Robert Fitzsimmons was chief executive officer of RedSky Financial before it was acquired by ITG in 2007. Before that he was CEO of NQLX, a joint venture between the NASDAQ Stock Market and Euronext.liffe, and held senior positions at Nomura Securities International and Kidder Peabody. He sat down with Sarah Rudolph to talk about his latest ventures, and some of his earliest adventures, in the trading industry.
Sarah Rudolph: I first met you when you headed up NQLX, [an exchange formed to trade single stock futures.] NQLX made a valiant effort, but things did not quite work out.
Bob Fitzsimmons: It never took off because it was compromised from the beginning by the regulatory schemas. That was unfortunate, because a lot of time and energy was invested in it. Clearly there were a lot of constituents who did not want to see the product take off. It had a big impact on the stock lending business. Our competitor OneChicago seems to have made a bit of a business out of [single stock futures], but it certainly was not what everyone was anticipating at the beginning.
SR: They were anticipating that single stock futures would really take off.
BF: Yes, it was the first really new futures product in a while and the whole industry was focused on it. It was a learning experience. After that, I got to know the owners of RedSky. I had an enormous amount of respect for their technology and what they were trying to build. I had an opportunity to go out to New York when I was at NQLX and work with some of the larger firms, but I decided to work with a small firm here in Chicago and start a high tech venture. It was totally the right thing to do. Ironically some of those large institutions I worked with no longer exist, while here we are several years later with ITG thriving.
SR: How long have you been with ITG?
BF: ITG purchased RedSky in 2007. So a little over three years. It’s exactly what we were looking for. Our philosophies dovetailed in that ITG is independent, broker-neutral, and most of our relationships are with buy side asset managers. RedSky was also originally independent and agency-only. Just like ITG, RedSky didn’t have any proprietary trading. ITG works with the buy side; they are trusted and don’t have any axe to grind.
The RedSky expertise was derivatives. ITG was at the vanguard of electronic trading in equities. ITG created POSIT back in 1987 as the original dark pool [for equities]. ITG was one of the first companies we talked to about working together. They came in and they liked what they saw and purchased the company.
From our original focus on proprietary traders we moved to a focus on asset managers and hedge funds. ITG gives us enormous credibility. We were a small fledgling company here in Chicago and now we’re backed by ITG with enormous scale.
SR: What is meant by “broker neutral”?
BF: Broker neutral means a couple of different things. Being broker neutral allows customers to route to various execution venues. For instance in cash equities, ITG routes to over 450 different brokers and execution venues. We don’t clear futures or options, so we can deal with an asset manager that has clearing relationships with several different firms. We would execute on their behalf. Make sure the trades end up in their clearing or prime brokerage accounts.
SR: ITG has a number of different products. What are your main offerings?
BF: We have the POSIT product, the original dark pool, which is thriving; it is the largest block crossing pool on the Street, with enormous liquidity, especially from buy-side institutions. Also, we are now able to offer independent research, with the acquisition a few months ago of a company called Majestic Research, out of New York. It’s cutting edge.
The other dimension of ITG is its global presence. We have offices around the world. We also offer a strong suite of algos. ITG sets the standard for algorithms in the equity world and we are incorporating them into our derivatives offering.
Additionally, ITG has a strong management team under the leadership of CEO Bob Gasser. He is indefatigable. I report to Chris Heckman who runs sales and trading and is one of the original ITG employees.
SR: You are head of derivatives trading. Which derivatives do you deal with?
BF: We focus on equity options, with futures as well. We have our own platform, ITG Matrix. That’s one of the reasons ITG purchased RedSky. When you look at the industry, it’s incredible what’s happened in the past few years. When I started at RedSky, message traffic was about 10,000 messages per second. OPRA just announced the other day that it is closing in on six or seven million messages per second. Message traffic per day is on the order of 25 billion messages. Because of our technology prowess, we are able to handle all that message traffic.
When you execute a trade, you need to bring in all the prices from the nine options exchanges. The explosion of message traffic is a function of the thousands of products that are out there. Everyone is quoting and you have to take in those updates. Our matrix platform is a GUI that will give you all the Greeks and position management tools. We also have our own proprietary APIs. So black box firms love us.
Because of our proprietary middleware, we’ve really focused on high frequency options traders, who are attracted by our ability to provide low latency.
SR: Low latency is really the most or one of the most important things in the business, isn’t it?
BF: Absolutely. Coupled with that is the stability of the product. When you look at the most volatile times, that’s when you have the most opportunity. It won’t do any good if the market is volatile and your system is frozen — if your middleware can’t handle it, or you can’t get your orders into the market. Having been battle tested here in Chicago where the prop trading firms were pushing the envelope in what they could do with their message traffic, that has allowed us to cater to the buy side institutions with which ITG has existing relationships in cash equities.
