The Technology Trap?

Via Pension Pulse.

A
couple of weeks ago, I hooked up with a former colleague of mine from
PSP Investments, Kosta Segounis, a CA/CFA compliance and operational due
diligence expert. Kosta introduced me to his brother, Ioannis, an
investment performance consultant who's an engineer/MBA with the CIPM
and CFA designations and experience at investment firms like CN
Investment Division and Intact Financial. Ioannis recently launched his
own investment performance consulting firm, Phocion Investments.

Our conversation centered around systems and how investment firms spend
billions on accounting/ risk/ performance systems that don't offer them
what they really need. Once they're invested, they're trapped and that's
where the dynamics behind back/ middle/front office and compliance
begins. We talked about the potential for fraud, including kickbacks in
the area of systems. Importantly, who is in charge for choosing these
expensive systems and who monitors and follows up to make sure they're
delivering on what they claim to be delivering without any hitches? How
many times in the last five years has your fund changed its back,
middle, and front office systems and are you better off after the
changes?

But the
most important concern Ioannis has is how investment firms have turned
into technology firms, so I asked him to write me a comment which he
graciously did. Below are his thoughts in a piece called "Avoid Turning
Your Firm Into a Technology Company: The Technology Trap and the
Tools to Keep Your Systems Working for You" (added emphasis is mine):

Avoid Turning your Investment Firm into a Technology Company: The Technology Trap and the Tools to Keep your Systems Working For You

INTRODUCTION

As
information technology’s development accelerated, the investment
industry took notice and began developing systems that would automate
formerly manual tasks. Over time these systems have evolved into
something more. While their benefits are continually vaunted by vendors
and end users alike, the processes of ensuring that these systems are
properly implemented and maintained belong, first and foremost, to the
firm.

It is easy to become
seduced by the technological attraction that systems offer but if an
investment firm does not clearly and thoroughly understand the purpose
of a system, the technological dream will quickly turn into a nightmare.
In general, systems are there to facilitate tasks, such as data
management, analysis and reporting. Once that is known, a system must be
properly “placed” within a firm. That is, it is to be maintained by the
operations team, supported by IT, managed by specialists (performance,
risk, etc…), used as a feedback tool by the front office and fund
sponsors, and as a means of communications to the clients.

Unfortunately
many firms have not properly implemented and managed their systems. The
current state of some firms is one of perpetual implementation;
spending years poorly implementing a system only to have to change to
another. In these situations, it is more than likely that the IT
department is playing too large a role in the firm, the operations team
is struggling to operate efficiently, specialists are acting solely as
distributors of information with no added value in the information
supply chain, and a front office improperly interpreting the results due
to a lack of expertise in these fields. This blog will look at common
characteristics of firms poorly managing their systems and provide
recommendations that can go a long way in getting the most out of your
system

COMMON PRACTICES

Firms who have poorly managed their systems have many common characteristics. It
is not uncommon to find the executive level disconnected from
everything not front office and sales, an IT department that assumes a
larger role than they should, consultants who convince the firm to roll
over their contracts similar to forward contracts in currency hedging,
and a specialist whose role has been relegated to the redundant role of
“middle man.”

The glamorous aspect of the investment business is
in the front office; there are no movies of performance managers living
the “dull” life. This is also the revenue generator and, as it should
be, the executive level will focus more on this part of the business. But
this does not absolve them of having a basic understanding of the role
of systems. They are too focused on the cost aspect and are not able to
see the benefits that can be derived by these systems. The
portfolio managers and analysts follow suit and can begin making
unreasonable requests as to what these systems should produce for them,
thus overextending the operations, IT, and specialists departments. In
the end it becomes a self-fulfilling prophecy, where by burying your
support staff in unnecessary requests results in no added value and a
system functioning as predicted, a cost center.

