulted in significant efficiency improvement and cost reduction in the European equities clearing space. Moving on from voluntary provision of CCP interoperability by the trading venues, the next phase of evolution will center around mandatory opening up of clearing function through regulatory changes. Regulations such as the Markets in Financial Instruments Directive (MiFID) could force the vertically integrated infrastructures that were not inclined to allow interoperability for trades conducted at them previously, to open up and allow interoperability. This is likely to bring about more competition among the CCPs in Europe. Like CSDs, currently there are too many CCPs in Europe, all of which may not survive the increased competition. Players with wider market coverage, efficient technology and operational capabilities, strong capital base, and advanced risk models will be able to capture market share. Having achieved interoperability in the equities space, there are now talks of allowing the same for derivative instruments as well. But the case of derivatives may be different from that of equities. Under the interoperability model, the linking of two CCPs introduces an additional element of risk into the system. The risk could be more severe for derivative operations given the inherent higher risks associated with derivative instruments. Different CCPs may follow different risk management policies and practices, and this may create problems in mitigating overall risk and resolution mechanisms in case of default. Furthermore, some argue interoperability may disincentivize innovation in the context of derivative product development. Launching derivative instruments requires a good deal of research and development by the exchanges and only a few of the launched instruments succeed in the market, a situation analogous to the case of drug developments. Therefore, it is argued if exchanges lose out on the derivative clearing revenue because of interoperability that may discourage them from developing new products in the future.

Interoperability: potential game changer for Indian CCPs

Interoperability: potential game changer for Indian CCPs
India has many stock exchanges, but trading is dominated at two main exchanges – the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE). BSE is among the oldest stock exchanges in the world, while NSE was established as part of India’s economic liberalization process in the early 1990s. The NSE was quick to gain market share and now accounts for around two-third of stock trading and most of derivative trading in the country. BSE was slow to react to competition in the early days, but in the last five to six years has taken steps to up its game by making major changes in its technology. Structural issues with the Indian capital market have so far limited its ability to close the gap with NSE. The Indian CCPs that clear exchange trades are owned by the respective exchanges and at present only clear trades executed at the owner exchange. National Securities Clearing Corporation Limited (NSCCL) is the CCP for NSE while Indian Clearing Corporation Limited (ICCL) is the CCP for BSE. Interoperability among CCPs at an investor level is not allowed; i.e., investors can choose which exchange would execute their trades, but cannot choose which CCP would clear them. Therefore, in spite of having multiple players in the clearing space, there is not much competition among the CCPs. The dynamics in the Indian CCP space therefore are largely driven by the competitive developments on the exchange front. The capital market regulator SEBI allowed direct market access in India in 2008 and soon afterwards allowed colocation and smart order routing (SOR). This should ideally allow investors to execute their trades at any exchange of their choice. However, most of the liquidity is concentrated at the NSE due to its dominant position. Furthermore, since almost all of derivative trading takes place at the NSE, investors tend to prefer NSE for their equity trades as well, since that allows them cross-asset margining benefits of clearing trades in different asset classes at the same CCP. Because of this, smart order routing has not picked up in India yet. Thus algo trading reached around 15% in the cash segment in NSE in 2014, but smart order routing was only around 2%. Similarly algo trading was 70% at BSE’s cash segment, but SOR was around 1%. This shows BSE (and its CCP ICCL), with its improved technology and latency capabilities, is attracting a higher share of algo trades but is still unable to capture share in smart order routing, due to unique clearing arrangements in the market. Going forward potential allowing of interoperability promises to be a significant force of change for the Indian CCPs. It would give investors the freedom to choose their CCP, and if they get better latency and pricing from ICCL, they could choose ICCL regardless of BSE’s smaller share in trading volume. SEBI is considering this and is in consultation with a range of market participants. Eventual interoperability may be a boon for BSE and ICCL, allowing it to catch up with the dominant NSE and NSCCL.

HKEX’s China based strategy: fruitful past, uncertain future

HKEX’s China based strategy: fruitful past, uncertain future
A key reason behind Hong Kong’s high rank in terms of capital market development, in spite of being the 37th largest economy in the world, is its vicinity to China. Hong Kong acts as a conduit between Chinese companies and international investors, helping Chinese companies access capital from the outside world as well as providing Chinese investors access to investment opportunities in the Asian region; around half of companies listed on the HKEx are from China. Consequently, since the mid-1990s, Hong Kong’s capital market growth has largely been driven by growth of the mainland economy. Hong Kong’s exchange operator, the HKEx group, has built its core business around the China growth story and came out relatively unscathed from the crisis of 2008. A dominant theme in the group’s recent strategy has been to move even closer to the mainland market by connecting to the mainland’s stock exchanges and providing members of two exchanges mutual access. In November, 2014, HKEx launched the Shanghai-Hong Kong Stock Connect program, enabling Chinese investors to trade shares listed and traded in Hong Kong and vice versa; Shenzhen HK connect is planned in the near future. In the last three years China has been opening up the Renminbi (RMB), and Hong Kong is positioning itself as China’s offshore RMB center by building RMB capability and developing diversified RMB products. HKEx is looking to capitalize on this opportunity as well. The mainland’s high demand for raw materials and international trades in commodities is another driver for the HKEx group. It recently acquired the London Metal Exchange (LME) Group to signal its intent to grow a commodity business. Leveraging on this acquisition it plans to build an “East Wing” of commodities clearing for the whole Asian region and during Asian time zone. HKEx’s future prospects, like its historic growth, are contingent on the mainland dynamics. While it has many upsides, too much reliance on China can have downside risks in case of slowing down of the Chinese economy or emergence of policy hurdles. Recent slowdown of Chinese economy has raised concerns about the prospects for its future growth and its potential adverse impact on the China-Hong Kong trading link. On the commodities front China seems uninterested at this point in taking help from other markets. Furthermore, commodities trading practices differ between China and Hong Kong as investors in China, unlike those in Hong Kong, want physical delivery. This requires significant warehouses that the HKEx is still in the process of developing. Lastly, neighboring Singapore will present competition in the OTC space as it also plans to be a major player in the region focusing on South East Asia and China.

