Post-Brexit questions loom over Europe

Post-Brexit questions loom over Europe

The post-Brexit environment is still quite hazy, but the politicians and regulators in the EU are trying to lay markers for future discussions and negotiations. There have been several comments that betray a fear of further demands for exits from  the EU by the politicians and citizens of other countries that have high levels of Euro-scepticism, such as the Netherlands, France and Greece. 
The French president recently stated that clearing for Euro-denominated securities would no longer happen in London and this "could serve as a lesson" to those who are questioning the need for the EU. Strong words indeed for a market that currently gets jittery at the drop of a hat. In a similar move, the president of the German financial regulator, BaFin, has  also expressed doubts on the possibility of the LSE-DB merger if the resultant entity is based in London. The exchanges themselves have mentioned their intention to go on inspite of the added complexity due to Brexit, but I am sure they are keeping an eye on the political headwinds that are developing around them.
On their part, the British politicians and regulators are trying to calm the markets down and lull them into believing that little has changed in the aftermath of Brexit. The desire to delay invoking Article 50 to officially confirm UK's demand for exit is an example of this strategy, although EU leaders are opposed to this move. The claim by the politicans who supported Leave that there would not be any major and immediate economic or financial change after the referendum is another attempt of this nature.
While both these parties would probably be interested in discussing the issues that have arisen behind closed doors, in public they have to make the right noises to ensure damage control. There is also anger and resentment in the EU at the UK's decision and this shows from time to time in some of the comments. The German Chancellor Angela Merkel has a very balanced attitude to Brexit, but she has also conceded that the UK cannot enjoy access to the EU single market the same way as it did earlier, something that was suggested by Boris Johnson. There is a genuine concern in the EU to prevent cherry-picking in this regard. 
The various questions that have arisen post-Brexit will take a while to be answered. But what is clear is that there is going to be a significant parting of ways and the separation is going to be less than amicable, at least in public. For capital market professionals, in this landscape the discussion ends up being about political rather than economic or financial issues, in spite of trying otherwise. The latter have to take a backseat at time like this and this might continue for the weeks and months to come.

How do you say “Brexit” auf Deutsch?

How do you say “Brexit” auf Deutsch?

I was in Frankfurt a couple months back to host a client roundtable and there was a palpable rubbing of hands in anticipation of a possible Brexit. It reminded me of the time I had spent in Frankfurt in the late 1980s, right after university, back when the only real skyscrapers in town belonged to Deutsche Bank. There was a real sense in that era that with the coming together of the European Union in 1992, Frankfurt stood to emerge as a global financial hub.

Obviously, London was to usurp that role. For reasons of language, geography, regulation and infrastructure, that ascendance seems in retrospect to have been inevitable. And yet now, with the UK vote in favor of Brexit, London’s preeminence appears to be at risk.

Jangled announcements of redundancies by a few large banks belie the fact that once the dust settles, financial institutions will shift into a wait and see mode. Yet to say that much remains to be determined is as interesting as saying that the original Star Wars movies were better than the litany of duds that followed.

I hate to fault my friends in Frankfurt, who have fostered the growth of a robust fintech sector and capital markets businesses, for seeing opportunity in the UK decision to step away from the Continent. Schadenfreude is after all, a German word. But I believe that Frankfurt’s aspirations are overdone. Wasn’t it just a few months ago that HSBC and a few other institutions were threatening to decamp Britain for Hong Kong and Singapore? Wisely, they decided to stay. The acquisition of the London Stock Exchange by the Deutsche Börse was another vote of confidence in London.

The ties between the UK and Europe are thick (London is home to second largest community of French citizens after Paris) and mutually beneficial. They are unlikely to be undone by this plebiscite. Yes, the vote will give heart to seccessionists elsewhere in Europe, and increase the fissiparous tendencies (look for another Scottish independence referendum) already present in the UK.

But it’s important to take the long view. The UK has survived, even thrived, in the wake of greater challenges, including strikes, war and the loss of global empire. It is a mature democracy that hosts a financial services hub unrivalled in the world history. Surely it can work through this Brexit.

To Brexit and beyond!

To Brexit and beyond!