Moving away from
the front office and into the IT department, we find a group of
programming savvy workers who are “tech happy” when it comes to systems.
The advent of systems created the need for IT personnel, an
indispensible part of the today’s investment firm. A
negative aspect of IT when it does come to systems is that they
overplay their role. In other words, they tend to take the lead in
system selection and management when they do not have the necessary
knowledge to do so. Imagine performance and risk specialists
playing a secondary role in system selection and management to the IT
department. The work of the specialists will be at the mercy of the
financial ignorance of the IT department. What this does is place a
greater importance on IT and less on the quality of data analysis, thus
eliminating any added benefits.

In
a firm where systems are wreaking havoc you will more than likely find
specialists who were overconfident in it being the panacea to all their
needs. As tempting as the Sierenes were in Homer’s Odyssey, so
are vendors to specialists and IT. Vendors’ sales teams will never
stress on the weaknesses of the product and will oversell the benefits.
The unprepared specialists will rely heavily on the sales pitches of the
vendors, the opinions of consultants whose next contract is dependent
on your firm buying that system, and an IT department over-stepping its
role. The end result is purchasing a
system with a lot more bugs than initially thought. Through no fault of
the vendor, the lack of preparation and due diligence of the specialist
will result in the firm being stuck with an underperforming system. Relying
on the vendor to solve your problem will also be time consuming since
much of the customer support is manned by juniors who will know less
about the product than the specialist. In addition, the experts the
vendor does have are usually overextended since the vendor business is a
cutthroat one wherein firms try to operate as lean as possible and thus
don’t keep on too many experienced employees due to the costs.

One
of my inspirations into entering the world of consulting is to provide
quality service. Through my experience, I can categorize consultants
into three categories. The first two are the ones that firms with system
issues have most probably hired.

The first category can be
labeled as “Insciens Consuasors.” Loosely translating from Latin, it
describes consultants who have limited knowledge of the system and the
financial understanding to translate the requests of the specialist to
that of the system. Their hourly rate
is usually cheaper than the more qualified consultants but they end up
costing your firm much more since you’ll end up correcting their work
once they’re gone. They also tend to have short life spans within a firm but quickly find new work.

The
second undesirable type of consultants can be described as “Deceptios
Consuasors.” These consultants are quite knowledgeable about the
technical and financial aspects of the system and can provide excellent
service if they desired to do so. The issue with them is that they view the target date of a project as open ended.
They will seduce you with their knowledge and constantly find issues
with the system or your firm and thus justifying extensions to their
mandates. They tend to favour workarounds and recommend systems they
specialize in rather than put the client’s needs first. Worst of all,
due the firm’s lack of preparation they will convince you into thinking
they are indispensable to you.

Lastly, the third and most
desirable type of consultant is the “Pius Consuasors.” These consultants
have the knowledge and expertise your firm requires, along with the
professionalism to provide a service that is truly in the best interest
of your firm. They are able to clearly
define and meet the target date. Moreover, they are able to communicate
issues in a clear and concise manner and will not overwhelm you with
technical jargon to ensure any unnecessary extensions of their contract.

Committing these errors has proven over and over again
that firms overpay for a system, from a monetary and personnel point of
view. Even if a system is finally implemented, a firm with too many
negative practices will probably have to replace that system and the
whole process is repeated. The end result: you now have an investment
firm transforming into an Information Technology one without the high
multiples of an IT firm.

RECOMMENDATIONS

Having
focused considerably on the “what not to do” aspect of systems, it is
only appropriate that we spend some time looking at a better way of
using and implementing systems. Getting lost in the confusion of
mismanagement and bad advice, it only takes a little common sense to
ensure that systems benefit the firm as advertised.

It
is imperative that the purpose of the system is clearly defined,
communicated, and understood by all parties. The front office needs to
understand that they are best served by a system if they rely on the
knowledge of a specialist specifically trained to delve deeper into the
numbers than they are capable of. Once this is done, the
specialist will have the support at the executive level and will be able
to focus on adding value in the information supply chain by using their
expertise to provide beneficial analysis that otherwise is not
achievable by any other department in the firm. Supporting the
specialists on a technical basis will be the IT department.
Understanding their role as a support tool for the specialist and the
firm, the IT team can focus on using their technical strengths in
systems and automation. The less they are involved in the financial
aspect of the system, the better the firm and all involved will be.

