“Mind The Gap!” – The life and times of a man on the move Episode 54

In this weekly series, I look back on what stood out, what was bemusing, amusing and interesting during my weekly travels, interesting findings within the FX industry and interaction with an ever-shrinking big wide world. This is purely observational and for your enjoyment.

Monday: The newcomers and challengers are flooding in

Manchester may well be home to the largest concentration of retail traders in the UK, but London remains not only Britain’s financial epicenter but the generator of the world’s entire financial market ecosystem from Tier 1 level to the challenger banks.

This week, even more evidence that retail brokerages in the electronic trading sector and retail banks would be increasing their advantage by following the methodology of the new entrants to the retail market which originate in London surfaced, in two specific high profile and highly effective forms.

I have previously mentioned the highly visible premium advertising that adorns the junction between the roof and sides of the London Underground’s trains, and the proliferation of new financial solutions, fully regulated by the FCA, which appear there continually, and this Monday was no exception.

On the Circle Line between Aldgate and Moorgate, which is the part of London in which the vast majority of astute, empowered financial markets industry employees spend their working day, was displayed an advert for Nutmeg, a self-described “Digital Wealth Manager.”

Nutmeg attempts to attract a domestic UK client base, directly onto its platform without use of any affiliate relationships or introducing broker networks, and resembles some of the UK’s bond issuers in its promise of a specific percentage return, but differs from them in that it is a multi-asset platform which concentrates on British market long term investments such as Individual Savings Accounts (ISAs), pensions and longer term, lower risk multi-asset portfolio investment.

This is a huge market in Britain, and if Hargreaves Lansdown’s own success can be a testimony to this, is a market well worth approaching, especially at a time during which retail brokers are beginning to understand the value of approaching small hedge funds and wealth management companies to bring them on as introducing brokers, necessitating a move toward a genuine multi-asset structure, and equally importantly, at a time during which Tier 1 banks are retracting counterparty credit agreements to OTC derivatives firms and non-bank market makers such as XTX Markets are taking the top slot for FX execution market share globally.

Taking Hargreaves Lansdown as an example, along with its HL Markets FX and CFD division which is a white label of IG Group’s retail offering, there is a publicly listed company that has been established since 1982 as an insurance brokerage which morphed into a fully comprehensive electronic financial services company for self-directed traders when it launched its Vantage system which allows clients to manage their entire portfolio from one platform.

On this basis, Hargreaves Lansdown has become the UK’s largest financial services company with a revenues of over £447 million per year and total sustainability due to its own client base being directly onboarded and in the same jurisdiction with no risk of being extricated due to cross border regulatory issues, and no reliance on external networks.

Companies such as Nutmeg take this one step further by being totally online, and this is the way that the whole market is moving. Companies such as Pipster, founded and operated by senior bank technology executives who view this market correctly, hence are sustainable.

Many prime of prime providers, such as INVAST Global are heading toward the hedge fund and wealth management sector, and rightly so.

The second aspect that caught my attention to this effect this week has been the apathy demonstrated by banks which would ordinarily be immediately poised to compete for new business when a start up is incorporated, usually via loss-leader initiatives in which they give free banking for a year at the point that a new company is established, hoping that this service will generate a customer for the lifetime of the business.

Not anymore. I discovered this Monday that the new entries with no branches and no position in the trading sector such as Acorn, Plum, N26 and Tide are the first to send letters out to newly established entities by having a direct connection to the Companies House new registrations section, in order to grab the well informed leaders of new startups.

Where does this leave the traditional and vast banks? Citigroup have really stepped up their campaign of moving away from FX dealing, losing $180 million in a short space of time last year, after 17 years as the largest FX dealer in the world in terms of market share, a slot now held by a firm that is, for the first time ever, not a bank.

Late last year, Bloomberg (another out-of-touch dinosaur!) managed to get hold of an internal memo from Citi which implied that the company’s FX prime brokerage service would be separated from its currency trading division and moved to its prime financing and securities services business.

This memo was circulated within the senior ranks at Citi whilst it prepared to publicly announce its $180 million loss stemming from a loan given to an Asian hedge fund which made some poor trades in the FX market.

Saxo Bank conducted an acquisition at a time when it is making substantial operational cost savings, by purchasing Binckbank, which is a branchless discount brokerage, demonstrating a need to diversify away from traditional execution methods.

Change and adaptation is not always easy – that is why having an in-house platform is advantageous, however now is a good time to embrace the new wave.

Tuesday: Starting a margin broker today

The aforementioned thought process which occupied my cognitive resources on Monday during my 10 minute journey from Aldgate to Moorgate led on to an equally relevant conversation the following morning.

“In my opinion, these are legacy businesses grown up in the period of expansion of the retail ‘traders’ over the past decade or so, and many of them still have the mentality to service the broker, because that will always be their focus, particularly the provider of the platform for retail traders to trade and the trading experience. The only providers to the retail trader were ‘suspect’ trading signal providers and education, mainly in technical analysis” he said.

“As well, the current batch of retail FX brokers caught in the perfect storm of low volatility and regulatory crackdown which now includes low leverage, low volatility, less product, and restricted marketing” was his opinion.

“The most interesting part is the advertisement to anyone which often angles for business by appearing to offer a fully comprehensive out of the box solution that means a potential brokerage owner does not need to think about anything” he said.

Indeed, we have seen the “Do you want to start a retail brokerage business – come to us!” stuff before, and most of the companies offering it are dubious to say the least, many of which are based in Cyprus and are operated by affiliate marketers who simply want to harvest databases and then sell them to other firms. Leverate, a company that has struggled for market share tremendously, once established its own retail brokerage to compete with its own clients!

I caught a one particular company blatantly making its white label partners client bases available to other white label customers, via some code that I deciphered on its CRM and published a report about it.

