Investing in front-office ops is crucial for FCMs to keep market share

July 26, 2024

Key Takeaways

  • FCMs must innovate and invest to keep competitors at bay
  • Automation is critical in front-to-back-office trade flow
  • Single platforms are the way forward, but data aggregation is key

Future Commission Merchants (FCMs) are used to markets being in a state of flux, but the last four years have been particularly volatile with a barrage of unexpected events such as Covid, geopolitical tensions and higher inflation.

Traders have had to smooth the edges while also combating spiralling costs, ongoing regulatory requirements and increased client demands. Investing in front-office technology is not an option; it is crucial if firms want to grab a bigger chunk of the cleared derivatives pie.

The rivalry is only becoming more intense, according to a recent study, State of the Market: FCMs Front Office, from Acuiti in partnership with Broadridge. Polling senior executives from 38 leading FCMs revealed that over the past five years, FCMs have jockeyed more for a position in trading and execution than in clearing, where contention seems to have plateaued.

Smaller firms make their presence known

This is despite the shakeout that has taken place over the past 16 years. Globally, the number of FCMs has dwindled from 170 in the pre-2008 halcyon years to 70 today. In the US, which is the largest market, the figure has dropped from 151 to 62 during the same timeframe, according to data from the CFTC register of FCMs.

However, as with many industries, there has been a growing divide between the larger players in the inner circle and the smaller specialist brokerage firms that are snapping at their heels. The names dominating the listed derivatives field are roughly the same as those before the financial crisis. The order may have been different but the leading contenders on independent brokerage and investment advisory firm aiSource’s latest league tables are still JP Morgan, Goldman Sachs, Bank of America, Morgan Stanley and Societe Generale Americas.

Despite their girth, these well-established veterans cannot afford to be complacent as competition for their lucrative market share is growing. This is because, as the Acuiti report points out, there is a plethora of newer firms, such as nonbank liquidity providers, who are or are hoping to steal a march. They have already made significant inroads into exchange-traded funds and equities and are making their mark in other listed markets, such as derivatives. They have both the technological prowess and the low fee structures with tight pricing in specific markets and contracts, to entice clients.

Their presence has only exacerbated the fee compression that has been a feature over the past decade, but other pressures, such as the seemingly never-ending pipeline of regulations, have also hit the bottom line. For instance, the respondents in the Acuiti report highlighted the constant exchange and clearinghouse upgrades, on top of the significant charges, particularly in terms of market data fees, as taking their toll.

Standing out from the crowd

With very few fees to cut, FCMs have had to look for other ways to differentiate. Most participants in the Acuiti report considered value-added customer service to be their unique selling point, especially in terms of their experience and market knowledge. Algorithmic trading was also gaining momentum as a key way to distinguish themselves. However, maintaining and improving on the status quo requires an ongoing commitment to both investment and innovation. This has always been the case, but the need to be proactive has never been greater, which explains why almost half of FCMs in the Acuiti report are increasing their front-office tech spending for the next 12 months. Only around a fifth are lowering their budgets.

In the cleared derivative space, automation is crucial, especially in the front-to-back trade flow arena. While the Acuiti report found that most firms have good front-to-back efficiency, they are not robust enough to deliver the service required to retain and win new clients. Too many FCMs still relied to some extent on manual processes for addressing trade breaks.

Data fragmentation was also seen as a big hurdle and hindrance to optimising workflows. Although FCMs in the report welcome the breadth and quality of third-party offerings, more than seven in ten face significant challenges in managing data between platforms. This is not only hampering front-to-back adeptness but also preventing firms from achieving real-time risk and position management.

Investing in integrating the execution and post-trade systems is becoming a must-have to offer sophisticated order management, advanced trading tools, data aggregation and comprehensive analytics. This enables traders, for example, to view the status of their allocations and clearance on one screen while data can flow seamlessly across the organisation, providing real-time insights into net positions, margins, risk and commissions.

This not only saves time and money but allows firms to focus on those value-added services and any problems that may arise during the trade lifecycle. Firms that do not have platforms that provide front-to-back integration with data flowing up and downstream to manage all parts of the trade lifecycle will be increasingly flying blind as the world becomes more real-time.

ION Markets

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