Emerging needs and challenges in Buy Side Order Management Systems

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1 White Paper Emerging needs and challenges in Buy Side Order Management Systems - Prashanth K and Manoj Jawahar Abstract While many Buy Side firms struggle with manual, out dated and disparate systems, a few are transitioning to an integrated suitebased front office Order Management System (OMS) that improves productivity, reduces costs and enables growth. The existing disparate systems and manual methods pose several challenges including: risks of inaccurate data, problems in key functions such as rebalancing and trading as well as the inability to adhere to compliance norms. This paper delves into the current state of Buy Side OMS, the key technical changes that have pervaded them, the emerging business needs as well as industry trends that would lead them forward. Finally, this paper provides a list of key evaluation criteria to help clients choose an OMS, and explores the areas that OMS vendors need to address in their quest for developing an all-round product offering.

2 Introduction to the Buy Side Order Management System Volatile market conditions have forced buy side firms to reduce operating costs and increase efficiency. Firms are constantly looking for increased value from their existing applications to enable a smoother working environment, faster access to data and greater ability to service customer needs. The OMS market, in particular, has undergone a complete changeover to accommodate the ever-increasing demands of Investment Management firms. Order Management Systems are software platforms that facilitate and manage order generation and execution. While, OMSs cater to both the buy-side and sell-side, their functions differ slightly. Buy Side OMSs typically connect to sell-side firms to carry out order execution whereas sell-side OMSs offer exchange connectivity for order execution. The key functions of an OMS are depicted in the figure below: OMS Order entry/ generation Order execution Data Securities, Ratings, Prices, Benchmarks, Models, Static data Portfolio Management Compliance Exchanges, International destinations, Brokers Connectivity Reporting Accounting Execution Management System, Clearing/ Settlement Figure 1: Buy Side Order Management System The OMS needs to be integrated with the data sources and downstream systems. They have evolved within a short span of time, from a simple trading tool supporting a single asset class to a real-time trading solution supporting multiple asset classes, which offer analysis and simulation capabilities while seamlessly connecting to liquidity pools. 2 Infosys

3 Trends in Buy Side Order Management Systems Order Management Systems were originally designed to manage order flow for the buy side, route orders to the sell side and handle post trade allocations. OMS service providers continuously monitor the industry trends and proactively design suitable solutions to provide maximum benefit to the customers. Some of the current trends are outlined below: Key Industry Trends Expanding market and asset class support Buy Side firms are increasingly expanding their global footprint by tapping into various markets. At the same time, firms in developing markets have shed their conservative stance of using home-grown systems and taken to Order Management Systems in a big way. There are pronounced as well as subtle differences between markets and firms are not expected to use different OMSs for users in different markets. Thus, OMSs that have an exposure to various geographical markets will be the natural allies of firms in their pursuit of global expansion. Traditionally, most OMSs catered to a single asset class and offered a token expertise in other asset classes. As a multitude of asset classes spawned and the relative inexperience in other asset classes proved to be a liability factor, vendors built multi-asset class and multi-currency support into their offerings. This saved the buy side firms from having to invest in different products for different asset classes. The coverage of new derivative instruments coupled with the capability to introduce and trade instruments on-the-fly, have been a differentiating factor among OMSs. Increasing commoditization of OMS products While, the Order Management System market is huge, all the OMS vendors offer extensive functionalities, which have eliminated any chances of a monopoly that might have otherwise existed. Thus, a large number of vendors offering similar capabilities have commoditized the OMS arena. The areas where OMS vendors have attempted to differentiate themselves are: compliance, the ability to interface with third-party service providers (including algorithmic service providers, ECN s, accounting systems etc.), multi-asset and multi-market coverage and their time-to-market in adopting key challenges as well as emerging patterns. Enhancing focus on regulatory and compliance requirements Regulations such as the Dodd Frank Act (DFA), European Market Infrastructure Regulation (EMIR), Alternative Investment Fund Directive (AIFM) and Markets in Financial Instruments Directive II (MiFID II) have necessitated a strong focus on regulatory and compliance requirements. OMS vendors have had to adapt rapidly to the new regulations and are increasingly looking at building systems with a real-time element to the compliance mechanism. Intraday margining and reporting requirements are added complexities for the buy side. Improving risk management The regulatory requirements detailed above have the ability to change the dynamics of risk management. Order Management Systems have made good headway, with several vendors offering risk management capabilities. Customers are looking at OMSs to provide real-time risk analytics, risk metrics and risk indicators that allow them to view their risk exposure at any given point in time. Straight Through Processing (STP), which is supported by many OMSs has helped buy side firms reduce operational risk. Key Technical Trends ASP and SaaS models are gaining traction The last few years have seen a paradigm shift in solution deployment. Customers have become cost-sensitive and want to look at ways to reduce their licensing and operational costs. Application Service Provider (ASP) and Software as a Service (SaaS) models have fulfilled this requirement and are cost effective as well as efficient alternatives to deployed or hosted solutions. While an ASP takes a vendor s installation as its own, and hosts the solution from its own servers via the web at a lower cost, the SaaS provider uses low cost web-based service with zero infrastructure requirements. While, both solutions have their own advantages and disadvantages, they most notably differ in their customization abilities, where the SaaS model scores over the ASP model. Customers have become more open about these solution deployment methods, as they provide significant savings in terms of infrastructure, cost and personnel, while at the same time enabling the customers to enjoy the benefits of the platform without any restrictions. Mobility is in the limelight To gain an edge over their competitors, customers are looking for information that is accessible anywhere, empowering them to take real-time decisions. They are looking for data to be available on their hand-held devices, provided it is secure. Towards this end, mobility will certainly prove to be a differentiating factor for customers. Some vendors have included mobility service offerings in their product roadmap while others have already commenced offerings on-the-go. Integration with third-party systems Integration capabilities with third-party systems are of prime importance, especially when customers have proprietary systems of their own. As a strategy, some customers opt for bestof-breed products across their business value chain and thus, OMSs need to possess good integration capabilities with a heterogeneous mix of applications and products. Customers are now preferring, a fully automated solution and are looking for a seamless and smooth experience with every player across their business workflow. Infosys 3

