Category Archives: Topical

Includes posts on physics, philosophy, sciences, quantitative finance, economics, environment etc.

Trading Desks

At the heart of Front Office are the trading desks. In terms of prestige and power, they really are the reason for the whole infrastructure of Front Office, including economists, sales, structuring, quants, quantitative developers etc. After all, they make the profits. And consequently, the vocal and volatile traders hold enormous sway. At their beck and call, quantitative developers provide instant service on trading platform issues; quants develop pricing models based on their requirements.

Trading Desks

Trading desks interact with the external world of brokers and counterparties. They take their input on market moves from highly responsive market data providers and base their positional views on staff economists. They have an army of trading assistants (junior traders themselves) who help them book and monitor their trades with the help of risk management professionals associated with the desks.

Their interaction with the rest of the bank is mainly mediated by the trading platform. When the book a trade, for instance, it goes into the trading platform and ends up with some middle office professional who will decide whether to accept it or bounce it back for further modifications. Various risk management staff from the middle office also will take a hard look at the trade, as we shall see later in the trade lifecycle.

The desk risk management team get their cues also from the Middle Office risk management, in terms of approved limits and daily marked-to-market and sensitivity reports. All these channels of communication need to be facilitated in the trading platform.

Sales and Structuring

Those in sales tend to be personable, extroverted and persuasive people. A good salesman can sell a refrigerator to an eskimo, I’m told. IN the context of the front office in the global treasury or global markets, sales people are tasked with sniffing out trading needs from their customers and offer compelling products from the trading and structuring desks to fulfill them.

Sales

The life of a sales professional is a tough one. They need to meet progressively more aggressive targets in sales volumes to stay in the game. The moment they meet the target one year, it jumps the next year to an even more unattainable level. The sales staff, therefor, find themselves under constant (or even increasing) pressure. Knowledge of mathematical finance, while useful, is not a pre-requisite for sales jobs. In fact, mathematically inclined folks tend to be reserved and introverted, and tend not to have the qualities that make for a good salesman. In other words, if you are a quant, your most ideal role is not in sales, although the structuring side may offer some interesting opportunities.

Do You Believe in God?

I got in trouble for asking this question once. The person I asked the question got angry because she felt that it was too personal. So I am not going to ask you whether you believe in God. Don’t tell me — I will tell you! I will also tell you a bit more about your personality later in this post.

Ok, here is the deal. You take the quiz below. It has over 40 true-or-false questions about your habits and mannerisms. Once you answer them, I will tell you whether you believe in God, and if so, how much. If you get bored after say 20 questions or so, it is okay, you can quit the quiz and get the Rate. But the more questions you answer, the more accurate my guess about your faith is going to be.

