Nerds on Wall Street: Math, Machines, and Wired Markets

3.11. Markets in 2015, Focus on Risk

Two recent prognostications on markets in 2015 are remarkably similar. One is from BearingPoint, "Shifting from Defense to Offense: A Model for the 21st Century Capital Markets Firm."^[] The other is "Profiting Today by Positioning for Tomorrow: A Field Guide to the Financial Markets of 2015," from IBM Global Business Services.^[] They describe a shift from a product paradigm to a risk paradigm. Prognostications here include: an increase in the complexity of derivative and structured products driven by the demands of alpha-seeking strategies; some products' requirement of willingness to commit capital in innovative ways; and increased trading interest in risk classes, over individual securities. Both articles forecast an increasingly risk-centric view of trading. IBM opines, "As the industry matures, many traditional activities will come under increasing pressure and new value engines will emerge. Activities under pressure are unnecessary bundles and transaction businesses. Value engines will be risk assumption and risk mitigation." (p. 1)

How will these trends be reflected in algorithmic trading systems? If the shifts described occur as predicted, we can anticipate that clients will want to control trade path risk, and sell-side firms will want to accommodate them.

Controlling risk exposures during the course of a complex trade using custom derivatives plays to one of the strengths (and profit generators) for large firms. Agents will have to ...