4 Many OMS vendors have incorporated technologies such as Application Programming Interfaces (APIs), Service Oriented Architecture (SOA), Web Services, open frameworks and data formats like XML/FpML, which allow high levels of flexibility in integration. This trend will continue, enabling greater levels of flexibility and integration amongst systems. OMS evaluation criteria When evaluating an OMS, buy side firms look for functionalities beyond traditional portfolio management. They are more interested to ready themselves for the future and hence, invest in service providers that are in a better position to address their challenges effectively. The top 5 criteria while evaluating an OMS are: a) Connectivity: Market volatility is a huge factor and buy side firms are more than eager to avoid any delays in execution. Clients favour seamless connectivity with many market participants for trade execution, confirmation and reconciliation. b) Localization: Firms think twice before implementing any product. They do extensive customizations to support the local requirements in terms of regulations, investments or laws of the land. Firms feel secure with a product that not only serves global markets, but also provides a local flavour. c) Compliance: In view of the constant regulatory changes, volatile investment strategies and client mandates, compliance has assumed a significant role. Buy Side firms look for service providers with strong compliance capabilities that can support large-scale customizations. d) Asset class coverage: Firms are looking for products that support multiple asset classes. This has driven the growth and development of other functionalities. For instance, support for derivatives has led OMS vendors to invest in building risk management capabilities within their product. e) Risk management: The impact of volatile market movements is a concern for buy side firms. In order to monitor and assess such market risks, firms look for a constant source of risk information. Products that offer real-time risk metrics and risk analytics have a competitive advantage, as they can be leveraged to arrive at the client s risk exposure. THE ROAD AHEAD There are significant challenges and opportunities for buy side OMS providers. The key areas they need to focus on are elaborated below: Connectivity & Integration Localization & Globalization Commoditization Connectivity to liquidity pools Compliance Traditional factors Emerging factors Figure 2: Traditional and emerging factors for OMS providers 4 Infosys

