4 Key Issues for 2018
By Bhavna Khurana, Vice President, FS Client Solutions at The Smart Cube
2017 was a year of momentous structural change for the financial services industry, much of which will continue to alter the industry’s landscape through 2018 and beyond. Below we describe the four key issues we believe will impact the industry in the coming year:
Dealing with the realities of MiFID II implementation
For many, MiFID II’s January 2018 deadline is a starting point for change in research provision that will evolve significantly over the short to medium term. The industry is still not ready for MiFID II and its research unbundling requirements, with payments for research separated from the commission structures, it is still a grey area for many buy side firms with questions around how to price research, where to source research and how to report on usage and value.
Although a European regulation, the impact of MIFID II will be felt globally, as international firms move to ensure levels of transparency are consistent. The way they do business and comply from both a data and transactional perspective will be a big change next year.
Price and technology choice will be key focus areas for working out how to successfully unbundle research- there are many new platforms that offer interesting and less expensive alternatives to the traditional bank offerings. Although increased transparency will be a positive development for the industry, it could create counter-intuitive outcomes, whereby banks and platforms offer fewer funds due to the higher costs of regulation. Predictions that banks will be forced to downsize their research arms radically as a result will also force a change in how research is created and distributed.
Overall, the tail of MiFID II will be long, and in 2018, people will be surprised at how deeply it will impact the industry and research teams for the buy and sell side in Europe. For example, the move for asset managers paying for research out of their own P&L means they will focus on reducing cost of research, as well as ensuring they get value from what they purchase. This is a fundamental change to the structure of the research industry.
Wider application of AI and machine learning
Financial institutions are already using AI across many areas, such as to personalise services. Banks are piloting AI-based client advisors and we expect AI, machine learning and customer analytics to become the driver of client engagement in 2018. Businesses will develop new forms of virtual engagement capable of integrating themselves into customers’ lives. They will be personal: informed by intelligence gathered from data about consumer behaviours, choices and volunteered preferences. Firms need to make sense of a torrent of data and that will require gathering, interpreting and presenting massive quantities of data in real-time. This will all have to be done in compliance to new regulations such as GDPR.
2017 was the year of AI hype, 2018 will be seeing actionable outcomes from AI opportunities. AI technology is evolving to profile and predict behaviour, detect anomalies and discover hidden relationships. AI can be used to analyse trade patterns to detect market abuse, to undertake sophisticated surveillance monitoring and to reduce operating risk for algorithmic trading, capabilities which can deliver more efficient trading strategies, better data analysis and increased operating effectiveness. However, many questions remain about how these capabilities can be best utilised and will 2018 see new ways to integrate these new capabilities successfully within an organisation?
Active investing will fight back
To date there has been far too much of a swing towards the passive world and an increased adoption of passive strategies over the last ten years – we expect to see a fight back from the active world in 2018. Going into the new year, we will start to see more of a focus towards active fund management as there becomes greater convergence on the passive side. This will provide real opportunity for active managers.
According to research from Hermes Investment Management, the performance of active funds is cyclical and the value may be higher at times of market inflection. This reiterates that active managers seem to have the most scope to produce significant alpha during market inflection points. 2017 has been the best year for active fund performance, as it has outdone passive by more than half the time with 54% of active managers beating their benchmarks overall this year. This trend is set to continue in 2018.
Continued increase in focus on sustainable investing
2018 will see growing interest in the sustainability agenda. Investors are increasingly focused on issues like Environmental Social Governance (ESG) and Principles for Responsible Investment (PRI) in their investment decisions and want to have the appropriate research on companies to back up their investment choices. In particular we will see the US playing catch up in this area as around a fifth of institutional investors in North America do not allocate to sustainable investments (compared to 10% in Europe, according to Schroders).
According to the same Schroders research of 500 pension funds, foundations, endowments and sovereign wealth funds globally, more than two-thirds of big investors believe sustainable investing will grow in the next five years. Investors are weighing up non-financial data when making investment decisions, because there is a view that issues such as bad governance or environmental problems could affect how companies perform in the long term.
Currently, despite the large volumes of data and variables in the market, there are still many challenges facing asset managers in assessing the value and bringing the right insight for a specific portfolio to bear. There will be a move next year from a more theoretical today to the buy-side having access to more practical, useable insight for portfolios.
As with any change, some may see this as an exciting time for new opportunities in 2018 while others see the change as unavoidable. One thing is for sure, financial organisations looking to embrace these themes will need to first start to and then continue to invest in newer technologies and be more agile in their operating models to succeed.
Technology has enhanced capabilities of surveilling larger and more disparate data sets.
With Eugene Kanevsky, James Redbourn, and Joanna Wong, CLSA
AI/ML on the buy-side trading desk is a long-term program with short- and mid-term deliverables.
Aiden uses the computational power of deep reinforcement learning to improve trading results and insights.
BondDroid’s AI-generated prices are integrated directly into LTX’s pre-trade analytical tools.