I was lucky enough to join Nomura’s Japanese equity desk in London as my first job out of university. It was the late 80s, the Nikkei 225 was soon to hit an all-time high of nearly 39,000, and the big 4 Japanese brokerages of Nomura, Yamaichi, Daiwa and Nikko had become international financial powerhouses. However, my timing was less than perfect; within a couple of years the market had lost half its value and the once mighty Japanese security houses have since gone through a torrid time of restructure, merger or closure.
This is just a single snapshot of the constant change and evolution of the City.
From a personal perspective, having lived through Big Bang, Black Monday (and Wednesday), the Global Credit Crisis, MiFID, Brexit and much more, one thing I have come to realise is that change is a constant and the City will continuously reinvent itself.
It has a rich history of evolution and adaptation, and as household names have disappeared over the years, new ones have emerged. I’ve often joked that it would be fun to launch a chain of pubs in the City named after famous old firms – ‘Meet you for a pint at the Philips & Drew?’ or ‘Fancy a quick one after work at the Morgan Grenfell?’. But to my earlier point on poor timing, now might not be the smartest time to invest in hospitality.
While much of the change has been positive, there is one trend that concerns me: industry consolidation driven by the squeeze on profitability resulting from numerous waves of regulation post the 2008 credit crisis.
While I am not disputing the need for market reform nor tighter regulation of some of the more questionable practices of our industry, there have undoubtedly been unintended consequences, ranging from a reduction in bond market liquidity through to an increase in shadow banking activity.
The cost of maintaining increased capital reserves and ramping up compliance and risk management has crushed margins on certain business lines, leading to industry consolidation as desks are closed or banks merge to survive.
This isn’t healthy for the end investor nor the industry. A reduction in players and the emergence of a handful of large-scale firms impacts the broader capital markets ecosystem, including the long tail of consultancies, law firms, technology companies, data vendors and other organisations that make up our wider industry.
And while not everyone may care too much about lawyers, industry consolidation leads to a reduction in competition, a shrinking talent pool and ultimately less innovation. At a time when the world is looking to emerge from the pandemic and kickstart the global economy, this is far from ideal.
What’s the future for Capital Markets?
However, as I look forward, I am very optimistic about the future for capital markets, and I see significant opportunity for those who are able to grab it.
From an economic standpoint, one could argue that the need for effective financial markets has never been greater. With trillions of dollars being pumped into the global economy through quantitative easing and stimulus packages, efficient deployment of the capital and vibrant secondary markets will be critical to recovery.
Even when QE tapering kicks in, we will undoubtedly see governments follow through with investment in major infrastructure projects (some of which, such as 5G roll-out, will have longer term benefits for financial services) and carbon reduction initiatives.
Admittedly, many sectors have suffered from the economic fallout of Covid-19, but there have also been significant winners. Changes to consumer behaviour have driven technological innovation faster than we thought possible.
Fuelled by pent-up demand and increased disposable income, created through enforced saving during the pandemic, economic activity has the potential to rebound strongly. All of this will drive near-term performance in capital markets.
But perhaps the more interesting and sustainable opportunity is that presented by the acceleration in adoption of new technologies. Technologies that have been around for a while but are rapidly maturing and gaining traction.
Capital markets firms have faced a decade of regulatory reform that has monopolised budgets, building up technology debt in core activities, so wholesale adoption has been slow. But cost cutting of existing operating models has gone as deep as it can, and inflexible legacy technology is holding firms back as the world changes around them. The stars now seem to be aligning, driven by both necessity and opportunity, for technology to enable a new era of productivity.
These are three key areas that I see making a difference over the next 12 months and beyond:
- Cloud and Data – Surely cloud is old news? I don’t think so. Widespread adoption has been painfully slow in capital markets (maybe less so in other areas of finance) but has accelerated over the last few years. Cloud is important for two key reasons. Firstly, it will allow the industry to unlock the true value of data. Firms such as RoZetta Technologies are helping organisations with a combination of data science, cloud and deep domain expertise to turn petabytes of disparate data into actionable insight. Secondly, cloud allows firms to become nimbler and more innovative by cutting time to market and the cost of implementing new initiatives. There are still issues to address, such as streaming multicast, but progress is rapid and cloud will play a hugely enabling role going forward.
- AI and Machine Learning – While often overhyped, AI, and in particular machine learning, are steadily making an impact in capital markets. Predominantly, this has been targeted at alpha generation and alpha extraction, with quantitative hedge funds leading the way. But we’re increasingly seeing an expansion in use cases, such as Overbond’s AI analytics for bond pricing and trading workflow automation in fixed income. Data quality and accessibility are prerequisites for machine learning and training AIs, hence the importance of cloud, and we are rapidly seeing science projects turn into genuine P&L gain.
- DLT – Distributed ledger technology and asset digitisation are going to play a huge role in the future of capital markets. Behind the headlines of cryptocurrency price inflation and Bitcoin millionaires, there is a quiet revolution happening. The financial system is littered with inefficient processes and unnecessary risk in the time it takes to settle trades and transfer value. We are seeing organisations slowly chipping away at legacy processes, proving how distributed ledger technology can drive massive efficiencies. This can often be in unheralded arenas, for instance Lygon’s efforts to fully digitise financial assets such as guarantees with a consortium of Australian banks. But with institutional asset managers increasingly investing in cryptocurrencies in the near term, the wider opportunity for asset digitalisation is immense.
Beyond such capabilities, there is one common issue that is critical for capital markets’ innovation, and that is the need for a more open approach from technology vendors.
I am increasingly seeing firms held back from executing on their business strategy by incumbent vendors whose technology is either too legacy to be interoperable, or whose management is too unwilling to take the risk of opening up their business model.
There is a growing desire for firms to move towards a ‘composable enterprise’, seamlessly connecting best of breed components to keep pace with change or become an industry leader, creating tailored solutions to meet their specific needs. Market dynamics demand continuous innovation, which means flexible, adaptable, open technology and a shift away from reliance on a single vendor to deliver the entire workflow, waiting for their product roadmap to catch up with yesterday’s problems.
At Rapid Addition we see a reimagining of the front office, empowered by the three technologies I mentioned, but complemented by a new wave of enabling enterprise technology firms who can help the capital markets industry quickly evolve.
We believe that the open API and interoperable approach of firms such as ourselves, Velox and others will allow capital markets organisations to adapt faster, while reducing the risk of change; continuously innovate, rather than dragging along legacy tech to keep up; and deliver modular, value-enhancing steps that build on existing investment and avoid large scale ‘rip and replace’ projects.
This will empower businesses to move faster, position technology as a strategy enabler rather than an inhibitor and create efficiencies for both their own organisations and their clients. We are starting to see this happen and I am truly excited about the next cycle of our constantly evolving industry.