A proposed extension of activities by the Australian Stock Exchange (ASX) on the back of a partnership with OM to implement the technology provider's integrated derivatives and equities trading platform, Click-XT, has raised the possibility that the exchange might deploy back-office services to broker-dealers via a central utility.
"It's very significant to be able to cross-value the cycle in that sense," said Colin Scully, the ASX's COO, in a speech at the Securities and Derivatives Industry Association's recent annual conference in Melbourne, reiterating the exchange's strategy to expand beyond its core trading activities.
In acquiring 15 percent of leading market data vendor Iress in 2002, and entering the registry business with Perpetual in the same year, the ASX has already pursued activities across the trading spectrum--from market data, trade capture and confirmation, to clearing, settlement and registry holdings.
A Natural Progression
According to Peter Fitzgerald, general manager of trading at the ASX, a move beyond the existing equities trading platform is a logical one. "ASX has been operating an electronic cash market on its own system, Seats, since 1987, and in 1997 commenced using the OM Click platform for its options equities market," he said. "It was a natural progression to extend all of our trading onto one platform."
As part of the upgrade to Click XT, ASX will also outsource most of its development to OM, with the Stockholm-based vendor taking on a central role as the ASX's technology partner. "We will access their developers when we need them, rather than maintaining a full in-house team, and benefit from OM's economies of scale," Fitzgerald said.
But some observers are questioning how far the exchange's integrated platform and partnership with OM will go. The ASX previously pushed a central clearing system, called Fund Connect, for Australia's fund management industry--which, unlike processing for the equities market, is highly inefficient and paper-based--but withdrew that initiative in 2003, due to a lack of market enthusiasm.
"We sought to bring together the fund management industry in a back-office sense but had to discontinue because of the various interests at work-because every time you seek to move into a space and address some inefficiencies, somebody is already there in a market opportunity," Scully said.
OM's recent acquisition of local derivatives vendor Pallion and plans to extend Pallion's back-office capability to support equities processing have also fueled speculation of a further collaboration between the two vendors and ASX, because in addition to being the leading provider of back-office derivatives systems for broker-dealers, Pallion also provides the clearing platform for the ASX derivatives market.
"We [OM and Pallion] are talking to existing Pallion customers about their back-office equities requirements and working out a strategy to move into that area," said Paul McKeown, OM's general manager for banks and brokers. "We're keen to get into this market."
According to McKeown, OM would enter the equities space by building on Pallion's existing broker derivatives client accounting system, DCA, and would not follow OM's global model to divest its back-office product lines in favor of exchange-run, central back-office-for-hire services, like OMHex in Scandinavia (Securities Industry News, April 12).
"We have had no discussions about deploying a back-office capability with the ASX," he said.
Added an ASX spokesperson: "It's not something on our agenda at the moment."
However, some vendors remain unconvinced. "The timing of the OM-Pallion and OM-ASX announcements is an interesting coincidence," said Stephen Lake, CEO at GBST, a leading provider of back-office systems to sell-side institutions.
Otto Buttula, CEO of new correspondent clearer IWL, is critical of the ASX's participation as both exchange and a provider of market data services. "Their investment in Iress is perverse. You can see what happens when you have a monopoly: they have managed to double profits in about three years because there is no pricing pressure, which obviously attracts players such as ourselves into the data market," he said. "From a clearing perspective, it would not surprise me if the ASX entered the back-office market, but it would probably be via acquisition of an existing vendor rather than an organic development with OM."
Other vendors refused to be drawn into the debate. "I wouldn't speculate on ASX's ambitions," said Jessie Pak, managing director of ADP Wilco Asia-Pacific.
End-to-End Ambitions
Pallion processes about 50 percent of derivatives transactions on ASX, excluding market makers, according to executive director Peter Fowler, with 24 broker-dealer customers including ComSec, Goldman Sachs-J.B. Were, J.P. Morgan, Credit Suisse First Boston, ABN AMRO and Citibank. "Pallion is a perfect fit for OM," Fowler said, "because apart from synergies between our exchange and broker systems in Australia, OM has the global reach to take our products overseas."
In addition to ASX's derivatives clearing system, called DCS, Pallion provides a trade order management product (Toms) with its DCA back-office system for broker-dealers. According to Fowler, the DCS system interfaces to both the ASX's Click trading platform and to central depository Chess for settlement, providing "STP-like processing" from the brokers to the ASX trading and clearing platforms.
"The order is received from Toms into Click at the ASX, which feeds the trade through to the DCS clearing platform for electronic processing of trade details back to the DCA system in the broker-dealer's back office," Fowler said.
OM-Pallion's strategy is to extend the Toms capability to handle equities by the time the ASX rolls out its integrated Click XT platform by the fourth quarter of this year or early 2005. "It will be ready for Day One of the introduction of equities trading on Click XT," Fowler said.
OM's plan for offshore markets is an end-to-end broker, exchange and clearinghouse platform, where the DCA broker system would interfaced with OM's Secure derivatives clearing platform. Derivatives clearing in Australia would remain on the DCS platform.
Equities the Missing Link
At this stage neither, OM nor Pallion has a back-office equities system that can link to Chess, and this has proven to be an obstacle for OM in the past. The vendor abandoned two previous attempts to enter the market--first with its OneWorld product via a clearing initiative with ABN AMRO, followed by a proposed deal with Perth-based broker Sanford to interface OM's Finess derivatives product with Sanford's trading and clearing and platform, Plato 11. Sanford was subsequently acquired by IWL.
"The cost of bringing an external product to this market outweighed the advantages, to be quite honest," said McKeown. "When we looked at the business case, the cost of customization of the Finess product didn't make sense."
Nevertheless, McKeown believes that groundwork for the future has already been laid, with the OneWorld attempt and Pallion's existing Chess integration. "There have been some well-known and high-profile failures in this market," he said. "Many international vendors just think they can come and plug and play, and Chess is just not structured that way. It's important not to underestimate the work that is required; however, DCS has some Chess integration built into it."
Vendors are adopting a wait-and-see attitude on the OM-Pallion venture. "The Australian back office remains a tough market and any decision to switch back-office providers is not made lightly," Pak said.
Added GBST's Lake: "Solid providers bring more competition and efficiency to the market, but OM is yet to deploy a solution."
Andrew Murdoch, head of research at GBST, points to fundamental differences between the equities and derivatives markets as a hurdle to overcome. "Derivatives is a centralized model, where the clearinghouse application (DCS) is responsible for recording and managing client information, and settlements are all cash only," he said. "The equities market requires brokers to have the capability to settle stock as well as cash; track the client's financial and stock position and manage client risk; have the ability to manage multiple holding types and corporate actions; and deal with registries. They also need to support a range of ancillary services, such as custody, links to cash management trusts and margin lending. The difficulty with Chess is not the technical connection, but how Chess messages are managed in the context of the overall business. This together with the other requirements makes the build a significant, multi-million-dollar exercise."
But McKeown is not deterred and would look at further partnerships in order to proceed. "The first priority for OM and Pallion is to have a technology offering that will provide support for the equity derivatives and the cash equities market," he said.
"In terms of partnerships, we are talking to potential users of the system. We are not actively seeking relationships with existing vendors but would not rule this out," Fowler added.
Meanwhile, Scully is keeping the ASX's powder dry. "Our policy is to go with best of breed," he said. "We have a very good relationship with Pallion and OM. We keep our interfaces open so that ASX technology doesn't dictate broker-dealer technology, and if there is a change in that space, you will hear about it."