The European post-trade landscape: regional integration initiatives paving the way for industry consolidation

The European post-trade landscape: regional integration initiatives paving the way for industry consolidation
The biggest changes in the global post-trade industry are taking place in Europe. The Eurosystem’s attempts to create a single market and associated market infrastructure are transforming for the European post-trade industry. Eurosystem’s Target2 Securities (T2S) project and the CSD Regulations (CSDR), along with numerous other regulations, are reshaping the European CSD (Central Securities Depositories) landscape. As settlement gets outsourced to the T2S platform, CSDs will lose a key revenue stream and will have to find new revenue by developing new offerings. Asset servicing capabilities will be a natural choice for many CSDs, but that may not be a winning proposition because they will face stiff competition from custodians, who have been offering these services for a long time. T2S will allow CSDs to expand their market coverage by becoming investor CSDs and offer domestic clients holdings of foreign securities. Efficient management of collateral has become of utmost importance, and T2S’s single liquidity pool allows CSDs to develop new collateral management solutions for their clients. EMIR requirements requiring holding of initial margin for derivative trades with a licensed securities settlement system enhance their opportunity, and most CSDs are developing collateral management solutions in response. Many CSDs are developing similar solutions to stay competitive in the post-T2S world, and there may be oversupply in the market along with duplication of efforts and investments. It is expected that the industry will go through consolidation. It is unlikely that CSDs will go out of business, at least in the short term, but their role will shrink significantly. In a new report we discuss these and several other key issues relating to the European post-trade market participants, including (I)CSDs and CCPs.

Asian post-trade landscape: CCPs, CSDs aiming for global standards

Asian post-trade landscape: CCPs, CSDs aiming for global standards
The Asian financial services market is highly fragmented along national boundaries. Lack of unified political will has resulted in regulatory and market practices that vary widely among the countries. The trading landscape in the Asian countries has undergone radical transformation in the last 10 to 15 years. As the countries in the region slowly open up their economies to the outside world, investors from the developed economies have flocked to emerging Asian countries in search of higher returns and portfolio diversification needs. This has resulted in expansion of products and asset classes. Electronification of trading activities has resulted in growing demand for electronic trading tools and ever-lower latency. Consequently, trading activity is high in the Asian countries; in fact many of them rank highly in the world in terms of equity trading volume at their exchanges as well as in exchange traded and over the counter derivative turnover. Continuous evolution in the trading landscape necessitates changes in the value chain, namely the post-trade functions. Post-trade functionalities generally include clearing, settlement, and custody services that are served by central counterparty clearing houses (CCPs), central securities depositories (CSDs), and custodians. The CCPs and CSDs are fundamental in ensuring smooth, efficient, and stable operations of trading markets. Historically post-trade industry has not received adequate attention, but that is changing now due to greater regulatory focus on managing risks at systemically important institutions. In a recent report we discuss the trends and developments taking place among Asia’s CCPs and CSDs. Some of the highlights from the report include:
  • There is a great deal of “vertical integration” in the Asian post-trade industry, with exchanges holding majority stakes in most CCPs and many CSDs. There is also a trend toward “horizontal integration” among the Asian post-trade players with growing coverage of products and asset classes.
  • Asian regulators have traditionally taken a conservative approach in shaping their financial markets. Therefore since the crisis of 2008, risk management has emerged as the single most important item on the regulators’ agenda. This has brought greater attention to policies and practices at the CCPs and CSDs.
  • Liberalization of Asian economies is creating opportunities for trading and clearing new products and asset classes. The post-trade players are developing capabilities and infrastructure to support new products.
  • Almost every Asian country is mandating central clearing of OTC derivatives and reporting of trades. Incumbent national CCPs are called upon to facilitate central clearing of OTC derivatives.
  • There is not much competition in the Asian post-trade industry, and except in a few markets that is likely to be so going forward.
  • Most Asian post-trade players, particularly the CCPs, are undertaking major technology transformation initiatives spanning years and spending significant resources to upgrade and overhaul their systems and processes.
Find out more about this report here.