Thus, having your own comprehensive solution is the way forward, and my platform-developing friend asked “What are the new firms offering other than what is offered already, who would start a margin broker today and if you did, what would it look like?”

“Would you have to have an inhouse developed platform or go with MT5 or c-Trader?” he asked. I have made it clear several times that given that choice, I would have a proprietary platform developed and in house trading infastructure. Without that, it is impossible to scale a business or even own a client base. Offering MT4/5 would be a secondary item in order to onboard other traders, by which time a fully customer facing training team should approach those clients to give them full tutorial on the in house platform, thus sealing their own abilities to succeed rather than be part of an affiliate marketing network, and maintain them as lifelong clients.

“Would you have third party platforms that can offer services through the trading platform that enhances the core platforms tools, like AI or machine learning trading systems + sentiment trading?” he asked. “If targeting experienced traders [who dont cash 100:1 + leverage ] – as opposed to retail, will the platform environment be different?”

I actually think it would not be much different as long as apathy remains and brokerages see their endeavors as short lived affiliate and lead buying exercises which are contrary to the new wave of firms that are now in place.

So do professional or experienced traders need a different trading experience to retail, as opposed to high net worth or are like retail but with more margin deposited?

Well, some sort of alignment with other ecommerce channels would be a good move, for example allowing retail traders to cheaply trade FX as a side line next to selling and buying on eBay with distributed and self regulated payment channels, and then dedicated brokerages with an A-book channel and specialist customer service should look toward courting the hedge funds and proprietary traders, as Scandinavian Capital Markets did at the FinanceFeeds London Thought Leadership Conference in May this year.

So if the makeup of the ‘trader’ profile is to more professional, leverage should not be an issue as much, as well the broker is now having a trader who can make money, as their risk management programs must evolve beyond the basic B Book to an advanced A Book or full STP so will capital is an issue beyond the regulatory minimum. This is a point we both agreed on.

Concluding, my colleague said “So I see educational services with capital allocation growing to advanced traders, something like Axi and PsyQuation, and TradeView in Australia as well as models like quantopian as opposed to social trading.”

Quite right.

Thursday: Autonomous trading vs Autonomous driving

The presence of artificial intelligence (AI) within the minds of the R&D experts in the financial markets business has been dominant for quite some years now, with large banks investing in fully automated solutions which manage massive operations, notable examples being Japan’s Nomura, and Russia’s Sberbank.

Indeed Sberbank has gone a whole world further, not only introducing AI into its institutional trading systems but also replacing several thousand staff with a robotic lawyer!

The replacement of human resources with self-learning robotics has not raised one eyebrow anywhere in the world, especially considering that the functionality of the entire world relies on financial infrastructure as much as it relies on crude energy.

If oil is the world’s blood, banks and financial infrastructure are its central nervous system. Without either, disaster would ensue, food would run out and there would be catastrophic implications for humanity.

Yet the world views AI in banking as a massive step toward efficiency and reduction of human error.

Apply this thought to driving, and the whole perspective is different. Fear and trepidation exist among motoring special interest communities whereas encouragement and forward thinking dominate the introduction of the same error-reducing non-emotional, non-distracted systems in banks and trading desks.

I spoke on Thursday to a group of longstanding car enthusiasts who absolutely know their subject and are not nervous drivers with a fear of technology or lack of skill. Quite the opposite. Many of the members of this group were engineers, motor sport enthusiasts and comprehensively educated motoring fanatics with a wide knowledge of all things motoring.

Yet when I demonstrated a very simple hack that removes the need to touch the steering wheel on a self-driving car making it totally autonomous, the touch paper was lit and anger set in. Apparently, this would end the world and kill everyone and the police should be notified of anyone who attempts to use currently available AI and machine learning technology connected to dedicated radar and camera systems to drive a car rather than their error-prone human control.

Many research labs have proven that computer-driven cars are safer than those driven by human beings and that human error is the cause of 90% of accidents, just as mistakes by staff and management create most of the losses in financial markets.

Look at KCG’s software engineers who connected a production trading server to a test algorithm in 2012 which destroyed the company in 5 minutes flat, and KCG is a huge company.

The fear of handing over certain tasks to robots is therefore tremendous in some environments yet welcome in others, but in my opinion the outcome is the same.

Autonomous cars, of which I am a huge advocate of, mean no road rage, no distractions causing accidents, no “Oops! I didn’t see you!” when a cyclist lies injured at the side of the road and no tiredness or stress. The sooner the entire transport network is fully automated, the better and safer it will all be.

Similar applies to banks and finance, which is why so much has been invested in it.

It is apparent that humans will be able to concentrate on important matters and get those right, whilst adopting a supervisory capacity for everything else. This, in my opinion is progress.

Friday: Education, Education, Education

A pre-sabbath trip to King David Primary School in Manchester accompanied by a guided tour of one of the UK’s best schools gave me a massive insight into how the next generation of children are becoming fully empowered not only as users of complex IT systems but also as programmers of their software.

King David School, an Orthodox Jewish school serving Manchester’s extremely upbeat Prestwich and Crumpsall districts teaches software engineering from elementary school level upwards.

During my two hour tour, I was left absolutely astonished at the level of diverse, highly sophisticated education that the pupils receive and interact with at the school’s elementary and high schools, which among far more content and an internationally-focused, fully comprehensive environment that results in extremely empowered young members of society is now turning out under-10s who can code.

Trading companies take note, next decade’s traders will be able to develop their own trading systems, so it may well be worth considering offering opensource platforms which tap into your liquidity and asset class range, with full flexibility at the front end.

This approach would lower costs, and increase the suitability of your product range for each trader, as they would tailor their own platforms.

The future looks bright!

Wishing you all a super week ahead.