[ezquiz]
q: When you walk into a theater, classroom, or auditorium (and assuming that there are no other influential factors), you tend to sit on the right side.
a: false
q: When taking a test, you prefer an objective style of questions (true/false, multiple choice, matching) rather than subjective (essays).
q: You often have hunches.
a: false
q: When you do have hunches, you follow them.
a: false
q: You have a place for everything and keep everything in its place.
q: When you are learning a dance step, it is easy for you to learn by imitating the teacher and getting the feel of the music.
a: false
q: When you are learning a dance step, it easier for you to learn the sequence of movements and talk your way through the steps.
q: You prefer to keep the same arrangement of your furniture; you don’t like to move occasionally.
q: You can tell approximately how much time passed without a watch.
q: It is easier for you to understand algebra than geometry (speaking in strictly relative terms).
q: It easier for you to remember people’s faces rather than their names.
a: false
q: When given the topic “school”, you would prefer to express your feelings through writing rather than drawings.
q: When some one is talking to you, you respond to the word meaning, rather than the person’s word pitch and feelings.
q: When speaking, you use few gestures. (i.e., you very seldom your hands when you talk.)
q: Your desk or your work area is neat and organized.
q: It is easier for you to read to grasp the main ideas rather than specific details.
a: false
q: You do your best thinking sitting erect, rather than lying down.
q: You feel more comfortable saying/doing well-reasoned things rather than humorous things.
q: In math, you can explain how you got the answer.
q: You always wear a watch.
q: You keep a journal.
q: You believe there is a right and a wrong way to do everything.
q: You have difficulty following clear step-by-step directions.
a: false
q: The expression “Life is just a bowl of cherries” makes no sense to you.
q: You like it when people stick to their schedule.
q: If somebody asked you for directions to get somewhere, you would give clear step-by-step instructions rather than draw a map.
q: If you lost something, you would try to remember where you saw it or used it last rather than look for it everywhere.
q: If you don’t know which way to turn, you would think taking a chance (tossing a coin, for example) is as good as going with your instincts.
q: You are pretty good at math.
q: If you had to assemble something, you’d read the directions first.
q: You are almost always on time getting places.
q: You set goals for yourself so that you don’t slack off.
q: When somebody asks you a question, you turn your head to the left.
a: false
q: If you have a tough decision to make, you write down the pros and the cons.
q: You would make a good detective.
q: You are musically inclined.
a: false
q: You believe there are two sides to every story.
a: false
q: You keep a to-do list.
q: You feel comfortable expressing yourself with words (writing), rather than pictures and colors (drawing).
q: Before you take a stand on an issue, you get all the facts.
q: You often lose track of time.
a: false
q: If you forgot someone’s name, you would go through the alphabet until you remembered it.
q: When you are confused, you usually try to figure it out rather than go with your gut instinct.
q: You have considered becoming a lawyer, journalist, or doctor (but not a poet, a politician, an architect, or a dancer).
[/ezquiz]

Once you have your Score (or Rate, if you didn’t finish the quiz), click on the button corresponding to it.

         

Here is how it works. There is a division of labor going on in our brain, according to the theory of hemispheric specialization of brain functions. In this theory, the left hemisphere of the brain is considered the origin of logical and analytical thinking, and the right hemisphere is the origin of creative and intuitive thinking. The so-called left-brain person is thought to be linear, logical, analytical, and unemotional; and the right-brained person is thought to be spatial, creative, mystical, intuitive, and emotional.

This notion of hemispheric specialization raises an interesting question: is atheism related to the logical hemisphere? Are atheists less emotional? I think so, and this test is based on that belief. The quiz tests whether you are “left-brain” person. If you score high, your left-brain is dominant, and you are likely to be more analytical and logical than intuitive or creative. And, according to my conjecture, you are likely to be an atheist. Did it work for you?

Well, even if it didn’t, now you know whether you are analytical or intuitive. Please leave a comment to let me know how it worked.

[This post is an edited excerpt from my book The Unreal Universe]

Photo by Waiting For The Word

Economists

Economists have too many hands. On the one hand, they may feel that oil prices are going to go up because of increased demand from emerging giants like India and China. On the other hand, there is a global slowdown, and the overall demand is likely to fall, putting downward pressure on the prices. Then again, the rampant corruption and inherent deficiencies in markets like India might push the prices high. On another hand, price-driven improvements on the supply-side (like better production techniques) may eventually push the prices down. My ex-boss, an economist himself, once told me that he wished he could chop off some of these hands!

Economists

But seriously, economists are the mouthpieces of the bank. When you see someone from an investment bank on TV making an intelligent observation about the market outlook, it is likely to be a staff economist. If you manage to navigate through the jumble of hands, you will hear what the bank wants to say to the world.

That is precisely why you have to pay close attention and try to read between the lines. You are listening to what the bank wants you to hear. When you listen to a Morgan-Stanley economist assert that Facebook is the best thing since sliced bread, should you trust him, given that they were the investment bank behind Facebook IPO? Of course, the lingo you will hear from the economist would be a lot nicer, subtler and more convincing than I can muster. But you should still ask yourself, “Is there a hidden agenda?”

