Performance vs. reliability: the exchanges' challenge

As the arms race between exchanges continues to escalate, evidence is mounting that technology sophistication is coming at the expense of reliability.
By None

As the arms race between exchanges continues to escalate, evidence is mounting that technology sophistication is coming at the expense of reliability.

In recent weeks, the curse of the technology bug has struck twice, with multilateral trading facility (MTF) Turquoise and NYSE Euronext falling victim to faltering technology.

Turquoise, owned by the London Stock Exchange (LSE), was the first of the exchange group's markets to move over to a new trading platform supplied by Sri Lanka-based technology provider MillenniumIT which the LSE purchased a year ago to meet its internal IT needs.

But Turquoise suffered two issues during the first two days of operation on its new platform, including an internal network issue that delayed the start of trading on 5 October by an hour and 15 minutes.

Despite the initial teething problems, the LSE insists it is managing competing priorities carefully.

“The migration to MillenniumIT’s technology involved a complex, large-scale overhaul, with computers, operating systems, networks and firewalls all being replaced,” Mark Ryland, head of technology for Turquoise, told “We had one small piece go wrong on the Tuesday [5 October], which had not happened in the five months of rigorous testing prior to the launch. We are constantly learning and making tweaks to the system.”

After the problems with Turquoise, the LSE Group may delay the next phase of the migration to MillenniumIT of its UK cash market. Although the original migration date for the UK cash market was 1 November, the LSE has added a new testing date on 30 October, which is likely to delay the switchover. The LSE has set a contingency date of 15 November for the UK cash market migration, but will communicate a final go-live date to the market after the additional testing period.

Earlier this month, exchange group NYSE Euronext also reported separate issues on its US and European markets. On 11 October, trading in 60 US equities on NYSE overran into the close period, followed by a 40-minute outage on its equities, bonds and exchange-traded funds European markets on 13 October, which the exchange described as the result of “human error”.

In the post-MiFID environment, which allows European shares to be traded using a range of different trading venues, exchanges and MTFs have placed an increased emphasis on matching technology and connectivity to attract a broader range of market participants. As well as being a crucial element that allows high-frequency trading strategies to thrive, latency is also important for traditional market participants.

“Liquidity fragmentation has meant that buy-side firms now need to use smart order routing to split up large orders and tap multiple pools of liquidity. To do this effectively, orders have to be filled by exchanges in a timely manner,” said Frederic Ponzo, managing partner at Grey Spark, a management and technology consultancy. “In addition, attracting a significant level of high-frequency trading will also give traditional market participants more liquidity to interact with.”

The exchange battleground has also expanded into value-added services like data centres and co-location to further meet firms' low-latency trading requirements. On Monday 25 October, London-based derivatives exchange NYSE Liffe was the last of NYSE Euronext's European markets to migrate to its new Basildon data centre.

Following the migration, the exchange group's clients will be afforded aggregated co-location access to all its European trading venues.

“When we first devised this project three years ago, we realised that the growth of electronic trading and impending fragmentation would make data centres a critical part of our value proposition in the future,” Stanley Young, CEO of NYSE Technologies, the exchange's commercial technology unit, told earlier this month.

However, some market participants have claimed that the cost of hosting trading engines is more expensive at NYSE's Basildon data centre than other exchanges and independent data centre operators, because of the charges relating to the use of NYSE Euronext's SFTI network. SFTI provides access to low-latency connectivity to multiple markets and third-party applications but is the only network available in the Basildon data centre.

NYSE's data centre strategy stands in contrast to the path taken by the LSE, which has seven network options for routing orders out of its hosting centre and, unlike NYSE, opens its facility to software vendors.

Options IT, a provider of managed hosting solutions, will be one of the first vendors to take up the service. The firm reported today that it had signed up a high-frequency trading client, which will use its PIPE Velocity trading solution to trade on the LSE via its hosting facility. PIPE Velocity supplies low-latency market data, connectivity and vendor-neutral application hosting as a managed services for US, European and Asian markets.

“The LSE's move to open its co-location facility to all market participants and service providers is a step to ensure diversity and growth of their trading community at the data centre level,” said Nigel Kneafsey, CEO of Options IT.

But according to Ponzo at Grey Spark, demand from exchange clients for the fastest possible access to the market has the potential to cause operational weaknesses.

“Trading venues can achieve a lower latency by eliminating as many infrastructure layers as possible between the core of the matching engine and the broker system,” he said. “By removing bottlenecks and firewalls, there are no floodgates to protect against a misfiring algo, for example. The compromise between reliability and performance has shifted more towards performance due to the demands of exchange members.”

Additionally, Ryland at Turquoise notes that the importance placed on technology-based innovation in the current market environment means the risk of outages and other failures is becoming an occupational hazard.

“If you never change anything, you are less likely to have an outage,” said Ryland, “but our clients and shareholders demand that we change to remain competitive in a fast evolving marketplace”.

The operational risk created by technology migrations and service enhancements has not escaped the sell-side. Following the Turquoise outage, brokers voiced their concerns over the MTF's ”big bang' technology migration – as opposed to a phased implementation – during a meeting of trade body the Association for Financial Markets in Europe (AFME).

The trade body raised its concerns to the LSE via a letter and went on to facilitate calls between its members and the exchange following the initial testing periods. AFME is now working with the LSE to ensure the remaining testing periods are successful.

“Many brokers weren't entirely satisfied with how the Turquoise migration was handled and the amount of testing time that the banks had,” commented Andrew Wells, head of equity business strategy, EMEA at Citi. “However, as per the Financial Services Authority's recent guidance, they did communicate the outage to the market in a timely manner.”

Wells added that ”big bang' approaches to technology migration could have knock-on effects for the price discovery process.

“On day one after the Turquoise migration, there was very little volume mainly due to the fact the brokers were hesitant to go with full volume. There is always nervousness when there are any pan-European exchange/MTF migrations or mandatory system upgrades,” he added. “Given the LSE has such large volume normally, any migration to a new platform will need to ensure volumes are maintained at pre-migration levels to ensure the quality of the LSE’s price formation is maintained especially as a number of other market participants rely on these prices.”

The LSE declined to comment on its discussions with AFME.

On 4 October, Turquoise's first day of trading on its new platform, the MTF's value traded slumped to €410.4 million, compared to €1.62 billion on 1 October, according to Thomson Reuters Equity Market Share Reporter. On 5 October, when the technical issues forced a late market opening, Turquoise traded €539.8 million. Volumes have since recovered, with €906 million traded on 22 October.