Kotak Securities Leverages Smart Order Routing to Help Customers Stay ProfitableA case study on Workload Automation in Stock Exchange
EVP and head-Operations, Finance and Technology, Kotak Securities
With SOR, our retail clients will be able to savor an industry-first facility that allows them to monitor the order book of multiple exchanges automatically and quickly execute trade at the best price
The world of stock broking runs on one word: Speed. But manual processes could play spoilsport and derail business, giving competition an opportunity. Kotak Securities strove to change that and, on its way, created an industry-first.
Stock broking is like watching a thriller. There’s a climax every second. But a few years ago, when stock brokers traded cross-country—over old-fashioned, round-mouthed landlines—the world of stock broking was like an Indian soap opera: Slow, dragging and dull.
To get the best deal, you’d have to take a leap of faith and play the waiting game. If trusting a broker with your money was hard enough, waiting for hours to know your money’s worth was overwhelming
But stock broking was always about speed. That’s why for broking firms—and investors—time is literally money.
This was something the Securities and Exchange Board of India (SEBI) acknowledged.
And in August 2010, it made it mandatory for stock broking firms to provide their customers with an automated trading facility that would speed up the trading process and help investors seal the best deals.
And Kotak Securities grabbed this opportunity with both hands.
Need for Speed
Fortune is fickle; it favors the fastest—not the bravest anymore.
In the broking industry, speed is crucial both for investors and brokers. It is a differentiation factor for every brokerage firm, from a competition standpoint. “Speed is sometimes measured in millionths of a second in the trading business,” says Trivikram Kamath, EVP and head-Operations, Finance and Technology, Kotak Securities. “Every aspect of the trading process must be extremely fast and synchronized, apart from being agile. Trading algorithms, network servers at the trading venues, and the order-routing system must be fast and flexible, ” he adds.
That’s why Kotak Securities quickly jumped to adhere to SEBI regulations and gain a competitive edge. To start with, Kamath knew he had to change the way they worked. But how did they work?
India, like a few typical Asian markets, has its stocks listed on two different exchanges. An investor wanting to trade a security is always looking for the best possible price. The best options would be either on the NSE or the BSE—a decision brokers like Kotak Securities execute on behalf of the investor.
This was a fairly manual process. It created latency that resulted in huge losses. “If the prices change by the time orders were executed, chances are that the order doesn’t go through, eating into our profits,” explains Kamath. To execute orders quickly, and help customers stay in the black, Kamath turned to smart order routing (SOR) technology. SOR would help the company’s trading engines to systematically choose the execution destination—where investors would like to buy or sell, NSE or BSE—based on price, cost, speed, and other factors as demanded by customers.
This decision is taken independently and impartially, based on standard algorithms by SOR, making manual intervention irrelevant. For example, a Kotak Securities client lays down a set of rules according to his requirements. These factors—speed and cost, for example—are manifested in the form of algorithms that sell or buy shares at the best price. The SOR is required to handle numerous trading strategies and parameters. It needs to dynamically change with every new order and constantly evolve with trading strategies. And that it has.
“With SOR, our retail clients will be able to savor an industry-first facility that allows them to monitor the order book of multiple exchanges automatically and quickly execute trade at the best price,” says Kamath. With immense competition in the stock broking business, SOR has provided the company with a much-needed competitive edge.
“In an environment where we have multiple exchanges, we were focused on providing a transactional interface which is easy for investors to use. This is easily the best thing that has happened in the BFSI sector this decade,” says B. Gopkumar, EVP and head -broking, Kotak Securities.
Also, the project on its own wasn’t very capital-intensive. The hardware cost can be approximated to about Rs 3-4 lakh, while the software may cost up to Rs 8,000-10,000 per desktop per month. The company will complete the second phase of the project by March this year.
Today, Kotak Securities has become the first Indian brokerage firm to offer the SOR facility to its retail customers—a feat that was by no means easy to accomplish.
In the Red
Creating a first-of-its-kind can’t be achieved overnight.
Without an industry prototype to match up to, Kamath was left with no option but to shoot in the dark. And that could have derailed the project.
To ensure the project stayed on track, Kamath’s first step towards SOR was to apply to the respective stock exchanges, detailing the company’s interest in implementing it. After, SEBI’s approval within the stipulated period of 30 days, Kamath identified a third-party auditor for system and software assessment. “Auditors are chosen from the list of approved system auditors released by stock exchanges. As per industry regulations, we carry out system audits and submit details to the exchange on a periodic basis,” says Kamath.
SEBI’s aim at bringing in SOR was to have the exchanges share necessary data when required to facilitate a transparent investor-broker relationship. As SOR handles intricate and complex transactions, it’s important that broker firms like Kotak Securities ensure the new system routes orders in a neutral manner. “Every SOR order is assigned to a unique identification number (UID) and data concerning all orders and trades is maintained. We also provide an alternative mode of trading system in case of failure,” says Kamath.
The Mandate Syndrome
Finance has always been the motherland of rigorous regulations, often slowing things down. The crux of the project’s implementation lay in paying attention to SEBI’s regulations which permitted SOR in Indian stock exchanges two years ago. “For example, SOR saw a late start because SEBI had asked stock exchanges to set up systems that time stamp their market data values within three months from the date of SOR implementation,” says Kamath.
The main challenge lay in chasing for approvals from exchanges. Worse, regulations that required documentation and approvals on each step deteriorated customer buy-in rate. The firm has 400,000 customers registered online across the various services it offers. About 30,000 to 50,000 of them log in on a daily basis and Kamath figured bringing customers on to the new system would be easy. He couldn’t have been more wrong.
“Since the launch of SOR last month, only about 155 users have applied for it. The numbers could have been much higher but a formality has discouraged them: Every new user needs to sign an approval form for SOR as regulated by exchanges.” This approval form states that the customer is okay with trading on the SOR system. What is surprising is the lack of common set of guidelines for brokerage firms to adhere to during implementation. “While one exchange asks for a physical sign off from customers, the other is okay with receiving online approvals. This bipolar approach only deters technological growth We had to go ahead with both kinds of approval from each customer to start getting buy-ins for the new system!”
That wasn’t the end of Kamath’s woes.
With the SOR system, data explosion was always going to be a problem.
This was an impending danger for Kotak Securities. With the second phase of SOR this year, the company will begin to predict the prospect of profitable completion of orders based on existing factors and previous data. “As a result, we will constantly exert more effort to quantify data. As systems mature, quarterly analysis of SOR strategies will be done on a daily or weekly basis,” predicts Gopkumar.
Apart from the different trading avenues, the SOR system deals with large amounts of incoming and historical market data. “An SOR order consists of a whole bunch of information from historical data such as real-time records and time stamps,” says Kamath.” Besides assimilating large volumes of historical data and reliably performing a transaction, the most important fundamental trading requirement is speed. But that is a challenge Kamath isn’t worried about. Now that the SOR system has removed manual intervention, speed has become a competitive differentiator.
Today, Kotak Securities’ SOR is all but a part of a global trading environment that demands speed and customization. “With SOR, brokers are now aiming at tailoring their products to specific end-user needs-—a long awaited move. The mandate came into existence to help participating brokers with more flexibility in discovering available avenues for better price discovery. Most importantly, the mandate imbibed dual abilities of being able to predict and learn from our customers,” says Kamath.
But it’s a facility that is still in its nascent stages. “The complete trading fabric is evolving and SOR is just a baby,” says Kamath. But that doesn’t mean it’ll stay so forever.
“With more investors trusting their investments with smart order routing, market dynamics are all set to change,” says Kamath.
And that makes stock broking a thrilling business.
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