Previous posts in this blog have discussed how Capital markets firms must create new business models and offer superior client relationships based on their vast data assets. Firms that can infuse a data driven culture in both existing & new areas of operation will enjoy superior returns and raise the bar for the rest of the industry in 2016 & beyond.
Capital Markets are the face of the financial industry to the general public and generate a large percent of the GDP for the world economy. Despite all the negative press they have garnered since the financial crisis of 2008, capital markets perform an important social function in that they contribute heavily to economic growth and are the primary vehicle for household savings. Firms in this space allow corporations to raise capital using the underwriting process. However, it is not just corporations that benefit from such money raising activity – municipal, local and national governments do the same as well. Just that the overall mechanism differs – while business enterprises issue both equity and bonds, governments typically issue bonds. According to the Boston Consulting Group (BCG), the industry will grow to annual revenues of $661 billion in 2016 from $593 billion in 2015 – a healthy 12% increase. On the buy side, the asset base (AuM – Assets under Management) is expected to reach around $100 trillion by 2020 up from $74 trillion in 2014.
Within large banks, the Capital Markets group and the Investment Banking Group perform very different functions. Capital Markets (CM) is the face of the bank to the street from a trading perspective. The CM group engineers custom derivative trades that hedge exposure for their clients (typically Hedge Funds, Mutual Funds, Corporations, Governments and high net worth individuals and Trusts) as well as for their own treasury group. They may also do proprietary trading on the banks behalf for a profit – although it is this type of trading that Volcker Rule is seeking to eliminate.
If a Bank uses dark liquidity pools (DLP) they funnel their Brokerage trades through the CM group to avoid the fees associated with executing an exchange trade on the street. Such activities can also be used to hide exchange based trading activity from the Street. In the past, Banks used to make their substantial revenues by profiting from their proprietary trading or by collecting fees for executing trades on behalf of their treasury group or other clients.
Banking and within it, capital markets continues to generate insane amounts of data. These producers range from news providers to electronic trading participants to stock exchanges which are increasingly looking to monetize data. And it is not just the banks, regulatory authorities like the FINRA in the US are processing peak volumes of 40-75 billion market events a day http://www.vamsitalkstech.com/?p=1157 . In addition to data volumes, Capital Markets has always possessed a variety challenge as well. They have tons of structured data around traditional banking data, market data, reference data & other economic data. You can then factor in semi-structured data around corporate filings,news,retailer data & other gauges of economic activity. An additional challenge now is the creation of data from social media, multimedia etc – firms are presented with significant technology challenges and business opportunities.
Within larger financial supermarkets, the capital markets group typically leads the way in being forward looking in terms of adopting cutting edge technology and high tech spends. Most of the compute intensive problems are generated out of either this group or the enterprise risk group. These groups own the exchange facing order management systems, the trade booking systems, the pricing libraries for the products the bank trades as well as the tactical systems that are used to manage their market and credit risks, customer profitability, compliance and collateral systems. They typically hold about one quarter of a Banks total IT budget. Capital Markets thus has the largest number of use cases for risk and compliance.
Players across value chain on the buy side, the sell side, the intermediaries (stock exchanges & the custodians) & technology firms such as market data providers are all increasingly looking at leveraging these new data sets that can help unlock the value of data for business purposes beyond operational efficiency.
So what are the different categories of applications that are clearly leveraging Big Data in production deployments.
Illustration – How are Capital Markets leveraging Big Data In 2016
I have catalogued the major ones below based on my work with the majors in the spectrum over the last year.
- Client Profitability Analysis or Customer 360 view: With the passing of the Volcker Rule, the large firms are now moving over to a model based on flow based trading rather than relying on prop trading. Thus it is critical for capital market firms to better understand their clients (be they institutional or otherwise) from a 360-degree perspective so they can be marketed to as a single entity across different channels—a key to optimizing profits with cross selling in an increasingly competitive landscape. The 360 view encompasses defensive areas like Risk & Compliance but also the ability to get a single view of profitability by customer across all of their trading desks, the Investment Bank and Commercial Lending.
- Regulatory Reporting – Dodd Frank/Volcker Rule Reporting: Banks have begun to leverage data lakes to capture every trade intraday and end of day across it’s lifecycle. They are then validating that no proprietary trading is occurring on on the banks behalf.
- CCAR & DFast Reporting: Big Data can substantially improve the quality of raw data collected across multiple silos. This improves the understanding of a Bank’s stress test numbers.