5 Development of end-to-end capabilities Service providers are well aware that one size does not fit all. Nevertheless, they need to enhance their product s features so that it can be a one-stop solution for certain buy side functionalities. It has been observed that the emerging customer market is open to invest in products that can perform the core capabilities of investment management. While, service providers agree that an integrated front-office suite that covers all facets of investment management will be tough to develop, they have bridged the gap and reaped the rewards by incorporating core capabilities in a single platform. It is believed that, if service providers succeed in giving a product that can admirably perform core functionalities of disparate systems including but not limited to - portfolio management, compliance, order generation, order execution and post-trade, firms might be tempted to look only for an OMS. Integration of OMS and EMS capabilities The evolution of Order Management Systems has narrowed the difference between Execution Management System (EMS). This has presented buy side firms with an array of OMS products that are adept at carrying out EMS functionalities such as - trade blotter, connectivity to trade and execution avenues, and real-time market data feeds. Research has shown that most firms are eager to have a versatile OMS that can perform all functionalities and minimize their need for a separate EMS. Smaller and newer firms are more oriented towards combined products. Although, an OMS can never be as agile and functionality-rich as an EMS, users are happy to invest in a single product that provides them with core capabilities both. Localization needs Recent customer trends indicate that they value the local presence of a vendor. They prefer that vendors provide service within their region and are encouraged by vendors who can adapt to their local needs. For instance, in the Gulf Cooperation Council (GCC) region, Shariah compliance is a necessity and customers look out for vendors that can provide such capability. Although vendors nowadays provide round-the-clock support ensuring business continuity, firms attach more prominence to a local office catering to their support needs. As most vendors couple licensing costs with support costs, firms value a local support and development desk for the flexibility that it provides in terms of time and location. Pre-trade and post-trade compliance needs As mentioned earlier, there is a strong focus on regulatory and compliance requirements, which is bound to continue in view of the existing market conditions. It is believed that clients favour vendors with a strong compliance capability, coupled with custom built features to create rules that incorporate client mandates or internal company policies. Vendors are constantly in the race to update their pre-trade and post-trade compliance capabilities to address these requirements. Another trend has been observed, is the need to incorporate intrade compliance. Decision support and research Buy Side firms are increasingly becoming dependent on real-time market data to arrive at decisions. Firms rely on both internal and external research; to validate the best path to attain their company mandates. Thus, portfolio management will need to closely mirror this best path. In this context, it is believed that integration with reliable news feeds, external research and live market data can greatly enhance the portfolio management capabilities of an OMS. Transaction cost analysis Transaction Cost Analysis (TCA) has become an integral part of trade execution. Firms are keen to have TCA, to arrive at best execution strategies, control trading costs and improve efficiencies in their trade execution patterns. If vendors equip their products with pre-trade cost estimates, posttrade transaction cost analytics, and offer the ability to compare execution results by model, broker and trading venues against defined benchmarks, clients will be able to shore up their execution strategy. This would help clients in quick decision making in a volatile environment, which would enable them to minimize impact and maximize gains. Many OMS vendors have already established themselves in this space. Stronger integration and connectivity It has been observed that buy side firms are divided on whether they need to go for best-of-breed systems for their mission critical functions such as portfolio management, compliance, trade execution or whether they should adopt a single system that can provide these functions. While firms invest in best-of-breed products, which gives them greater flexibility and richer functionality, they are wary of the integration challenges that exist amongst these products. Many interfacing technologies such as Web services, XML/fpML, APIs and SoA, have been incorporated by OMS service providers to aid integration. OMSs have evolved to connect to sell-side systems, Electronic Communication Networks (ECNs) and other trading avenues including fixed income and foreign exchange trading venues through the industry-standard FIX protocol. OMSs connectivity to exchanges, direct market access, live market data tools, trading avenues, brokers and dealers have become a necessity for firms as they bring in greater liquidity and lower execution costs. In order to attain and execute best deals, clients prefer good exchange connectivity for trade matching and settlement. The focus has to be on seamless connectivity with these market participants. Infosys 5

6 6 Infosys Order Management Systems play a vital role in the investment workflow and have become more than a basic order generation and management platform. They have evolved over a short period to encompass various facets of investment management. As OMSs are expected to provide a multitude of functionalities, clients are looking forward to systems that can withstand the enormous pressure exerted both at the architectural level and at the functional level. Clients are more receptive to invest in products that are well placed to handle the growing industry demands and emerging challenges.

7 About the Authors Prashanth Krishnamoorthy is a Principal Consultant with the Capital Markets Practice. He has over 16 years of experience in complex program management and domain consulting in capital markets. His areas of interest and expertise include wealth management and investment banking. He can be reached at PRASHANTHK@infosys.com. Manoj Jawahar is a Senior Consultant with the Capital Markets Practice with over 7 years of experience in the financial services domain. His primary area of expertise is investment management. He is experienced in all facets of software engineering and has been involved in several large IT projects. He can be reached at Manoj_Jawahar@infosys.com. Follow us on Infosys 7

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