Example 3 Timing of end of day prices
A London-based firm is trading in Europe, Asia and the Americas in exchange traded
futures. For end of day price testing the organization must determine if they will use
closing price for each of the exchanges or take the price of each of the exchanges at
a certain point in time. Some exchanges close to generate an ‘official exchange closing
price’ and then reopen for late hours changing (i.e. LIFFE and DTB). In this global
environment and end of day batch processing cycles standard pricing policies are
required.
The risk practitioner chose to implement the price of all of the exchanges at a
specific point in time for financial reporting purposes. This was weighed with the
trade-off of not having the official close in the Americas, after 9 p.m. in London. The
procedure was documented and agreed with front office, systems Financial and
Operations teams. At a granular implementation level, this means specifying .LAST
on the market data screen rather than .CLOSE (that would provide the previous
days’ close in the Americas). 567
24 Temmuz 2011 Pazar
Decisions of sourcing and timing of market data
A key decision should be agreed and documented regarding the approach to ensuring
the quality of market data and the time frames that will be used to obtain it. It is
common to see that several booking locations contain the same instruments, particularly
hedge instruments such as futures. Depending how the firm is structured, it is
not uncommon that different locations use different sources of market data and
capturing market data at different points in time for end of day processing and price
testing. A decision should be made to define organizationally the boundaries of
acceptable practice. For larger institutions, in some instances, it may be agreed that
the sourcing of market data may come from one desk, such as a market-making
desk, and all other desks should use their marks. In other cases it may be deemed
acceptable that different desks have slightly different prices depending on the time
of capture and the trading strategy (i.e. arbitrage desk). In the case of sharing data,
a certain amount of time is required for the coordination of control teams, particularly
in large institutions.
the quality of market data and the time frames that will be used to obtain it. It is
common to see that several booking locations contain the same instruments, particularly
hedge instruments such as futures. Depending how the firm is structured, it is
not uncommon that different locations use different sources of market data and
capturing market data at different points in time for end of day processing and price
testing. A decision should be made to define organizationally the boundaries of
acceptable practice. For larger institutions, in some instances, it may be agreed that
the sourcing of market data may come from one desk, such as a market-making
desk, and all other desks should use their marks. In other cases it may be deemed
acceptable that different desks have slightly different prices depending on the time
of capture and the trading strategy (i.e. arbitrage desk). In the case of sharing data,
a certain amount of time is required for the coordination of control teams, particularly
in large institutions.
Price testing of illiquid positions via broker quotes
Example 2 Price testing of illiquid positions via broker quotes
Prices for illiquid bonds are not available by way of market data providers and calling
brokers for quotes is the only method of obtaining prices. Traders indicate that they
are becoming concerned with the frequency of price testing and are beginning to
complain to management that they are being overly controlled. When sitting down
with the traders it becomes apparent that the traders are concerned with the market
knowing the less liquid positions just prior to accumulating or selling a position. The
risk practitioner agrees with the traders a policy that if there are sensitive positions
that are not to be included in price testing they obtain approval from the head of
trading. This note is included in the price testing report and is to be discussed at the
risk committee meeting.
Prices for illiquid bonds are not available by way of market data providers and calling
brokers for quotes is the only method of obtaining prices. Traders indicate that they
are becoming concerned with the frequency of price testing and are beginning to
complain to management that they are being overly controlled. When sitting down
with the traders it becomes apparent that the traders are concerned with the market
knowing the less liquid positions just prior to accumulating or selling a position. The
risk practitioner agrees with the traders a policy that if there are sensitive positions
that are not to be included in price testing they obtain approval from the head of
trading. This note is included in the price testing report and is to be discussed at the
risk committee meeting.
Contacting brokers
Calling brokers for prices is extremely helpful for developing junior staff and allows
them to feel much more confident with specifying market parameters such as
volatility, bid offer spreads, etc. This confidence is part of the overall on the job
training regime and helps overall confidence of the markets and products. Note that
once the rapport is developed with target brokers over the phone, this method can
be more efficiently implemented, first by email and then by fax.
Due to the nature of the broker network it is important to consider rotating brokers
and to average several quotes is best practice. However, the practical nature and
justification must be considered. When calling a broker for a quote, the broker will
ask which firm you are from. When specifying the firm there are two risks. The first
is that you are giving the position of the firm to the market. This is an issue in less
liquid markets. For volatilities it can slightly disguised by asking for a range of
strikes. The second risk is that the broker has a relationship with your firm. Due to
the nature of the market, the price that comes back can be informally from the
brokers of the firm. More brokers called can reduce this risk at the trade off cost of
giving away the position to more players in the market.
them to feel much more confident with specifying market parameters such as
volatility, bid offer spreads, etc. This confidence is part of the overall on the job
training regime and helps overall confidence of the markets and products. Note that
once the rapport is developed with target brokers over the phone, this method can
be more efficiently implemented, first by email and then by fax.
