Hot on the heels of building risk management and trading systems at major investment banks such as Goldman Sachs and Credit Suisse First Boston, the founders of a new company called Kiodex are looking to level the playing field in the commodity-derivatives markets. The infant technology company is focusing on developing Internet-based trading and risk management technology to address the needs of established and emerging commodity-derivatives markets. Specifically, Kiodex is looking to enhance the risk management of those markets by moving to an electronic platform with integrated risk analysis, adding transparency and efficiency to the currently phone-based brokering system of trade.
Kiodex has developed its Risk Workbench and Trading Engine technology and is expecting to release the beta versions sometime this summer. Sempra Energy Trading has signed on as Kiodex's first beta customer, while a partnership deal is in the works with the Petroleum Pricing Exchange to embed the Kiodex risk management tools into its site. "A lot of what's out there right now on the trading platform side has been developed from auction-based software or stock trading systems, and those just aren't fully able to deal with the complexity of derivative products," says Raj Mahajan, co-founder and vice president of business development at Kiodex.
"Many of the participants who are transacting in the over-the-counter commodities market don't have great risk management," he says. "It is pretty one-sided because the investment banks they are transacting with have great risk management and that creates some problems." Because the derivatives market is somewhat complicated mathematically, says Mahajan, it is difficult for some participants to understand what their risk is on a day-to-day basis. "Clients call up the dealers asking what their risk for the day is and how much they could lose, but at the same time, that's their counterparty on the trade, so there is a conflict of interest in some ways," he adds.
"The idea behind the Trading Engine is to risk manage as many positions as possible and one of the ways to get those positions is to create the actual trading technology," says Mahajan. "Derivatives are unique financial products and have certain properties that need to be taken into account when creating electronic platforms." Part of what makes the Kiodex offering unique, says Mahajan, is that it was developed with the help of commodities traders and risk management technology veterans. "We've done this before for Goldman and First Boston and there are very few vendors out there that can say they've built a risk management system from scratch for an investment bank," continues Mahajan.
The HTML/browser-based Trading Engine is an order-matching system that allows traders to enter firm orders for standard and exotic commodity derivatives, as well as other types of orders such as market, limit and stop. Users can also put restrictions on orders, receive executions and confirmations, enter requests for quotes and respond to requests for quotes on the Trading Engine. Kiodex is targeting exchanges and marketplaces in existing commodities markets such as oil, natural gas and electricity, as well as emerging business-to-business markets such as paper, chemicals, steel, telecommunications, bandwidth and semiconductors.
In terms of risk management, Kiodex offers real-time risk reporting with visualization tools, categorization and drill down capabilities to manage risk profiles across multiple trades, trading books and asset classes.
But the battle may be uphill for Kiodex, says Larry Tabb, director of the securities and investments practice at the TowerGroup. He says that while the mostly telephone and open outcry market is big, it will depend on the company or system to get the electronic trading right. "The people who are going to be successful are the ones that understand the market, and have the connections and relationships with the brokers," adds Tabb. Another key to success for company's such as Kiodex, says Tabb, will be the ability to make money in light of the pricing pressure built into most of the electronic systems. He adds it will be a "hard push," but only time will tell whether Kiodex and electronic trading in commodities markets will catch on.