Economists may seek to influence the market; they also distill and condense their take on the market and share it with the traders and executives so that they can formulate and fine-tune their tactics and strategies. Thus, they play an important role in the directional views that banks take when navigating the tricky waters of trading and speculating.

Front Office

The Front Office looks quite complex in the slide below. All we need to remember is that the “Front” in Front Office is for world-facing. So in the slide below, you can see functional teams, some of which interact with the external world. These teams are:

  • Economists who talk to the media and receive market inputs that they condense into useable intelligence for the rest of the bank.
  • Sales and Structuring teams who talk to customers to sniff out potential opportunities.
  • Trading Desks, interacting with their peers in other financial institutions and other counter parties.

Front Office

One level removed from this layer of customer or world-facing teams are the quants and quantitative developers of Front Office, along with the risk managing professionals associated with the desks. They play supporting roles to the first layer of teams. Quants develop pricing models, quantitative developers roll them out into trading platforms, and the desk risk management team helps traders monitor and hedge their exposures. Note that almost all the interactions among these teams are mediated by the trading platform. The platform also acts as a conduit between the functions of Front Office and Middle Office. The nature of these functions and interactions of each team will be the topic of the next few posts, starting with the economists. Stay tuned.

Pride and Prejudice

Swami Vivekananda gave a few speeches at the World Parliament of Religions in 1893. These speeches still fill us Indians with a good deal of pride. I managed to locate an old recording of them on the Internet and cleaned it up a bit. Here it is for your listening pleasure.

The skeptic in me, however, will not let it to go without a critical self-examination. What exactly am I proud of? I would like to say his deep thoughts on the Hindu philosophy and his lucid expose on it. But the fact of the matter is, I was proud even before I heard or read the speeches. If you are proud as well, let me ask you this: did you actually listen to the whole speech? If you did not, what are you really proud of? By the way, I have the latter part of the speech (his paper on Hinduism) posted below, for your reading pleasure. One way or another, you are going to pay the price for your pride!

Swami VivekanandaI suspect my pride is a throwback to the colonial era, and the reverence of the associated foreign language that we somehow assimilated from our parents or grandparents. May be it is a bit more than that — may be it is that Swami Vivekananda managed to impress the heck out of a bunch of them, the colonial masters, which is something all of us want to do at some deep level. May be it is just his strong and fluent diction, and his command of the language.

If you see a dog walking on its hind legs, it’s not so much that it does it well, as that it does it at all. Is it appropriate for other dogs to feel proud of a dog that can demonstrate this alien trait? Are we doing something similar when we admire each other’s command of this foreign tongue? After publishing a column on Reading Between the Lines in a local newspaper, I got a phone call from a fan. Let’s put aside the feeling of creepiness in getting a phone call from a stranger on your cell phone; the gentleman (who sounded kind of old) was pleased with the what I wrote and how I wrote it. Now, thinking back about that call, I feel as though his admiration was also perhaps a remnant of our shared colonial past (though, in my case, the past was one or two generations removed). May be he felt that I had finally learned enough English to make an efficient clerk. This dog had finally mastered the art of walking on his hind legs.

Whatever its origin, this pride of mine has a flip side to it. It is the rise of the evangelical TV talk shows in India, and the instant nirvanas offered by new gurus. A while ago, I published a piece warning of the dangers posed by the modern gurus. While conceding that I may be prejudiced against them, I would like to draw your attention to this video where a guru is demonstrating the magical powers of a newly re-discovered ancient concoction, manufactured and sold by his nephew. A believer sees in this spectacle a genuine miracle, or at least a good, albeit hidden, reason for the guru to be doing this demo. I see only a bad reason. Instances like this video (and the live show I happened to have caught) fill me with the opposite of pride — shame. But then, what do I know — may be a hundred years from now, long after I’m dead and gone and forgotten, at least some of these modern gurus may be revered the same way Swami Vivekananda is now; though I wouldn’t count on it. In any case, I am pretty sure that their descendants will be a lot richer than mine.

http://www.youtube.com/watch?v=Quf3Ynu-Qq4 (This video where the guru himself performed the demo seems to have been removed for obvious reasons.)

