Is time on your side?

25 August 2011

By Karen Bertoli,
Chief Marketing Officer

Determinism and flexibility - a look into the latest innovation from the financial technology world...

So, is time on your side? If you’re a bank, a hedge fund or proprietary trading firm in the US or Europe, most likely, the answer is no. Systematic trading has matured to the point where regulatory bodies were bound to step in and create workable structures. Recent history dictates necessary risk controls for banks are crucial in today’s systematic trading marketplace.

Challenges that lead to FPGA technology deployment in the financial markets

Challenge 1: Regulatory requirements

Unfiltered access trading obviously forced regulators in the US and Europe to ‘rethink’ how best to control and protect the financial community from the possible impact of negative events seen in the recent past. The freedom to trade under any name lacked serious accountability and held dire consequences should something go awry.

“Last fall, I likened unfiltered access to giving your car keys to a friend who doesn't have a licence and letting him drive unaccompanied, “said chairman Mary L Schapiro, who proceeded to support controls which would reduce the chances of:

• an erroneous order due to a computer malfunction or human error;
• a potential breach of a credit or capital limit;
• a failure to comply with regulatory requirements.

On 14 July 2011, the SEC passed Rule 15c-3 but has extended the compliance date until 30 November 2011 to allow trading firms more time to comply. To comply in this instance may be cost intensive and could cause disruptions.

In Europe, unfiltered access trading rules are a bit more complicated as they are controlled by two regulations: Market in Financial Instruments Directive (MiFID) II and Market Abuse Directive (MAD). The European Securities and Markets Authority (ESMA), (a new pan-European regulator,) is expediting a set of guidelines to be implemented under MiFID I and these bear a number of similarities to the controls put forth by the SEC Rule15c-3.

To date, in Europe, there has been no date set for the rule to be passed. However, unlike the US, when a rule is passed by law in parliament, said rule is enforced the day of implementation.

ESMA has presented the following general guideline; investment firms’ electronic trading systems should automatically block or cancel orders:

• that do not meet set price or size parameters (differentiated as necessary for different financial instruments), either on an order-by-order basis or over a specified period of time, or because orders appear to be duplicated;
• if the client does not have adequate funds or holdings of, or access to, the relevant financial instrument to complete the transaction;
• if they are for a financial instrument that a trader does not have permission to trade;
• where they would be inconsistent with a firm’s obligations under MiFID, such as the client order handling rules, other relevant union or national legislation, or under the rules of the Regulated Market (RM) or Multilateral Trading Facility (MTF) to which the order is to be sent (including rules relating to fair and orderly trading); and
• where they risk compromising the firm’s own risk management and/or capital adequacy thresholds, applied as necessary and appropriate to exposures to individual clients or financial instruments or groups of clients or financial instruments, exposures of individual traders, trading desks or the investment firm as a whole.

Challenge 2: Risk controls

Due to Challenge 1 above, risk controls are absolutely crucial for compliance. Banks need to be particularly mindful of having the most efficient and reliable control systems in place, especially when customers/large non-member hedge funds are potentially trading more than the proprietary trading desks.

Risk protection does not come without a price tag or extra labour involved. Banks are choosing to outsource technologies for risk control management to improve efficiencies, reduce costs, and free up cost and capital while continuing to focus on core competencies. The regulatory bodies are directly driving the growth and dependence on fast, efficient technology where time is of the essence, time is money and mistakes are devastating.

2011 marks the first year mandatory pre-trade risk checks must be done and must be complied with in the US and Europe will quickly follow. Access to technology that handles multiple checks in nanoseconds greatly benefits systematic trading performance with zero impact on latency.

Financial technology’s response to challenges: FPGA

Introducing the field programmable gate array (FPGA) - this is a microchip which provides a viable solution to cover a multitude of risk checks in the fastest, most efficient hardware system. FPGA gets rid of the jitter. It is predictable on response times and if it says it is going to do something, it will do it as it possesses key attributes for super-fast regulatory compliant trading.

What is an FPGA?

FPGA is not a new invention and has been utilised in the military for over 30 years. FPGA is a piece of hardware made up numerous logic blocks which are flexible, programmable and contain various levels of memory storage. There are a number of uses for this microchip. Banks such as JPMorgan use it for post-trade risk analysis, and many other banks and hedge funds are utilising the technology for pre-trade risk checks.

“The 1990s were an explosive period of time for FPGAs, both in sophistication and the volume of production. In the early 1990s, FPGAs were primarily used in telecommunications and networking. By the end of the decade, FPGAs found their way into consumer, automotive, and industrial applications.”

For pre -trade risk execution, the Fixnetix FPGA solution, iX-eCute, has been noted as a compliant trading tool as it can handle up to 20 pre-trade customisable checks where one order has the same system latency as a million orders per second; and may be changed in less than two hours’ time.

What’s on deck for the future?

As with all bespoke technologies and innovations, goals always point towards increased functionality, even faster speeds and deeper integration. Microchips are useful for pre-trade risk checks for their guaranteed very low latencies but also for their scalability (an FPGA chip can do things in a pre-defined amount of time, all of the time.)

iX-eCute from Fixnetix will have multiple asset classes available on one device. Trading in mere nanoseconds whilst complying with mandated rules in the US and Europe will prove increasingly advantageous to global trading groups as other leading financial centres will probably follow suit in issuing compliance rules.

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