electronic currency trading

There is a trend to electronic trading and there is certainly pressure on margins on many products. The response from the industry has really taken two tracks.


The first is to get big or get out. In many areas such as FX, bonds and other commoditized areas, only the largest players can really thrive. Lower margins naturally mean that higher volume is needed.


The second is to cross-sell. Of course, just because you're not making much money trading FX, doesn't mean you can simply pack up and go home. The real money is in the more structured, exotic products but you're never going to get that business unless you first do the plain vanilla stuff so its really a loss leader in some ways. THe whole focus of the sales force is much more focused on derivatives. Its one thing to recommend a simple spot EUR/$, quite another to sell a binary range forward with double knockout or something like that.


Regarding the flows... the reason i mention it is because often in the fixed income market large players can and will move the market. So you can look at all the charts you want and analyze economic fundamentals but on any given day, 10 year volatility might go up just because XYZ came in and bought in size. Then all the analysts go and conjure up some explanation trying to justify this.


About the e-trading platforms... i work in research so i don't really deal too closely with that aspect but from what i gather, the traders aren't really concerned about "giving away information" through their e-trades. The size on the those trades is quite small comparatively so you definitely won't get the same price on the larger volume trades. And i don't think we're very concerned about competitors pennying us. Don't know about equities but in fixed income 90% of the revenues are generated by about 10% of the clients so if we lose a little business here and there on the e-trades its not a big deal.


So, thats my impression of the state of affairs in fixed income. Its still an area which is dominated by larger players with little to none in the way of retail volume. Not sure about the story in equities, but even there i'm sure our main clients are mutuals funds, pension funds, etc... the usual suspects, so i have a feeling the story won't be all that different.

Here is the link:


http://bigcharts.marketwatch.com/qui...=0&o_symb=espd


Thank you, Javelin, for telling us a little about the bond market


When I can get my thoughts together, I have a comment or two.


eLROY

When you say commoditized, you essentially mean one of two, interchangeable things:


1) symmetric information, across all shops, about ambient demand, meaning how high you can bid and make a profit, and


2) uniform, low-friction access to decks of orders, customers whom you can unload an inventory into, and counter-parties you can synthesize a product out of.


Of course, if everyone else knows where the Yen is going just as well as you, and everyone else can dump it just as fast as you - if you're all assembling the same product out of the same inputs - the only way you can win a bid is by bidding higher, and making a smaller markup.


So, you go esoteric, to where


0) you mine new value, by structuring and custom-tailoring innovative products to more exactly reflect client needs,

1) other people lack the expertise to build the same products, even with access to the same inputs, and the same global reach,

2) smaller players lack the balance-sheet flexibility to assemble the products on short notice and provide immediacy,

3) there are few enough natural counter-parties - meaning people with exactly opposite needs who might lean on your price data to meet one another at a fair price in some electronic free-for-all - that people need someone who can perform synthesis and arbitrage to take the other side,

4) by offering 0 through 3, you subsidize the analog realtionship, actually talk to customers, and thereby gain visibility up the supply chain, which you could not purchase or bother people with simply in exchange for EUR/$ spot tickets, and

5) it becomes self-perpetuating, to the extent you are the first-stop shop for pricing and transactions, and there still is some residual friction - or something.


Meaning, any unique value you can create, and force the customer to talk to you, is good. But every time you force a customer to talk to you, you have to acquire something additional which you can use to force another customer to talk to you, and another and another, building a proprietary stockpile. You can't let the customer acquire enough to become independent, and then help others to become independent, in a chain.


But I say, you are bleeding out your asymmetry, you are commoditizing your products in the very process of selling them. You are perpetually pioneering new products and markets, only to create an environment where second-tier players can come in, once the water is warm, and undercut you by a few pennies. You build the foundation which everyone else leans on and, thanks to low friction, your product becomes commoditized.


The way to counteract this, in my opinion, is to gain and keep your original asymmetric visibility into the flows in the simplest building-block products, by automating the paid collection of proprietary customer supply-and-demand data. And you purchase asymmetric leaning opportunities in the transaction. You


1) pay the customers for visibility, in a low-cost, automated way,

2) you price and sell the customers information about your spreads, in an automated way,

3) you gain asymmetric leaning opportunities in the process.


That way, every time you and the customer make contact - or every time your automated system and the customer make contact - there is a fairly-priced exchange. It creates a loop, which forces the customer to come back to you over and over and over. You never give the customer enough surplus value that he would go anywhere else, and give someone else value to sell to someone else, in a circle of invisible losses to where it all becomes valueless.


This alternative value-accumulation paradigm doesn't work, initially, when you have symmetric information. But once you start to build up a proprietary pool of asymmetric information, it becomes self-perpetuating, and you squeeze everybody else out of businees. You restore a monopoly in the commoditized product.


You sell unique information and opportunities to clients, in exchange for a unique claim to lean on them, and on their individual decks or needs. They sell you a unique glimpse into their positions, in exchange for payment which only you have the expertise to price, and the automation to collect.


It's simple economics, every time you talk to a customer, the incoming has to be greater than the outgoing. But you people don't undertsand this, you're giving away the store without even realizing it, you're creating an endless series of loss leaders, by not mining value that is right under your nose.


You're giving away free value for lack of the expertise to fully price the utility of your services to clients! You have to break down the total utility, to each party, of every client contact, in whatever form that utility may come. Only when it is allocated and rationed by a precise price system, can your advantage be protected and grown.


I know you don't know what I'm talking about. And this is a pretty haphazard explanation, I will admit. But it breaks my heart to see big trading desks throwing away profits - and having to resort to loss leaders for crying out loud - when they don't have to!


You have to reintroduce friction, make everything that happens squeeze itself through a parking meter! Make a penny flow in the opposite direction! Maybe I'll try to explain the exact mechanics more clearly another day...


I swear, if I had a big enough client book to start with, and the right proprietary groupware tools I would customize for the job , I could put every other shop out of business, in every product, in about a year


eLROY