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 Tony Freeman
Director of Industry Relations, EMEA
This time a few years ago STP was a dirty acronym. With headlines like “A Eulogy to STP” and “STP is dead” splashed all over the trade press, the industry seemed to be sick and tired of talking about operational efficiency. The failure of the GSTPA made market participants question the value of increased automation, and market conditions forced firms to slash IT budgets and concentrate on necessities only. STP was viewed as “nice to have” and was pushed down the priority list when it came to investment.
Today it’s an altogether different matter. Leading firms are viewing STP as a necessity and not a luxury and are looking at automating processes across all asset classes. From derivatives to repos, FX to futures, STP is most definitely back on the agenda. So why the renewed focus right now?
The answer has to be risk. A subtle change has occurred: whilst in the past operational cost reduction has been paramount and probably the strongest driver towards STP investment, today’s market is increasingly risk averse. Enough high profile market scandals such as Enron and Refco have occurred to increase the appetite for transparency and risk reduction enormously. Automated processes appear to be key in delivering the required audit trails and necessary disclosure and in complying with regulation.
Firms, regulators and industry assocations are no longer just focussing on equity trade processing either. Not long ago the Asset Managers Forum published seventeen recommendations to try and ensure best practice STP in derivatives. The rapid growth of the market – the average number of credit default swap trades rose by 89% between 2004 and 2005 – has led to concern over the robustness of many firms’ operations. In 2005 large brokers increased the average headcount in credit operations by almost 25% and the average IT budget in credit operations by a third, in order to deal with the backlog of paperwork resulting from the increased number of trades. Brokers are also trying to meet FSA and Fed guidelines for improving practices in credit derivatives processing. With the more highly regulated traditional institutional investors throwing their hats into the derivatives ring, hedge funds in particular are having to become more rigorous in their processes in order to attract and retain investment. Competition is intensifying and the days of manual post-trade processing in derivatives are definitely numbered.
But implementing automated processes is not always straightforward these days. With fund managers diversifying their portfolios and trading across a variety of complex instrument types, operations managers are being challenged. Although trade volumes in these non-cash instruments are increasing, the volume of each type of instrument is low, relative to equity trade volumes. It is therefore much harder to make a case to invest in technology platforms to automate non-equity trades. The other challenge that these operations managers face is to recruit sufficiently knowledgeable operations and IT staff to deal with these trades. With most back-office staff being used to handling equity trades only, there is often a very steep learning curve when they are faced with more exotic trades to settle.
However, operations managers and front office staff need to look beyond trade volumes to establish a business case for further STP investment. They need to take into account operational risk, credit risk and regulatory risk when making any decision, and together these provide more than sufficient grounds for opening the purse strings. Investor and regulator driven demands for transparency and audit trails are only likely to increase in the coming months and years. Leading firms are addressing paper-based processing right across their portfolios today in order to provide a solid foundation for the future. But those firms that persist in using manual processes could be running a seriously risky business. Let’s hope it doesn’t take another market scandal to provide the required catalyst for change…
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