So the Brexit has finally happened. The equity, forex and bond markets are still reeling from the news, the volatility probably caused as much by the fact that Brexit was unexpected as of yesterday night in the UK as by the event itself.
While the overall impact will reveal itself over the next several years, in the next few months the capital markets would have to deal with issues such as the future of the LSE-DB merger. Does it make sense anymore, and if yes, how do the two parties proceed? One would expect that now there would be political pressure to ensure that trading and jobs do not move away from either London or Frankfurt. Keeping all stakeholders happy would be a more complicated affair, although it could still be done.
EU wide market infrastructure regulations such as T2S and MiFID II would also now be seen in a new light. London was seen as the financial capital of Europe. The EU would now have to proceed with these significant changes at a time when the UK is preparing to exit, and is weighing its options in terms of how best to deal with the rest of Europe. It could take a middle ground as Switzerland has taken, or position itself even further away with more legal and policy independence but less overlap with the European capital markets.
In an earlier blog that considered the possibility of Brexit, I stated that technologically this might be the best time for an event such as the Brexit. Technology is more advanced and we are better connected than ever before across nations and continents. However, undoubtedly there will still be significant impact from an economic, financial and demographic point of view. As always, there will be winners and losers. As a neutral, one hopes that the people in the UK are able to achieve the goals they had envisioned in making this decision.

French effort to use Blockchain for SMEs could have relevance for emerging markets

French effort to use Blockchain for SMEs could have relevance for emerging markets

The recent news that a French consortium is beginning work on building post-trade infrastructure for trading of SME stocks in Europe will be of great interest to market participants across the world. The consortium comprises of BNP Paribas Securities Services, Euronext, Société Générale, Caisse des Dépôts, Euroclear, S2iEM and Paris Europlace.

There have been several notable developments with regard to experiments and adoption of Blockchain and distributed ledger technology in the leading capital markets globally. However, the signficance of this particular announcement lies in the fact that it tries to address the needs of the a sector that usually struggles to obtain easy access to the capital markets. If successful, such a project could drastically reduce the time taken for post-trade operations, slash costs and generally make it easier for SMEs to raise funds.

In a recent Celent report, we had found that most of the leading global post-trade providers believed that it was still a little early to expect major changes due to Blockchain technology. While this may be true, the current development would be of a lot of interest to the emerging markets around the world. In several such countries, the cost of accessing capital markets is comparatively high and the technology is also often found lagging, as in the case of European SMEs. If the French effort becomes successful, it could pave the way for application of Blockchain technology to specific tasks in emerging markets, not just to enable SMEs to raise capital better, but to help the overall market to leapfrog in terms of modernizing the market infrastructure.

Regulators and market participants in emerging markets should now see Blockchain and distributed ledger technology as a relevant means for streamlining their trading infrastructure. To that end, it is also important that they encourage firms within their jurisdiction to experiment and adopt such technology for specific local applications and requirements, and not just wait to see how it evolves in mature markets in the next few years. 

The next wave of fintech disruption

The next wave of fintech disruption

The bank has traditionally sat in the center of the broader financial world.  The post-crisis challenges have allowed fintech firms to capture market share in traditional banking endeavours such as payments, lending, investments, and financial planning. First wave fintech disruptors with no asset base or legacy banking infrastructure have made significant inroads into challenging banks in their core businesses. Banks have reacted in a variety of ways to these challenges with disparate degrees of success, but only those actively partnering with and supporting fintech innovators have gained a competitive edge.

Similarly, exchanges have stood at the centre of the capital markets for much of human history. The years of connectivity, combined with the earth-shaking changes in the ability of firms to access capital and a global regulatory model that has focused on risk mitigation, have created an ideal world for next wave disruptors to bring solutions to complex trading, liquidity, regulatory, and operational problems that have been difficult for incumbent firms to solve on their own. This investment is going toward blockchain, RegTech, AI and other tools for driving change in the capital markets.

As it has happened with banks, those market infrastructure providers that decide to embrace, leverage and coexist with upcoming fintech firms will be able to further their historical strengths and stay at the core of financial markets.