The
best way to avoid having poorly functioning systems begins before the
selection process. The following steps are a general guide to minimizing
system issues and avoid writing blank cheques to vendors and
consultants:

• The Audit:
  The specialist should conduct a full audit of any of the firm’s current
  system that will have with the one being proposed and as well as, a
  full audit of the operational tasks currently being used. This must be
  done before the search for a vendor has begun. The benefits of this
  audit are that it will identify any weak points the firm has and
  provided you the time to make operational improvements without having
  the meter running on the hourly rates of vendors and consultants.
• The Vendor Search: Once
  the audit of the firm’s operations has been completed, the specialists,
  along with support from IT, can begin the vendor search. The audit will
  have provided the necessary knowledge of what data your firm has and
  any possible interaction with established systems in your firm to ask
  the proper questions in the vendor evaluation. Once
  you have sent out requests for proposals, you must also meet the
  vendors’ technical staff, who are system experts and can provide you
  much more feedback than a sales team can ever do. As well, they
  usually take more pride in their knowledge of the system and will be
  more forth coming of the system’s weaknesses than the sales team would. With a vendor selected, a detailed implementation schedule should be set up and broken down into phases with fixed deadlines.
  The firm should have an agreement in writing indicating who will be
  supporting the project from the vendor’s side. It is quite common for a
  firm to find itself without the adequate support once it has signed the
  vendor agreement. As stated earlier, the experienced employees of a
  vendor firm are always in great demand and their time is limited,
  consequently making it imperative that their time is allocated to your
  firm as per the agreed upon schedule.
• The Consultant Search:
  If your firm lacks the in-house expertise to implement a system, then
  it is advisable that a consultant is hired to assist you in the
  implementation. Due to the time limitations of the vendor, relying
  solely on them is inadvisable and will delay the implementation. An experienced consultant can bridge the gap between the needs of the specialists with the technical requirements of the system.
  Many of the guidelines in finding a qualified and professional
  consultant are similar to that in the vendor search. Basing the firm’s
  questioning on the specialist’s knowledge of the subject matter and the
  possible issues found during the audit, the consultant will be capable
  in providing clear and detailed answers during the interview process.
  Finally, it is of the utmost important that you verify their previous
  work with other firms by talking with those firms and discussing the
  consultant’s work from the accuracy of his time estimate and the quality
  of his work. Remember, you do not want a consultant who will constantly
  bring up issues and recommend workarounds, when in fact there are no
  issues.

Having selected a consultant the firm must include in the agreement that the consultant thoroughly tests his/her work. If you have hired a qualified and professional consultant you will not have to worry about receive poorly tested work.
The specialist will still have to test the consultants work to ensure
that he/she has done the work as directed. This is a secondary quality
control measure and should not be uncovering significant issues if the
consultant has done his/her work properly.

By
deciding to purchase a system and implement it in-house, a firm has
taken on a significant project that can bring great benefits if done
probably. The executive level needs to understand and support the
team that will be using and implement the system. The specialist, who
will lead this team, will have ensured he/she has his proper audit of
his firm’s operations and the due diligence of the vendor and
consultant. IT will play a support role to the specialist with respect
to the technical aspects of the system and the interaction between the
other systems. Lastly, the vendor and consultant will leverage their
knowledge to help best meet the needs of the firm.

Implementation
can be a daunting task and many firms would rather have their
specialists spend their time providing quality analysis to the benefit
of the firm and its clients. The option
of outsourcing the system management to firm’s offering investment
management solutions exists. These technology firms serve the investment
management field and can alleviate you of the systems maintenance while
providing you the same access you would have had you implemented your
own system. The higher initial costs of outsourcing will more
than make up for the additional costs incurred by maintaining a larger
IT department and hiring external consultants.

MOVING FORWARD

For a blog, this comment may be a little lengthy but it is a subject that is not given enough consideration. The
investment industry takes for granted the amount of work and
implications of investment systems. It is essential that every level of
an investment firm does their role to maximize the benefits of a system.
Too many firms today are in the habit of selecting systems that do not
best fit their needs and proceeding in an ill-prepared manner only to
have to deal with something that requires more work to maintain than it
is worth.

