NEWS FOCUS: Hedge funds face altered landscape

The global slowdown has shifted the landscape for hedge funds.

One positive outcome of the crisis has been to force fund managers to take stock and re-think their business strategies. Many are making a conscious move towards a quantitative style of investing and trading across a more diverse set of asset classes.

Consequently, fund managers are looking to deploy fast, sophisticated and technically advanced IT systems. Even traditional long only asset managers are gravitating towards quantitative trading, launching new funds in a bid to offer better returns to clients and attract more fund mandates.

Getting up and running with a quantitative investment strategy is a significant undertaking both in terms of time and money. Many quantitative fund managers are programmers who have chosen to build their own technology, often out of necessity. This is not where their expertise lies.

If more plug and play technology were made available, especially on a hosted basis, more quant managers would turn to this method of technology, allowing them to concentrate on what they do best.

Many factors make it difficult to set up IT for this style of trading. First, there is a need for a high speed, low latency engine that can carry out a large amount of calculations in real time. Large investment banks with deep pockets have historically invested in complex event processing (CEP) platforms that can cope with the required volume of calculations.

This type of engine has been viewed as expensive for smaller buy side companies. However, this technology has started to form the bedrock of alternative trading solutions making it more accessible to the buy side.

Second, connectivity to the market needs to be established often using dedicated lines between the user and the brokers or exchanges. In this environment there is a need for high speed, low latency and the appropriate levels of backup/resilience. This type of connectivity comes at a price and can sometimes be an administrative overhead the fund manager could do without.

Third, managers must consider the collection, storage and use of tick data. Quantitative models are designed, built and back tested often on large amounts of tick level data and the fund manager needs reliable access to this in both a test and live environment. This process alone can require the procurement of a dedicated solution to manage the data.

Finally, a manager needs to build the GUI [graphic user interface, or 'dashboard'] with which the user will interact. At a minimum this will include visibility into real time P&L, risk management, static data and ideally additional items such as news events, corporate actions and prime broker fund administrator reconciliation.

Plugging all of these requirements together and establishing a platform in-house would run into millions of dollars in up-front and ongoing maintenance costs as well as the six-month plus build time. All these aspects can be addressed successfully by a vendor with all of these components in a hosted platform. This means even the smallest hedge fund is able to participate in an increasingly competitive market.

Currently there exists a two-tier system among hedge funds, asset managers and investment banks where the ‘haves’ are those that can afford to build, maintain and deploy the technologies and the ‘have-nots’ that do not have the resources to do so.

Recent advancements in vendor offerings, especially those being hosted, have meant even the smallest hedge fund can have access to complete, front to back trading platforms incorporating all components in a plug and play manner. This will help to level the playing field.

Hosted platforms remove the technology burdens and maintenance issues from the fund managers allowing them to focus on their primary goal, making money. It provides a fully redundant, state of the art data centre in a secure environment that simultaneously adheres to regulation and governance rules.

Most importantly, from a real-time perspective, it can enable access to cutting edge CEP (Complex Event Processing] technology at a minimal cost. One key advantage provided by a handful of hosted technology is the pay as you trade pricing structure. This means the cost of the solution is not taken out of the fund’s management fee but is instead covered by the execution costs.

This type of solution is ideal for hedge funds looking to get into high frequency trading. . Having access to a complete front to back trading platform in a hosted environment\ lowers the barrier to entry from both a time and cost perspective.

As with all hosted applications, there will be questions. Security issues around who is viewing trades and internal data are top of the list. However, technology vendors who have no material interest in the orders flowing through their systems provide hosting.

Another hurdle facing hosted platforms is the tendency for fund managers to opt for in-house builds, preferring to stick with what they know best instead of investigating the options and added value hosted platforms can provide.

Ultimately, fund managers look to utilise technology that can help them attract and sustain assets. Existing hedge funds and professionals looking to setup their own investment companies should be looking at alternatives to in-house build as in many cases technology available off the shelf and in hosted environments will enable them to execute investment strategies that they otherwise would not have the ability to handle.

This article was written by Dan Hubscher, principal product marketing manager of capital markets at Progress Apama.