Since 2008, capital flow into fintech investments has grown sixfold. Last year, about $19 billion in capital was invested in fintech across approximately 1,200 deals, nearly doubling funding flows in 2014. We have seen banks partnering with fintech, filling gaps and bringing critical experience and enterprise scale to these endeavours. Major parts of the financial services ecosystem run the risk of being transformed by pioneering financial technology firms. At the same time, strategic firms have developed innovation centers of excellence, laboratories, and their own CVC funding vehicles to invest and guide in areas of core interest to these firms. CVCs now represent 25% of global fintech capital flows.

This week the Deutsche Bourse announced the creation of its CVC DB1 to fund innovativation in the capital markets. Celent, on behalf of Deutsche Bourse, explores this next wave of fintech in the capital markets and highlights the power of future collaboration between leading financial infrastructure players and fintech firms.

Future of Fintech in the Capital Markets can be downloaded from the DB1 Ventures website. I look forward to your comments.

Is this the best time for an event such as Brexit?

Is this the best time for an event such as Brexit?

It is difficult to read financial news at present without coming across extensive coverage of the Brexit referendum in the UK and its possible impact. As part of the financial sector, capital markets could be at the forefront in terms of bearing the impact of any likely change. There are already widespread claims of how London could lose its position as the premier European financial center. Of special relevance is the advantage that London has due to the 'passporting' principle, which allows leading U.S. or Asian banks and other firms to access the Europan market without any restrictions. Certainly with regard to these firms, if the UK leaves the EU, US and Asian banks that have based their teams in London while serving the European market will have second thoughts about doing so. Different alternatives have been touted, including Paris, Frankfurt and even Dublin. Some believe that all of these cities, and some other European financial centers as well, would benefit from the departure of the leading global banks from London, but this could lead to fragmentation in the European financial industry and reduce the effectiveness and competitiveness of European firms. 
There are various views and opinions that have been expressed during the run-up to the referendum. Many of these hold water. But in my humble view, when it comes to competitiveness, if the departure of the UK from the EU does lead to a fragmentation of the European financial industry, then this is the best time for it to happen. Technology has today advanced to a level that to an outsider, there would be little tangible difference if a thousand people in a bank are based across four difference financial centers in Europe instead of being in one place they were earlier, namely, London. There would certainly be a one-off rise in cost due to such as move, but the industry should be able to take that in its stride. Furthermore, a more fragmented industry in Europe would also have the ability to address national and regional requirements better than a single leading financial center. So financial creativity and innovation might get a boost across Europe. One would expect that London would continue to be a leading financial center globally, but it might be forced to reinvent itself to continue to be relevant for global banks and financial firms from outside the UK. Therefore, as a neutral and a student of capital market technology trends, Brexit does not necessarily hold many fears and might even lead to some interesting outcomes. Whether people in the City of London or the rest of the UK or indeed Europe have the same view, is of course, another matter!

Is exchange consolidation desirable for global markets?

Is exchange consolidation desirable for global markets?

The CEO of Deutsche Börse made some very interesting remarks at the recent IDX derivatives industry conference in London. He argued that the proposed merger between Deutsche Börse and LSE would aid the development of trading in global markets because it would unite and harmonize the European capital markets, which are more fragmented than those in the US and Asia according to him. However, in this author's view, the merger of two large global exchanges raises as many questions as it answers. While one can agree that there would be less fragmentation and more harmonization, the main issue is whether the European market has a high level of fragmentation when compared with its global counterparts. Due to the European Union, European capital markets are much less fragmented than the Asia-Pacific, Middle-East and Africa, and Latin America. There has been a great degree of harmonization over the years, driven both by common regulation and industry mergers & takeovers. It is difficult to argue that there is a pressing need for more integration at this point. Instead, the main argument for the merger of LSE and Deutsche Börse is the fact that it would create a larger exchange that would be able to take on the likes of CME, Nasdaq and some of the leading Asian exchanges more easily. The expected reduction in headcount would also make for a more efficient, streamlined, and competitive exchange. But there are concerns that remain from an antitrust point of view and it is quite likely the Deutsche Börse CEO was trying to assuage these when he spoke about the positive effect of such a merger on global markets. If the merger does go ahead with regulatory approval, the advantage for other leading exchanges would be the higher possibility of such mergers and takeovers being approved in the future as well, since these could well be expected in an industry that is undergoing heavy consolidation due to economic and technological factors.

