HoT: Please tell us about your own personal career path.
HM: I started out, twenty years ago, as a graduate at Reuters, on the real-time market data side, working for Herbie Skeetes, who now runs Mondo Visione. I’d always been interested in the trading side but I’d just been working with data, trading was a missing link and I wanted the two to come together. I ended up applying for a job at Instinet, on the electronic trading side, as a business analyst, but sat on the trade floor. Out of thirty applications I was lucky enough to get the job. Instinet was a golden goose, at that point, for Reuters. I had various roles on the business and technology side which culminated in heading up exchange connectivity in Europe and post-execution technology. From that point, I ended up co-founding Chi-X Europe with Peter Randall. We syndicated that out to the banks and trading houses. I became COO of Chi-X Europe and then, in February 2010, left Chi-X Europe and ended up co-founding Algo Technologies. I left Algo after about eighteen months, because of differences in strategy, and then co-founded GMEX Group, with a number of partners, just over three years ago.
We saw the way the fixed income markets were changing, that MiFID II was going to cover a greater degree of asset classes, we saw the capital adequacy requirements that were coming in with Basel III and so forth and we realised it was an opportunity to create a futures product that closely aligned to the OTC products out there. A product that would be much cheaper on margin than the existing OTC products, so central clearing came into being.
HoT: Can you tell us a little bit more about the GMEX Group and your hopes and aspirations?
HM: We’re well known for the core business that we’re launching, which is out there in the press. GMEX Exchange, which effectively involves the set-up of a trading venue (which went live on 7th August) for the trading of a range of products, the first one being the GMEX Interest Rate Swap Constant Maturity Future. That is a futures product that is based on the underlying OTC Interest Rate Swap market that offers a two day VaR margin as opposed to a five day VaR margin on OTC Interest Rate Swaps. It’s about 80% to 90% cheaper than using a plain vanilla swap for hedging. Added to that, it’s up to 30% cheaper than the quarterly rolling futures on margin.
We all know that capital efficiency is very important out there, so that’s the core business and there will be other products that follow with the same framework, which has a US Patent pending on it. We’ve got two other facets to the business, one is GMEX Technologies. We build everything ourselves, we’ve got everything you need to run an exchange front to back, including the clearing and the CSD platform, which we provide to emerging markets exchanges and new trading venues. We’re not averse to partnering by taking equity and revenue share as opposed to just the customer/supplier relationship. The third facet of GMEX is GDI, Global Derivatives Indices and that’s our quant house, our index house and our IP development centre where all the products that trade on GMEX Exchange are developed. GDI has the potential to develop other products for the exchanges in the emerging markets as well.
HoT: What are your views on the relationship between the front office, the middle office and back office issues such as clearing?
HM: I’ve set up two new exchanges, one for equities and one for derivatives. When you create a new equities exchange now, the market infrastructure on the post-trade side is pretty straightforward, you can just plug into the clearing houses, and you’re not reliant on a lot of the complexities that you see for derivatives. If we look at the derivatives market infrastructure, it’s much more based on vertical silos. The product development around a new product was relatively straightforward compared to the lift that we had to do to get into on the post-trade market infrastructure, by which I mean, getting into a clearing house. Connected to that, you’ve got the whole middle office, back office vendor side.
The flip side of that has been hooking in the derivatives vendors and making sure that the big players on market data distribution, especially Bloomberg, have the data out there. It’s very much a front to back play, but with that also comes the dependencies that we have on clients, because the product that we’ve got really appeals to the buy-side but a typical buy-side client has to have the right kind of brokers in place, the front office connectivity has to be there as well as the post-trade connectivity. The links to the administrators have to be there as well. They have to go through a new product approval and risk approval process, so if we look at all of that, it seems very straightforward setting up a venue, but once the infrastructure is there, you’ve also then got the whole dynamic of how you’re going to create a two sided market. Coupled with all of that, the biggest issue we have in the industry is grappling with regulatory change. Firms have to prioritise what they’re doing. We hear this on the sell-side especially when we’re dealing with the prime brokers. The hardest part is getting into the queue.
HoT: Finally, how do you see the future of trading?
HM: In the futures market, there are many proprietary trading firms but spreads have narrowed. The liquidity may be there yet the volatility isn’t always there. It’s becoming a game of natural selection. I can imagine a scenario where, in a few years’ time, you’re going to have a small number of more sophisticated players that prevail in the market; those players that carve out a niche have to really differentiate their trading models rather than just using the same technology or the same strategies as everyone else. We’ve seen this already, in equities, with high frequency trading, where the latency game then becomes a huge investment, just to save a few micro-seconds. That’s a zero-sum game as far as making money from a P&L perspective is concerned. On the proprietary trading side, we’re certainly going to see that and also a greater multitude of more sophisticated multi-legged strategies across asset classes. To get that trading advantage, it’s those sorts of strategies that will come into being.
On the prime brokerage side we’re already seeing consolidation. There are fewer and fewer independents and because now prime clearing is a balance sheet game, the cost of capital and the cost of servicing clients is quite large and you’re going to see further consolidation amongst the prime brokers. We’ve seen the large prime brokers shed some of their smaller clients. What we’re going to see, potentially, is some of these fund aggregators come in, who could aggregate them and that will allow economies of scale with those prime brokers. The biggest driver in all of this is regulation. There are the usual compliance issues but therein lies an opportunity. We wouldn’t exist if it wasn’t for the financial crisis, the fact that swaps have ended up becoming more expensive and centrally cleared. For example, we were at a large hedge fund just yesterday and we found that one of the issues they’re grappling with is that their traders are now being charged directly for in-house capital usage, which was not the case in the past.
Now, because the banks are charging for that capital upstream, it’s more expensive for that buy-side shop and it’s no different for any hedge fund or asset manager. What they’re now doing is figuring out how they can efficiently use that capital. The traders are now being charged P&L which means they’re looking for cheaper products, a cheaper way to hedge. It’s the same on the asset management side as well. If they’ve allocated capital on margin, interest rates are low, they’re not really getting a return on that, which adversely impacts the performance of their funds. As a result the ROIs on the fund side are suffering as well. All this suggests that there will be a degree of futurisation in markets as far as any OTC move to futures is concerned. What percentage that will be is anyone’s guess. That figure might be as much as 40% to 50%. The interest rate swap market is $430 trillion of open interest annually, so even if we get 10% of that, I’ll be smiling.