Here is another such demo in a different context where nobody will have problem spotting the trick.

These videos and their message may have offended some of my readers, and for that, I apologize. When people invest their time and energy into spiritual endeavors, they do not want to be made aware of the negative aspects of their path, because seeing something negative in their pursuit is, in their view, tantamout to questioning their intelligence. This peculier resistance to truth also gets masterfully and cynically exploited by the new-age spiritual movements. I only want to say that I mean well, for some of those affected are people very dear to me.

And as promised earlier, here is the paper on Hinduism by Swami Vivekananda that he read at the Chicago conference.

Photo by Premnath Thirumalaisamy cc

Structure of a Bank

The trading arm of a bank consists of three so-called “offices” — the Front Office, the Middle Office and the Back Office. The Front Office (which may go by the names Global Treasury, Global Markets etc.) is the customer facing part. It houses the loud and strong-willed traders, extremely articulate economists, personable sales staff along with some mathematicians with thick glasses and bulging foreheads. The Front Office is considered the profit-making part of the trading activity — it is a profit center. All other teams in the other two offices are cost centers, which is a fact that is well reflected in the compensation structure.

Trading Platform

The Middle Office faces the Front Office, not the external world. They busy themselves with trade validation, lifecycle management, risk calculation, monitoring, limits enforcements etc. The Back Office is far removed from the Front (and from the sphere of influence of a quant or a quantitative developer). They take care of vitally important aspects of trading — namely settlements, taking and paying money. They also control the numbers that appear in the very visible annual reports.

By the way, the naming of the offices has nothing to do with their geographic location — a fact I learned early in my banking career about seven years ago when my boss wanted to take me to meet someone in the Back Office. I couldn’t figure out why he wasn’t actually leading me to the back of the building, I am embarrassed to admit.

Trading Platform

All the Offices are supported by multiple departments in the bank, most notably the Information Technology (which may go by the names Group Technology or any other transmogrificaiton of it). Also supporting everything happening in a bank (or in any corporate body, for that matter) would be Human Resources, Finance etc.

Before we conclude this post, we have to highlight a couple of caveats. The structure described above is by no means the whole bank. It is only the trading arm of the investment banking side of a modern bank. This part happens to be the one most relevant to quantitative developers. Even in this limited remit, the details of the structure (which we will get to in the subsequent posts) are not cast in stone. Each bank may have its own partitions, naming conventions and organizational and hierarchical structures around the various offices. Despite such differences, the static topology of the various offices haas enough commonality that we can talk about it general terms. As we will explore how the omnipresent trading platform mediates almost all interactions among these offices and their teams in the subsequent posts, we will get into more details of the structure.

Trading Platform

A trading platform is a program that enables the front office traders to price and book trades, the middle office professionals to manage the trade lifecycle and risk, and the back office staff to settle them. This definition contains a lot of jargon: front/middle/back offices, booking a trade, trade lifecycle, risk management, settlement etc. Don’t worry, we will go through the lingo in great detail in the subsequent posts. Some of it will become clear in this post.

Trading Platform

First, let’s be clear about what we mean by a trading platform. It is a piece of software that answers to a set of requirements coming from the business side as well as from the software architecture perspective. From the business side, the trading platform acts like the repository of the pricing models coming from the in-house quants. Since most of these models would not be ready when the system goes live, we should be able to add models on the fly. In other words, the trading platform should be incrementally deployable. It should also have built-in sockets to receive and archive market data feeds from multiple providers. In addition to persisting the market data, the trading platform should have a database backend with a robust schema to persist the trade data. It should be able to support regular processes like daily marking-to-market of the trades, flagging fixings and cash-flow requests etc. As with all financial programs, the trading platform should be able to provide indelible audit-trails, coupled with a highly granular access control mechanism. These security and authentication features have become even more relevant in light of the high-profile rogue trader instances of last decade.