SR: There is a lot of talk about regulators cracking down on dark pools. Do you have any concerns about POSIT being affected by this?
BF: I think the SEC is comfortable, and the buy side institutions are certainly comfortable, with the way ITG presents itself, with the information that is out there. POSIT gives big long-only institutions the opportunity to get an edge. The notion of meeting in a dark pool where you are potentially meeting in mid-market and executing orders of block size is something they find of value — they are able to get that size done while maintaining anonymity. ITG has always kept the integrity of that pool and prevented some of the gaming that takes place in some other dark pools.
If you allow predatory behavior in a dark pool where someone is pinging it and they can tell there is a huge block out there with a particular aim, and then all of a sudden you start to see it rally on the other side of the market, you realize there has been some leakage. I think ITG has done a good job of preventing that information leakage.
SR: Can you tell me about your technology that specifically applies to options trading…what you might be developing now?
BF: The biggest dimension in derivatives trading right now is being able to handle all the message traffic. We are holistic in our technology. In addition to the Matrix functionality, we have a number of algorithms that help traders execute their trades in a quiet and non-disruptive manner.
With the proliferation of [options] exchanges, there are many different fee structures. Our smart order router helps both buy side institutions and prop trading firms reduce their fees. Traditionally, customers traded for free. Now with some migrating to the maker-taker exchanges, that has changed dramatically. Our smart order router can help minimize those fees.
Another product we offer is a volatility scanner. A lot of our customers put in our system what they perceive to be fair volatility and when that’s violated it sends a message out to the user to notify them that they may want to do some investigating as to, say, why has Apple just popped up? The scanners help by alerting traders, because there are so many different names out there, so many different strike prices, it’s another reliable tool to make it easier for the options trader to execute their trades
We also offer a complex order book. We’ve written to all the complex order books that are out there. That gives traders the ability to trade two, three, or four legged trades. Volumes have been very slow on complex order books and a lot the quotes aren’t very useful, but eventually the exchanges will pare back those quotes and create filters to give institutions the most meaningful ones to interact with.
And we offer volatility and delta orders. A volatility or delta order is essentially a function in which, if a particular name has an implied volatility of, say, 20%, and you might have the opportunity to buy the option at 18%, but you can’t sit there all day waiting for that opportunity to occur, what you can do is put those parameters in our system and it will sit on our strategy server until an opportunity presents itself. You can literally have hundreds if not thousands of orders waiting to be executed if they hit your levels. It’s automating what was a labor-intensive process.
SR: What is different about what you are doing now compared to what you were doing in the past, with NQLX and before that Nomura Securities?
BF: Nomura was the largest firm in the world when I joined in 1990. They asked me to come in and start their futures business. So I guess I have a history now of being involved with startups — but not just starting them up, also running them afterwards. I ran Nomura’s futures business for ten years before I joined Nasdaq to start NQLX, and the same here. What I enjoy is the excitement of being in a startup, the controlled chaos where you can still see what the goals are, and then the beauty of taking it to the next level, of being purchased by a company like ITG, a NYSE-listed firm, and then taking the business to the next level.
SR: Where does ITG go from here? Is there yet another level to take it to?
BF: We are trying to really penetrate the institutional side in the derivatives business. A lot of asset managers don’t incorporate derivatives; it’s only in the past couple of years that the institutional volume is beginning to overtake the retail volume. It’s kind of counterintuitive; we talk about derivatives as being a high-powered product, yet there is a larger retail segment that utilizes the product, and the institutions haven’t really embraced it. Having gone through this turbulent time when we’ve seen volatility skyrocket, I think now institutions are looking at volatility as an asset class in itself. You can see some of the institutions already starting to manage this better, and you can see in some of the skews right now, as the market’s rallying, some of the puts are being bid up as investors try to buy some downside protection.
What’s interesting about the institutions is they are still very high touch. Our whole offering caters to electronic traders, and institutions are still in a world where they’re entering their orders over the phone.
SR: Why is that?
BF: A couple of reasons: one, options are still relatively new on the buy side, and two, the buy side traditionally will spread their orders around to pay for various services and research, unlike a proprietary trading firm. Prop traders don’t utilize the research on the street as much as institutions do, so they don’t need to placate a number of different brokers. So they will build their systems around one entity, one clearing firm. For the buy side, they are trying to spread those orders around and pay for some of their research – maintain relationships and gather information. It’s probably easier for them to call a different broker as opposed to having different systems on their desk, but in a system like ours, they could still spread it around by directing those orders or having them clear at various entities.
