Bonds & the Buy Side

Buy-side institutions, notorious for resisting investments in technology, are cautiously dipping the toe into the fixed-income-automation pool by investigating and, in some cases, investing in order-management systems with strong fixed-income functionality.

Frtiz McCormick, senior analyst with Boston-based Celent Communications, says that while it might seem the depressed economy would preclude investment managers from making substantial technology investments, it is that same depressed economy which is forcing the buy side to justify its fees -something a strong OMS can help do.

"With an order-management system, you can present what you are doing in the market - and why - with reporting capabilities," says McCormick. Additionally, he says, an OMS gives buy-side traders access to new electronic venues for fixed income, such as TradeWeb, and direct access to exchanges - that means the possibility to investigate and purchase from a greater universe of fixed-income securities at better prices.

"Now, at a time when I think common sense says (the buy side) would retract, instead they are seeing the need for technology to increase efficiency and cut costs, to show clients that they are the right people to be handling their money," says McCormick.

He says that most of the OMS vendors have some fixed-income functionality built into their systems, but discerning the level of that functionality and the types of instruments they can handle (Treasuries, Mortgage-backed securities, Corporates, Municipals, etc) takes some closer investigation. "Some are fairly limited in their fixed-income capabilities, but they realize that to move upstream (to larger investment managers) you have to have that," he says.

AMERICAN CENTURY

At American Century, a Kansas City, Mo.-based investment manager with $70 billion under management ($18 billion of that in fixed-income securities), executives are on the verge of moving off an in-house built fixed-income OMS and onto a vendor-provided solution.

Gurdun Neumann, a senior vice president in information technology at American Century, says, "On the fixed-income side, we have had some technology struggles and we probably underestimated the complexity of building and running our own system."

Greg Fieler, senior manager of fixed income and quant-equity programming at American Century, says, "It is really an issue of functionality - trading fixed income is really a complicated thing because there are so many different attributes and security types. The big issue in choosing a new system is finding one that can handle all the different transaction types that we need."

Fieler says the fixed-income flow at American Century is "generally moving toward more automation." He says that currently, as a first step, American Century traders will spend a good portion of their time researching what type of fixed-income securities are available in the market by talking to the firm's brokers and credit analysts, also checking what's on TradeWeb and Bloomberg, to see "how those things might fit into their portfolios." But even with the availability of Bloomberg and TradeWeb, Fieler says, "There is still a lot of calling around on the phone."

Once an agreement for a trade is made verbally, the information is entered into American's in-house fixed-income trading system which, "We developed and implemented last year," he says.

American Century's development path has focused on open standards, namely Java. "We are a J2EE shop and are not going down the .NET road at the moment," says Neumann. "We are looking for a system that would let us write APIs in Java and would conform to the IT standards that we have to help us maintain costs (which is why) we don't have every flavor of DBMS (database-management system)." She says that American Century does support DB2 (a relational DBMS from IBM) and Oracle, so the firm is focusing on vendor systems that "play in that space."

In fact, Neumann says that American Century is very close to choosing from the short list of three fixed-income OMS finalists: Charles River Development, Bloomberg and LatentZero.

Neumann says the firm is not looking for an equity-OMS vendor because it is very satisfied with its proprietary system, which she describes as "state-of-the-art."

ROXBURY CAPITAL MANAGEMENT

On the smaller end of the spectrum, Santa Monica-based Roxbury Capital Management, a $4.5 billion buy-side firm with $300 million in fixed-income assets, leverages Bloomberg for much of its fixed-income-trading needs.

John Queen, portfolio manager and head of fixed-income trading at the firm, says trading bonds is handled any number of ways at Roxbury.

First off, he says the firm's portfolio managers, who fill the role of traders as well, check the Yieldbook - a fixed-income portfolio-analytics system from Salomon Analytics (a company originally created in 1989 for Salomon Brothers) - or Bloomberg as part of their pre-trade modeling research. "We use that to come up with a feel for the value of the bond we're looking at," says Queen.

That information is fed into the firm's in-house, proprietary, portfolio-management system which handles performance measurement and attribution.

Once a manager/trader at Roxbury makes the decision to buy, and pre-trade compliance is checked, "We will go back to that dealer and execute over the phone," he says. The trade is then manually entered into a Bloomberg terminal. From there, following a post-trade compliance check, the trade has to be re-entered into the firm's portfolio-accounting system, Security APL from CheckFree. That is a gap in the straight-through-processing tradeflow that Queen would like to see closed.

"The next step that will happen, over time, is further automating the links between our accounting system and Bloomberg, which is our trade-order-entry system," he says.

Queen says that Bloomberg is an especially valuable system to use when trading fixed income because, "The securities are all built in there. Bloomberg is one of the earlier places to have the bonds in their system, so that means we don't have to build them and that is convenient."

Though Roxbury uses Bloomberg as a "market-monitor-information system," it does not function as a true order-management system, according to Queen. "We do not use a trade-order-management system because we are not running enough accounts with separate traders, so we don't need to build a blotter for the trader."

Queen says that Roxbury can do without a true trade-order-management system for now. "That is something that has as much to do with how you are set up as how large you are. Because we do not have a separate set of traders doing trades for the portfolio mangers and giving them orders, we don't need to handle that type of communication."

"I think the goal is to be more automated," Queen says. "Right now, we are fairly manual but it I think as you get more accounts, you tend to get more automated."

FIX Makes Inroads Into Fixed Income

Fix Protocol Limited recently released the latest version of the Financial Information Exchange (FIX) protocol (4.4) which features new functionality in the areas of fixed income and derivatives. The latest version of the standard, which has become the dominant protocol for buy-side/sell-side equities-order communication, is being tailored to suit the needs of the fixed-income markets.

Scott Atwell, co-chair of the FIX Global Technical Committee and manager of F.I.X. Trading and Connectivity with investment manager American Century, says that firms and vendors should take a close look at 4.4. Following its release, he says, vendors and firms should then see if the enhancements offered in the new version mesh with their business needs.

"The community adopts different versions of FIX at different rates with a focus on specific needs," says Atwell. If a firm is focused solely on equity-order flow, he says, FIX 4.0 or 4.1 is probably doing the trick. However, if a firm is active in foreign-exchange trading, 4.2 is going to be required. For fixed income, he says, "you need to look at 4.3 and 4.4."