Benchmark manipulation and market surveillance

Benchmark manipulation and market surveillance

The CFTC has recently revealed the instant messages written by Citigroup traders related to benchmark manipulation. Having recently published a report on Market Surveillance industry trends and soon to publish another one on the leading vendors, this seemed quite relevant. Current surveillance systems, be it for trade or communications surveillance, use the latest technology to capture possible instances of market abuse or manipulation. The capabilities are far beyond what was available a few years ago, and are holistic and comprehensive in nature. But in the end, the system is only as good as the people using it. The recent revelations have put a question mark over not just the traders involved in the benchmark manipulation scandal, but also the management of some of the leading institutions. Some firms are now going to great lengths to monitor their traders, but this is not an end in itself. The industry culture has to be transformed. The next instance of manipulation will not be in the same place and firms would have to overcome the motivation to profit in order to ensure compliance. The rise in the levels of regulation in the last few years probably would play the part of a positive reinforcer in the decision-making process and help influence industry culture, but is not a guarantor of propriety.

The battle for the soul of exchange-based equity trading?

The battle for the soul of exchange-based equity trading?

The recent statements by Nasdaq regarding the possible use of a trading delay by the proposed IEX Exchange puts the spotlight on a battle for supremacy not just between rival exchanges, but very different philosophies regarding what the ultimate role of exchanges in the global capital markets should be. The established exchanges, willingly or unwillingly, represent the status quo in terms of how exchanges should function. IEX on the other hand hopes to represent the interests of those trading participants who believe that they have been left behind in the race for speed in today's capital markets, especially the retail participants and the smaller buyside. It seems like an inevitable outcome in the aftermath of the global financial crisis, which has stoked the debate on economic inequality and the unfair advantage that a select group of trading participants have over others due to their advanced technological capabilities and use of highly sophisticated financial products. 
Getting back to the objections raised by Nasdaq over the SEC proposal that any delay of less than a millisecond could qualify as immediate, which would enable IEX to operate in the way it wants, there is certainly some substance in Nasdaq's argument. The SEC would have to come up with a solution that is acceptable to both sides, and does not leave it vulnerable to legal challenges. It is going to be an interesting couple of months for industry obervers as they follow the debate over the fairness and validity of the SEC proposal, and the decision on the IEX application.

Being smart with artificial intelligence in capital markets

Being smart with artificial intelligence in capital markets

Artificial Intelligence (AI) is the new buzzword to talk about on the street. Financial institutions need to embrace AI, as we have explained in our January report, or else they risk to lose competitiveness or be coded by the regulators more than they can do it themselves.

I am in NYC next week to share Celent’s view on AI for capital markets. A little preview for your here.

Today we are at a crossroad where data scientists have the computing power, the alternative mind-sets to search and the willingness to look for narrow AI solutions, not the wide AI brain that we should get to in 2030 according to experts. This enables vendors to come up with amazing solutions from Research Scaling with Natural Language Generation to Market Surveillance/Insider Trading with Machine Learning Natural Language Processing or even Virtual Traders via Deep Learning of technical analysis graphics traders look at to take decisions.

The amount of data available is another big driver for the rebirth of AI, and regulators are looking at ways of accessing that data and using it. This is borderline what my colleagues would call RegTech, and it’s coming.

Our Q2 agenda reflects our understanding that you want to know more about AI: we will share ideas on solutions for the buy side, for exchanges and for the sell side. But in the meantime I hope to bring back some cool ideas from the big apple, hopefully also from the secretive quants working in the dark Silicon Alleys.

Most of the vendors I have profiled are specialists’ boutiques, but the cost of such research is however so enormous that generalists are trying to productize their fundamental research for various sectors, from health to homeland security, including financial services in partnership with financial institutions.

This morning I woke up to great news that Microsoft is at the forefront of Deep Learning on voice, imagine what this could bring to Anti-Money Laundering or Insider Trading products.  The other news was that some top quants of Two Sigma just solved an MRI algo to predict heart disease, and I hope other great minds will, as most of them usually do, also give back to society by applying their amazing knowledge to such grand challenges.