All these high-level business requirements translate to architectural choices in the program. The design of the trading platform calls for a higher level of code maintainability than is obvious in normal software engineering, because the banking field suffers from a rather large personnel attrition rate. In order to minimize the key-person risk, we should insist on detailed documentation in addition to sound development practices. The scalability requirement of a trading platform is also more stringent than is common in normal programs. The volume of trades can jump from a handful to hundreds of thousands in a matter of weeks when the system goes live. Similar to that kind of scalability is another requirement — the ability to incrementally add modules to roll out the pricing models originating from the mathematicians of the bank, which calls for a very careful design. The robustness of the system will also have to the very high even at single transaction level. We have to ensure transactional integrity (no half-booked trades, for instance), and zero downtime because, after all, time is money in the bank. The authentication and security mechanisms are to be top-notch. To top it all, the performance has to be top-notch as well. So the design of trading platform is a daunting task from a software architecture perspective.

Why a Trading Platform

The question is not whether a modern bank should have a trading platform. All banks do. In fact, they have multiple trading platforms. The question is not even whether they should attempt to build a trading platform in-house. Again, most modern investment banks do build their own in-house platforms. The question I want to explore here is regarding the advantages and disadvantages of doing so. And to study some of the options when it comes to deciding how deep we want to go in the endeavor of building a trading platform in-house.

The real impetus behind any endeavor in a bank, of course, is money. An in-house trading platform is essential to harness the efforts of the highly paid model quants. In its absence, their mathematical models and implementations will be a confusing mess of prototypes and spreadsheets. A well-designed quant library and a trading platform riding on it can turn them into revenue generators. If the trading platform is built in-house, it offers additional advantages of speediness to respond to transient market conditions. For these reasons, most modern banks decide to invest in at least one in-house trading platform.

How to Get a Trading Platform

Once we decide to build it in-house, we have a slew of choices. First, we can think of extending the existing commercial trading platform. We can ask our vendor to incorporate our models and thus customize the platform. But this option usually doesn’t work out well because it tends to be slow and expensive. Besides, once the modules are developed for us, the vendor might want to sell the system to our competitors as well, unless we are prepared to accept even more expensive terms and conditions. This aspect will pretty much nullify any profit motivations that the bank had to begin with.

Another option is a middle ground of using the vendor’s interfaces (API) to implement our models on the commercial system. Although it might initially look attractive, it’s allure diminishes at closer inspection; once we realize that vendors have no incentive in making it easy for the users to modify the system. If anything, it only increases their support headaches with uninitiated IT managers mucking up the core functionalities. Perhaps for such reasons, vendor APIs tend to be both expensive and incomprehensible. Besides, this route of designing a customized trading platform ends up creating highly-skilled and mobile key persons, with the associated risks.

For ultimate control and flexibility (and for most fun), nothing beats a fully in-house designed trading platform. It can be highly nimble and responsive. But it is also an adventurous and error-prone undertaking. Nonetheless, it is this route we will explore in great detail in my book, and to a lesser degree, in this series of posts.

Agendas

In the dog-eat-dog corporate jungle, there always is a hidden agenda. Always. In writing this series of posts, I have a hidden agenda as well. It is to promote my book – Principles of Quantitative Development. Everything I say here is described in much more detail in the book. And, the book goes into topics that I do not plan to touch upon here – like a review of computing principles for quants, quant developers and people involved in trading and trade lifecycle management. Finally, the book comes with a mini trading platform illustrating many of the principles described.

Hidden Agendas

If these compelling reasons have failed to convince you to fork out fifty or so dollars to order the book from Amazon, consider your own hidden agenda. Why are you reading these posts? You are probably considering a lucrative career as a quantitative professional in a bank. Or, as a junior quant professional, you would like to know more about how the whole thing works. And Principles of Quantitative Development may help you in that quest.