- Timely and accurate risk management: Running Historical, stat VaR (Value at Risk) or both to run the business and to compare with the enterprise risk VaR numbers.
- Timely and accurate liquidity management: Look at the tiered collateral and their liquidity profiles on an intraday basis to manage the unit’s liquidity. They also need to look at credit and market stress scenarios and be able to look at the liquidity impact of those scenarios.
- Timely and accurate intraday Credit Risk Management: Understanding when & if deal breaches a tenor bucketed limit before they book it. For FX trading this means that you have about 9 milliseconds to determine if you can do the trade. This is a great place to use in memory technology like Spark/Storm and a Hadoop based platform. These usecases are key in increasing the capital that can be invested in the business. To do this they need to convince upper management that they are managing their risks very tightly.
- Timely and accurate intraday Market Risk Management: Leveraging Big Data to market risk computations ensures that Banks have a real time idea of any market limit breaches for any of the tenor bucketed market limits.
- Reducing Market Data costs: Market Data providers like Bloomberg, Thomson Reuters and other smaller agencies typically charge a fee each time data is accessed. With a large firm, both the front office and Risk access this data on an ad-hoc fairly uncontrolled basis. A popular way to save on cost is to negotiate the rights to access the data once and read it many times. The key is that you need a place to put it & that is the Data Lake.
- Trade Strategy Development & Backtesting: Big Data is being leveraged to constantly backtest trading strategies and algorithms on large volumes of historical and real time data. The ability to scale up computations as well as to incorporate real time streams is key to
- Sentiment Based Trading: Today, large scale trading groups and desks within them have begun monitoring economic, political news and social media data to identify arbitrage opportunities. For instance, looking for correlations between news in the middle east and using that to gauge the price of crude oil in the futures space. Another example is using weather patterns to gauge demand for electricity in specific regional & local markets with a view to commodities trading. The realtime nature of these sources is information gold. Big Data provides the ability to bring all these sources into one central location and use the gleaned intelligence to drive various downstream activities in trading & private banking.
- Market & Trade Surveillance:Surveillance is an umbrella term that usually refers to a wide array of trading practices that serve to distort securities prices thus enabling market manipulators to illicitly profit at the expense of other participants, by creating information asymmetry. Market surveillance is generally out by Exchanges and Self Regulating Organizations (SRO) in the US – all of which have dedicated surveillance departments set up for this purpose. However, capital markets players on the buy and sell side also need to conduct extensive trade surveillance to report up internally. Pursuant to this goal, the exchanges & the SRO’s monitor transaction data including orders and executed trades & perform deep analysis to look for any kind of abuse and fraud.
- Buy Side (e.g. Wealth Management) – A huge list of usecases I have catalogued here – https://dzone.com/articles/the-state-of-global-wealth-management-part-2-big-d
- AML Compliance – Covered in various blogs and webinars.
The Final Word –
A few tactical recommendations to industry CIOs:
- Firstly, capital markets players should look to create centralized trade repositories for Operations, Traders and Risk Management. This would allow consolidation of systems and a reduction in costs by providing a single platform to replace operations systems, compliance systems and desk centric risk systems. This would eliminate numerous redundant data & application silos, simplify operations, reduce redundant quant work, improve and understanding of risk.
- Secondly, it is important to put in place a model to create sources of funding for discretionary projects that can leverage Big Data.
- Third, Capital Markets groups typically have to fund their portion of AML, Dodd Frank, Volcker Rule, Trade Compliance, Enterprise Market Risk and Traded Credit Risk projects. These are all mandatory spends. After this they typically get to tackle discretionary business projects. Eg- fund their liquidity risk, trade booking and tactical risk initiatives. These defensive efforts always get the short end of the stick and are not to be neglected while planning out new initiatives.
- Finally, an area in which a lot of current players are lacking is the ability to associate clients using a Lightweight Entity Identifier (LEI). Using a Big Data platform to assign logical and physical entity ID’s to every human and business the bank interacts can have salubrious benefits. Big Data can ensure that firms can do this without having to redo all of their customer on-boarding systems. This is key to achieving customer 360 views, AML and FATCA compliance as well as accurate credit risk reporting.
It is no longer enough for CIOs in this space to think of tactical Big Data projects, they must be thinking around creating platforms and ecosystems around those platforms to be able to do a variety of pathbreaking activities that generate a much higher rate of return.
 “The State of Capital Markets in 2016” – BCG Perspectives