Next generation market making and principal risk trading: Are you ready?

November 22, 2022

Markets are volatile, competition is fierce and client expectations are continuing to rise. So how can you outpace the markets and the competition?

Regulatory costs previously prompted some market makers to retrench from the market. Today, they are finding their way back, but that means striking a balance between the regulatory cost of inventory and the need to source liquidity and service their client base. As such, there is a growing need to run a market making business that has reach and is able to handle many types of instruments, from vanilla to complex.

With higher trading volumes, robust risk measures need to be in place from a compliance, profitability and safety rules perspective. Transparency, usability and oversight are crucial for market makers that need to be able to move quickly. Consequently, quote management and maintenance need to be efficient and ergonomic. Quote performance and scalability mean different things for different types of market makers. Listed standard derivatives, for example, tend to need ultra-low latency response times, but the same is not true of structured products with a broader bid-offer spread.

Principal risk trading has borne the brunt of a more punitive regulatory regime – because if you carry a large inventory, you have to pay a large regulatory cost. Market making and principal risk trading are interdependent because, in the process of market making, there is always an element of keeping an inventory. The modern market maker needs to optimize their inventory to better service their clients, develop their business and control costs.

It’s clear that more sophisticated technology is needed to support these distinct needs. In practice, many market makers continue to struggle with legacy systems in sunset mode or systems that have not been purposefully designed. But what if they could replace these outdated systems with technology that is built for purpose and ingrained with key functions, from automation to exception-based management?

With financial institutions looking for a unified front end, traders need a high-performance, scalable, automated system that’s capable of spanning all markets and asset classes. And to outperform, market-making systems need to do more than just connect to markets and trade. They need to act as a second set of eyes and ears – alerting the trader to shocks and volatility, improving reaction times and reducing risks by spotting exposures and vulnerabilities before they occur.

Advancing market making is increasingly seen as essential to providing better client services. As innovative trading technology helps market makers permeate more markets and contributes to the wider trading opportunities, market makers can expect to leverage more next-gen technology. With market making increasingly being run by fewer and fewer people, there is a clear tendency to use a smaller number of market makers to oversee a wider set of products and markets. This has created new requirements, especially in the area of automation, exception management, oversight and operability.

In short: market makers today need next-gen technology to stay competitive. FIS can help them generate the scale needed to further increase market share and boost profitability.

Contact us to learn more.

About the Author
Pontus Eriksson, Strategy Director, Trading and Processing, FIS
Pontus ErikssonStrategy Director, Trading and Processing, FIS

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