To get back to my point, there always is a hidden agenda, and the associated petty politics. If you cannot play the political game, a bank is not the right place for you. That may sound like bad news to you. Let me give you the good news. Almost everybody is better at politics that they think they are, And almost everybody in the bank, regardless of how high they are, goes about feeling that they are not doing as well as they should, because they don’t play the political game . So don’t worry too much about it even if you fee that you are not good at it — you are probably better than you think you are.

My real point is just that you should be aware of hidden agendas — in day-to-day interactions, corporate memos and announcements etc. For instance, let’s suppose you get a congratulatory email from your big boss about a project you are working on, saying you did an excellent job, it’s going to save or make so many millions of dollars, and everybody is mighty pleased about it. You may also feel mighty pleased about the message, and start thinking of that big break, promotion, bonus, corner office, expense account etc. But it may turn out to be a precursor to letting you go — after all, you did such a wonderful job, and your work here is done!

Topics

Regarding the agenda of these posts, this series of posts will cover the items listed in the picture above. In the next post, we will go through what we call a Trading Platform because that is the arena of Quantitative Development. The next few posts will be on the structure of an investment bank, from the perspective of a quant and a quantitative developer. The structure, in some sense, is the static topology. How trades flow through it will be the subsequent few posts, which will be the dynamic evolution of a trade. As ia trade moves from one department to another in a bank, the players involved use their own work paradigms and perspectives to view and deal with it. It is important to understand these perspectives so that a quant developer can understand and appreciate the myriads of requirements thrown at him. After all, his product — the trading platform — mediates everything.

In order to give you more of a flavor for the workings of a bank, the whole series of posts will be peppered with some little tidbits of information that may read like newspaper columns — after all, I started my writing career as a columnist. In my book, these tidbits are called the BIG PICTURE.

Off the Beaten Track

Recently, I gave an invited lecture to the Master of Financial Engineering students at the Nanyang Technological University in Singapore. I thought I would make a series of blog posts out of my talk with the belief that there is a wider audience out there who would like to know how an investment bank (or, more precisely, the structured and exotic products trading side of a bank) works.

Principles of Quantitative Development

First things first. I work for Standard Chartered Bank, Singapore. But the views expressed here in the talk and in this series of posts are my own. They are not influenced by my employer’s policies or client relationships. They are not meant to be any kind of investment or career advice. This disclaimer is a legal necessity before I can say anything related to banking and finance.

Off the Beaten Track

Since the talk was originally given to MFE students, who are expected to be pretty well-versed in the mathematics of quantitative finance, and possibly of computing as well, I tried to tell you something different. In any case, all the mathematics and computing stuff is something you can pick up from any number of standard text books. The stuff I’m about to share with you is something you will learn from only a few books, or by working in a bank for a while. That brings me to my hidden agenda. (Well, not so-hidden after this introduction.) And to the first moral of this lecture — there always is a hidden agenda in the corporate jungle. I will have more to say about it in the next post.

Since this series of posts is not quite on quantitative finance, nor on computing, it is a bit off the beaten track. Hope you enjoy it. In any case, you will develop and appreciation for the “Big Picture”. A few years ago, I published a well received article in the Wilmott Magazine on the same theme, and the positive feedback I received from it was the inspiration to write my book.

In this talk, and in my book, I lay out the foundations of Quantitative Development. Quantitative Developers (who tend to be computer science professionals) are different from Quants (who tend to be mathematicians). Quants tend to develop pricing models or other mathematical tools for the rest of the banks to use, and make them available in the form of prototype programs, or the so-called quant libraries. Quantitative developers make them available in existing, familiar systems (“productionize” them, to use the horrible jargon) so that the rainmakers of the bank can bring in profits. In that sense, their role in the bank is sandwiched between the model quants and the traders, from a functional perspective. If you don’t like that perspective, and would like to have a more abstract, mathematical sort of view, you can think of quantitative development as being in between pricing models and systems (which we will call Trading Platforms very soon). Or from a corporate hierarchy perspective, the job of quantitative developers falls in between the front office and the information technology division, so much so that they can actually be integrated with either one of them.