What technologies are currently of most importance to help you achieve best execution on a consistent basis?
Nick Wood: Best execution is a process which ensures that, from origin to the settlement of a trade, the outcome is the most optimal it can be for the client. By virtue, this will include many important components.
Focusing on execution, these components include transaction cost analysis (TCA), pre-trade analytics and the various execution tools which are available. If we break these down, TCA is vital for validating your process and highlighting scope for improvement. Any significant costs and/or potential for improvement should be identified through TCA.
It is then the outcome of this validation that poses questions, such as “Do I need a better understanding of the trading environment?” and “Is my style of execution optimal?” This is where pre-trade analytics become vital.
Thirdly, you need to be able to action any conclusions by being able to execute through whichever method is ideal to the trading environment you are facing. So, all these points are key to achieving best execution on a consistent basis because each one will enhance the others and help to improve the overall process.
I would also suggest that if one of these elements is weaker or is missing from your workflow, then this area requires particular focus and will be the most important aspect until any weaknesses are remedied. It’s also important to be malleable, as the reality is that for each area of focus there are several different products on offer, each proposing a variation of a similar theme and with the continual evolution of technology, what is pertinent now may not be in 12 months’ time.
Why are pre-trade analytics becoming such an important component of the trade lifecycle?
NW: Some of the key parameters which need to be observed for optimal execution are volatility, spread, liquidity and hit ratios. The importance of the parameters will also depend upon whether the trade is low touch, where arguably hit ratio and reject rates rank higher, or high touch, where liquidity and spreads are more critical. It’s stating the obvious but executing 1million EUR/USD is completely different to executing 50 million GBP/USD in terms of liquidity and therefore the market information that must be assessed is different.
The tools, which are increasingly available, give a greater insight into live market volumes, depth of market and spreads. These are powerful in forming an execution decision. Having said that, quite a few of these indicators are still lagged and therefore the trader needs to be adaptable. Market environments can and will change and maintaining a static approach if circumstances have changed won’t necessarily produce an optimal outcome.
When incorporating new technology into your execution workflow, what are the key characteristics you should look out for?
NW: I think the first and most important characteristic you should consider is “Does this improve my current process?” whether that is better compatibility to (or consolidation of) existing systems, greater access to liquidity providers or an improvement to your execution tools, the addition should demonstrably improve your workflow and expected outcomes.
In terms of a broad characteristic I would suggest that the provider needs to be one who is adaptable to changes as they arise and able to implement change quickly. In the past two years we have onboarded a new execution management system (EMS) and new TCA provider, our process for selection was the same insofar as we met the various vendors available, performed rigorous analysis which enabled us to arrive at a shortlist and from there a decision was made after consultation with a broader group of stakeholders.
While the process was the same, the specific technical characteristics and attributes we were looking for were very different, simply because the two systems were being onboarded to improve different stages of the process.
How do you establish when it is better to use third-party TCA, what are the standards you should be expecting from providers and how do you ensure the independence of the data?
NW: It wasn’t many years ago that TCA was a box ticking exercise. These days, TCA has become a powerful tool for validation and improvement of a process, but to implement change you need to be confident that the information you’re being given is correct, otherwise the changes you make may be unwarranted.
In a fragmented market such as foreign exchange where access to data is expensive, ensuring you access the most complete price tape for spot and forwards usually means having to utilise a third-party provider. So, the first standard is accuracy of the price data points.
Second is the depth of analysis on offer, which has evolved well beyond cost versus mid. We now have the ability to compare each trade to several benchmarks and then use our TCA database to look for themes which may imply that elements of our counterparty selection or trade workflow need attention.
How do you go about evaluating technology providers and starting a dialogue? What would you recommend to those who might be looking to do begin this process?
NW: It is key to understand what it is you require for your specific workflow. For example, if you are focused on adding algorithms to your list of execution tools, are you happy using multiple single dealer platforms which may give access to greater pre-trade analytics, or would you rather access via an EMS which consolidates them all into one place, with the potential added benefit of improving post trade analytics?
Understand your needs and then begin obtaining as much information from others as possible. Speak to those in a similar role. Conferences can be a useful arena for this but be mindful that any endorsements come with the caveat that what is key for others may not be as important for you. It’s then vital that you assess providers directly and build as complete a picture as possible before you reach a conclusion.