The asset management industry has entered an era of consolidation. New powerhouses have been born out of structural headwinds, such as the rise of passive investing and a continual squeeze on profits, in a trend which looks set to strengthen in the coming years.
Standard Life Aberdeen, Janus Henderson and Amundi Pioneer are among the completed high profile mergers the industry saw this year.
Typically following a union of two asset managers, the combined entity seeks a way to achieve economy of scale, a more diverse family of funds, further investment gains with the lowest possible cost and a single workflow, and best execution policy. But once the dust has settled on a merger, trading and execution businesses on both sides of the deal face a far greater task.
Although combining trading desks may initially sound easy enough, there are a multitude of factors to be considered and key decisions to be made before trading and execution is bound under one business. Separate systems, different cultures, regulatory requirements and policies, and workflow of the combined trading businesses all have to be considered after the initial tie-up is concluded.
“When you buy a company, you also buy their investments, trading and execution. Most companies we speak to tend to be very nervous and careful about affecting the trading and asset management structure of the firm they are acquiring,” says Joshua Satten, director of business consulting at Sapient Global Markets.
Painful and difficult process
Technology is perhaps the greatest challenge for asset managers looking to combine trading desks after a merger. Two desks will likely operate different order and execution management systems to trade different instruments according to portfolio style and a variety of regulatory or investor requirements. Alongside this, there is transaction cost analysis tools, market data and analytics, and various other technology products and vendors to consider.
“Merging trading desks is a very painful and difficult process,” says John Adam, global head of product strategy at Portware. “The challenge is combining two technology stacks that are specialised and built to run funds worth hundreds of billions of dollars, it creates problems.
“The way we look at buy-side trading entities is in terms of workflow, the technology isn’t an end unto itself so it’s about recognising alpha and maximising efficiency of both desks. The size and scale of orders generated by a surge in assets under management generates a truly massive amount of order volume for those trading desks.”
After overcoming the initial shock of a mega merger, both parties are then tasked with digging down into the nuances and vast differences between the two desks. For a chief technology officer overseeing such a project, the majority of time will indeed be spent investigating the workflows of both shops to decide which systems will lead the trading activities of the combined desk.
“There is a technology hurdle in trading where you can’t necessarily realise the synergies and efficiencies straight out of the gate,” says one veteran head of trading with experience of such an integration process.
“The desks have to undergo a transition period where there can be two different but functioning TCA providers, EMS or OMS providers or all three, running through different channels for a period of time. That is inevitable; two firms simply won’t come together and seamlessly integrate. With a merger of desks it’s about the dialogue of finding the best process.”
Not all recently merged entities would look to integrate their trading desk in the same way and this can very much depend on the size of both asset managers. For example in some cases, the EMS would be left alone and the larger entity of the two would become the incumbent. There would then be an adoption of their vendor as they have the bigger relationship. Yet, it’s certainly an opportunity for an asset manager to redesign its architecture and move systems onto a more efficient, cloud-based technology.
Once completed, the merged trading desks will certainly reap the rewards of moving onto a single system for a more intelligent unified trading operation. The everyday work of traders may be different, but ultimately what they do is very similar so building a platform and single trading workflow can simplify and automate processes across the business.
“It’s interesting when you take two asset managers who are merging because the trading desks can be so different,” the head of trading adds. “The first thing to look at is the workflows and systems; we all have access to the same vendors but workflows, culture and philosophies can be vastly different. At a high level it can look as though we are doing the same process but as you dig into the nuances, it’s amazing how distinct the processes actually are.”
Experts in the buy-side mega-merger and those with experience of the process agree integrating trading operations can present both opportunities and challenges. Following a merger, the asset management firms are ultimately looking to achieve economy of scale, efficiency and trade automation. The process, however, will very much depend on the individual firms looking to operate under a single combined business.
“It’s a huge opportunity, to strengthen relationships for example, but in many cases consolidating the execution or portfolio management sides of each business can create less value. Particularly for larger firms who tend to focus less on trading and more on research or analytics when looking to merge,” Satten explains.
In some cases, particularly with the larger mergers, it can mean traders are at risk of losing their jobs during a restructuring process. For example, Standard Life Aberdeen decided to cut around 800 jobs following the completion of their merger. The reduction in headcount will be carried out over the next three years and a statement from both firms explained the cuts would help the combined entity achieve cost synergies through restructuring where duplication currently exists.
On the sell-side it’s a similar story. Shortly after Virtu Financial’s acquisition of KCG earlier this year it was revealed the headcount of the combined entity was slashed 31% from 1,100 in December 2016, to just 755 in August this year.
But this isn’t always the case - especially on the buy-side - and achieving efficiency and trade automation doesn’t necessarily mean a reduction in headcount on the trading desks. Adam explains the buy-side operates differently following a merger and some of Portware’s clients have automated their order flow by up to 50% without having to disrupt or downsize the amount of traders on the desk.
“Traders are valuable to the buy-side and they don’t want to waste the human capital if they can’t outperform an algorithm or a machine. Instead, they will be placed on the more difficult trades where their skills matter the most,” Adam says.
The buy-side’s appetite for consolidation is in its infancy and experts agree should profits continue to fall while passive investing and regulatory requirements continue to rise, the buy-side will indeed continue to merge. As each merger is completed, the real work truly begins for those firms joining forces. If desks are merged instantaneously, or nothing is done at all, the consequences could be severe.
Despite its challenges, integrating trading desks after a merger is truthfully an opportunity for the asset managers to overhaul, update and streamline trading workflow to achieve those sought-after cost synergies, efficiencies and trade automation.