Momtchil Pojarliev
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Some Like It Hedged

BNP Asset Management's Pojarliev discusses a variety of options to address foreign currency exposures. Although there is no single best-practice solution for addressing foreign currency exposures, institutional investors have three main choices, he says.

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June 2, 2009

Two Birds, One Stone

By James Ramage

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But most algorithms have generally been asset-specific. Their functionality has been isolated within individual markets: equities, futures and options. New cross-asset algorithms have started to bring these markets together.

This has been helpful to buyside traders looking for hedging and arbitrage opportunities in a floundering equities market.

Jeromee Johnson, vice president for market development at BATS Trading, told Traders Magazine: "Cross-asset algorithms are certainly an area of focus right now, and are becoming more broadly available. Specifically, tying equities to options is where you see most of the work being done. You are also seeing cross-asset algorithms and related technology-auto-hedging, for example-being tied between equities and FX."

Unlike DMA, the algo does the work for the trader, slicing the order up and venturing out into the equities market and the options market simultaneously-or the futures market, or the ETF market.

But the advantages to these cross-asset algos aren't limited to hedging. They facilitate arbitrage trades, as well. They can help traders quickly take advantage of small discrepancies in price between an ETF and its underlying stocks.

Sophisticated hedge funds eyed the benefits cross-asset algos promised and embraced them from the outset to hedge and make some money through arb strategies. Some traditional, long-only asset managers have also climbed aboard.

Industry pros see the technology as the next frontier for algorithms. But so far it's made slow inroads among most hedge funds and traditional asset managers. That should change, experts say.

Trading across asset classes is important to the growing number on the buyside who use derivatives to measure and manage their risk. As more join those ranks, they will want tools that make the process more cost- and time-friendly.

Dipping a Toe

Credit Suisse, Goldman Sachs and UBS have each said that the user base for cross-asset algos has expanded to encompass the buyside spectrum, including traditional asset managers.

For example, as these traders establish a position in a foreign equity, they may want to have the same algorithm trade the foreign exchange fill-for-fill simultaneously to reduce the trade's potential FX exposure, said Pankil Patel, director of the U.S. trading desk for Credit Suisse's Advanced Execution Services. Or, if a trader at a traditional asset management firm wants some portfolio insurance on a sizable position he has in a large-cap name, a cross-asset algo would make it simpler for him to sell some covered calls against it.

The technology makes it easier to get into different marketplaces. "Portfolio managers are definitely driven to find returns," Patel said. "That's the main reason why people are going into these different markets. It used to be extremely costly."