There is also an interdealer broker market that is a call-around market; they enter orders over the phone, which is counterintuitive to me because I would think that would allow for slippage. But some of the firms want a high touch offer and the advice of an expert along the way as opposed to just keying in a trade. They want to bounce ideas off of someone.
But I think that, although there might not be a market for dark pools in options because there are so many different products, we will eventually begin to see automation of that interdealer broker market.
SR: At the STAC conference last month, there was a lot of talk about CBOE’s new exchange C2 putting the SPX up to trade electronically. Do you have any thoughts on that?
BF: I think a product like the SPX is ideally suited for ITG’s customer base – it’s a large contract – and that may be a catalyst that will get these big institutions to trade electronically. From the electronic-trading brokerage perspective, we think it would be phenomenal.
SR: You mentioned that you started out in the bond options pit at the CBOT. Was that your first job ever?
BF: Out of college I started working for Morgan Guaranty in New York. I had a bunch of friends from school who were in Chicago and knew the Chicago Board of Trade. They were working for Kidder-Peabody at the time. Their trading program would send guys to the floor of the CBOT or the Chicago Mercantile Exchange. Their philosophy back then was to hire Ivy League athletes, the big guys for the pits. Kidder-Peabody had several of us from Harvard, Yale, Princeton.
SR: What was your sport?
BF: Football. There were several of us that played football together. Ironically, at the 100th game I was in of the Harvard-Yale rivalry there were about 8-10 of us that ended up working for Kidder Peabody. You started out as a phone clerk and either worked in New York as a trader or salesman. I eventually went to the bond option pit and became a broker-trader.
SR: Are you originally from New York?
BF: I grew up in New York, but I fell in love with Chicago. You’ve heard the old story: the second hardest thing to do is to get a New Yorker to move to Chicago. The hardest thing to do is to get them to move back to New York.
I grew up in Staten Island and we viewed Manhattan as The City. When I grew up there were still farms there. It was more like a suburb of New York. My dad was a NYC fireman, my brother was a fireman. On Staten Island you were either a fireman, a policeman, or a sanitation worker. And you were either Irish or Italian. I took the fireman’s test when I was a senior in high school. I got called for the physical when I was a junior at Harvard. I was at the armory in Manhattan running up flights of stairs with a hose on my back, and then going back to the Harvard dining hall that Sunday night and people said, “So what did you do this weekend?” I said I ran up and down the stairs with a hose on my back. And for some of the people at Harvard I might as well have said I was slaying dragons.
SR: So at some point you decided that being a fireman was not for you?
BF: I was actually in the bond option pit when my number was called. I think my dad always had aspirations of me being a chief in the fire department. He was a pilot on the fire boats in Manhattan.
SR: What did you study at Harvard?
SR: So it was natural for you to come into the markets.
BF: Yes – and I went to the University of Chicago Business School at night as we were working on the floor. It’s interesting to see how the markets have evolved from floor trading to electronic. Right now there is a lot of excess capacity in the marketplace – we’re seeing several of the large firms disappearing. I think in the past year or so we’ve seen enormous compression on the commission side, because there are so many firms out there all offering the same thing. I think what we’re seeing now is some of those firms haven’t weathered well. Everyone assumed that the growth would be straight up, but instead you are seeing some firms being acquired by other firms, and I think that’s soaking up some of that excess capacity that’s been out there. It has had a negative impact on commission rates.
SR: I started reporting back when the exchanges were just beginning to move towards electronic trading, and I remember a lot of talk about how difficult it was going to be for pit traders to transition to such a different trading style. How did you make the transition so easily?
BF: Being in the pit, you just saw that it was incredibly inefficient, which is why people on the floor liked it – they could profit from that inefficiency. But it became apparent from a buy side perspective that trading electronically eliminated a lot of potential errors. On the floor there were thousands of people screaming and people would mis-hear trades. Back in the late 90s with straight through processing, maybe upstairs you’d have a phone clerk and downstairs there was an order taker who took your ticket, filled it out, and sent it in, and then there was another clerk who punched it in, and then you had out-trade checkers the next day. Now all that is eliminated so you can focus more on risk management. We are handling much more volume with a lot fewer people. In general, commissions have been down, spreads have been tighter; it has been of enormous benefit to the end user, and ultimately to the customer, who really is all of us. Whether you are a money manager or an individual investor it is a much more liquid, transparent process. Unfortunately along the way we’ve had other issues in 2007 and 2008, but by and large the derivatives industry performed well. The only big problem was with credit default swaps. Now we’re moving towards a centralized clearing mechanism [for OTC instruments], and someone is looking at the other side of these trades, checking if somebody should have posted some margin. Problems can occur if there is no central mechanism to catch all that.
It is a thriving competitive industry and getting more competitive each day. You have to stay out in front and really work with the customer to understand their needs. – SR