Squeezed Margins and a Move to the Clouds

The archeologists of the distant future will no doubt tell of the great 21st shift of the human race from terra firma into cloud cities. Or, at least, the business jargon of our day makes it seem as if exactly that shift is underway. This is clear for example, from Celent’s new report on the future of cash equities trading operations.

The report begins with certain well-known facts about the equities business for brokerages in the 21st century. It is low in revenue, high in cost, and imposes capacity challenges.

As a consequence of this margin squeeze, managers can no longer tolerate high information technology and operational costs.

Thus Celent proposes three cost-reduction strategies: reduce; reuse; recycle. Most of the focus of the report is on the third of these, and Celent is using the word “recycling” to mean “outsourcing,” or even “upsourcing.”

Reduce Reuse Recycle

Brokerages can reduce expenses on IT by “rationalizing unnecessary technology assets.” They can reuse by applying their technologies in ways that benefit from economies of scale. One bank manager recently told Celent that up to 30% of the technology that supports equities trading could be repurposed for fixed income trading if the market requires the same level of support for fixed income. That then suggests the possibilities for reuse.

Finally, brokerages can recycle, which in this context means they can outsource technology and adopting managed services. This, Celent thinks, is the greatest opportunity for large cost reduction. Again, this “recycling” divides into three possibilities: Infrastructure as a Service (IAAS); managed services; and Cloud communities.

IAAS is a model now employed by many Alternative Trading Systems and dark pools. NYSE Technology, Savvis, and OptionsIT offer IAAS such as proximity, colocation, hostage, storage, and network.  Its cost-cutting potential has already been leveraged “by many top tier brokerages but not extensively across broker-dealer operations.”

Clouds can be Scary

By “managed services” Celent refers specifically to market data services such as those sold by Bloomberg, Nasdaq/Xignite, etc. This can and likely will be “significantly leveraged by more and more brokerages.”

A more radical – and, to some, scary – use of managed services would involve algorithm validation and back testing, since this sounds like it entails loss of control over a firm’s own value proposition. Celent assures its readers that “we would not dream of suggesting” that they outsource their “cutting-edge algorithms for market-making or other purposes,” it does suggest that many adjacent assets “cease to be advantages over time and can be outsourced.”

Going further, brokers “might consider putting high (but not necessarily the highest) performance trading applications either in the cloud or in some type of multi-tenant environment to reduce cost while maintaining performance.” In this spirit, NASDAQ has created its FinQloud, and boasts of the benefits, such as that FinQloud “allows organizations to dramatically reduce the cost of data storage related to technology, facilities, and operational overhead.”

Even this idea, which Celent calls a “radical restructuring,” may not it acknowledges by “news to some leading banks since many are already pushing on this agenda.” The leading edge firms could take the next step and start selling the services they’ve already created in that cloud, “because they’ve already done the difficult work getting it there.”

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