Due to the nature of the broker network it is important to consider rotating brokers
and to average several quotes is best practice. However, the practical nature and
justification must be considered. When calling a broker for a quote, the broker will
ask which firm you are from. When specifying the firm there are two risks. The first
is that you are giving the position of the firm to the market. This is an issue in less
liquid markets. For volatilities it can slightly disguised by asking for a range of
strikes. The second risk is that the broker has a relationship with your firm. Due to
the nature of the market, the price that comes back can be informally from the
brokers of the firm. More brokers called can reduce this risk at the trade off cost of
giving away the position to more players in the market.
Note on market data solutions
Note on market data solutions: When implementing electronic market data solutions
it is always necessary to consider the quality of data with regard to the contributors
of the data and the time of day when the information will be updated and closed.
Spending time upfront in the design of automating market data and corresponding
controls and understanding the nuances of market data is a very good long-term
investment.
it is always necessary to consider the quality of data with regard to the contributors
of the data and the time of day when the information will be updated and closed.
Spending time upfront in the design of automating market data and corresponding
controls and understanding the nuances of market data is a very good long-term
investment.
Methods of obtaining market data for price testing
The cost and speed of obtaining quality prices to make a business statement on the
controls and accuracy is the business of running the control function. The goal is
obtain the maximum amount of quality market data in the shortest amount of time.
This can be obtained when the control team is focused on analysis rather than data
gathering, which can be time consuming, frustrating and disruptive. The disruptive
nature and the actual amount of time to implement some of the manual processes
is frequently significantly underestimated in terms of costs and speed of delivery.
The sources of market data are placed into the following categories:
Ω Automated market data extract – prices are available by market data providers or
broker pages in a form that can be downloaded directly into a spreadsheet or
database. Automated market data extract with parsing – prices are available by
market data providers or broker pages but need to be in a test string data format.
The data needs to be ‘parsed’ to obtain prices in a numeric comparable state.
Ω Manual broker pages – automated data available entered manually in a spreadsheet
or in work papers
Ω Newspaper – price data available in various financial papers. Note that the risk
controller should make sure that the firm is not the market data provider to the
newspaper, otherwise you will be testing like to like.
Ω Calling brokers – to obtain market data, sometimes required for OTC derivatives
or illiquid bonds.
controls and accuracy is the business of running the control function. The goal is
obtain the maximum amount of quality market data in the shortest amount of time.
This can be obtained when the control team is focused on analysis rather than data
gathering, which can be time consuming, frustrating and disruptive. The disruptive
nature and the actual amount of time to implement some of the manual processes
is frequently significantly underestimated in terms of costs and speed of delivery.
The sources of market data are placed into the following categories:
Ω Automated market data extract – prices are available by market data providers or
broker pages in a form that can be downloaded directly into a spreadsheet or
database. Automated market data extract with parsing – prices are available by
market data providers or broker pages but need to be in a test string data format.
The data needs to be ‘parsed’ to obtain prices in a numeric comparable state.
Ω Manual broker pages – automated data available entered manually in a spreadsheet
or in work papers
Ω Newspaper – price data available in various financial papers. Note that the risk
controller should make sure that the firm is not the market data provider to the
newspaper, otherwise you will be testing like to like.
Ω Calling brokers – to obtain market data, sometimes required for OTC derivatives
or illiquid bonds.
Knowing your portfolios
When determining the price testing strategy it is important to understand the
composition of the portfolios in terms of materiality, concentration and liquidity. The
key task is to validate the material and risk positions of the firm, and the practitioner
should have a sense of both the portfolio compositions and the availability of
information available. In addition to the material risks, the practitioner will consider
the sensitive issues and changes in specific positions. This understanding along with
the changes in the markets allow the practitioner to position the discretionary
elements of price testing.
The test coverage should be designed to feature the most material elements of the
portfolio and certain control elements. For example, the information on unusual
volatility in a market along with the sensitivities of the firm’s positions may be
included in the price testing report. This information should be obtained during the
price testing process. Targeting the featured area can be included with little additional
effort if the strategy is defined at the beginning of the price testing cycle. Users of the
price testing reports can be asked for their thoughts on featured areas.
composition of the portfolios in terms of materiality, concentration and liquidity. The
key task is to validate the material and risk positions of the firm, and the practitioner
should have a sense of both the portfolio compositions and the availability of
information available. In addition to the material risks, the practitioner will consider
the sensitive issues and changes in specific positions. This understanding along with
the changes in the markets allow the practitioner to position the discretionary
elements of price testing.
The test coverage should be designed to feature the most material elements of the
portfolio and certain control elements. For example, the information on unusual
volatility in a market along with the sensitivities of the firm’s positions may be
included in the price testing report. This information should be obtained during the
price testing process. Targeting the featured area can be included with little additional
effort if the strategy is defined at the beginning of the price testing cycle. Users of the
price testing reports can be asked for their thoughts on featured areas.
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