With the proper approach and preparation an investment firm can greatly profit from the advances technology has to offer. Which
firm would not want to have an efficient free-flowing of data and
analysis that they can rely on in evaluating and building their
strategies to help outperform and contribute to the bottom line; a place
where the front-, middle-, and back-office can work in unison without
exhausting each other’s resources? Portfolio managers would not have to
maintain their excel schedules breaking down data and operations would
not have to spend needless time dealing with system caused data related
issues. All you need is a little common sense.

Unfortunately,
common sense is often lacking in the selection, implementation and
maintenance of extremely expensive systems that are suppose to make
everyone's job easier. I thank Ioannis for sharing his thoughts with my
readers and if you're looking for a bright, competent, professional consultant with experience to help you with your performance system needs, I urge
you to visit his firm's website, Phocion Investments, and contact him directly at [e-mail].

Comments

[superflyguy]

I'm not sure what country and which companies this guy consulted for but from my 10+ years of experience in IT consulting for financial companies, and I've worked for all major ones (including most TBTFs), there's a lot missing in this article.

He's basically saying - buy my services because most others suck.

That is incorrect. There are a lot of good people out there, but they cannot do anything due to the nature of the business.

First and foremost, financial industry is one of the most heavily regulated and even though we all know those nobody really cares about those regulations, shitload of money (and time) is spent on audits and compliance. Thus, system designs must not necessary be efficient or good, they must comply with whatever is on someone's checklist.

From my personal experience, audits are all about checklists and auditors are generally generally non-technical people interfacing between IT and management with their heads in management's ass.

Then, as the author of above article correctly mentioned, (with the exception of Blackrock solutions), most IT departments in financial shops are cost centers. That means technology suggestions and decisions are not necessary being made by the IT specialists actually working with the stuff but by the management, some of which in today's world is not very technical at all and sometimes by the business which is, as the author correctly notices, either driven by a sales pitch (probably get some kickbacks for buying it too) or because they think they know better than the IT folks. The business arrogance is beyond the scope of this article.

It was different years ago but after 911 things changed for the worse.

The name of the game nowadays is cost cutting. Saving money, where can we trim, consolidate. Business sets the budges and IT managers try to work around it.

Some of the other major setbacks for the industry are H1Bs and outsourcing. H1Bs initially allowed for tallent to come in, however the whole thing was quickly hijacked by the large corporations and they began bringing in anybody that was willing to come on as low as they could get away with paying them. When that wasn't enough, they outsourced whole departments. I've been working with people from India in India for about 9 years now. There are some good people over there but they rotate extremely quickly. You hire a guy and just as you teach him something, he's outta there grabbing the next opportunity which likely pays marginally better. Really bad experience. But no, it's supposedly cheap and they're sticking with it. Again, decisions made on high levels. Who cares if the quality staff suffers and have to keep fixing after someone else screws up, it's cheap.

I'm sure there are many other things I've missed but in the end, the article misses out on a lot of stuff that goes on in many of these firms. The problem in them is so big, it cannot be resolved by just hiring quality people. Maybe it's different for small(er) shops, I cannot be the judge, never worked for one because the ones I talked to either wouldn't pay or expected me to be available 24x7x365 working 10-16h days.

[ThirdCoastSurfer]

Nice article. All of this applies to the healthcare and health insurance industries as well. 

[rlouis]

Ten years ago the software vendor's working relationship with the client was "sticky".  Now the descriptive adjective is "stuck"  - nothing like a business being totally dependent on a vendor and the only way to escape is to chew off your [arm/leg] etc.  

[css1971]

Tech industry deliberately and consciously produces systems which have high degrees of "lock in". They'd be stupid not to. Once you have a cow, you milk it for all it's worth, and financial firms are great cash cows.

[css1971]

From what I've seen, vague and changing wish lists (requirements) appear to be the primary problem. The approximate mental processes of most executives is approximately "Oooh look, shiney computer, want shiney computer. Want shiney computer make everything better". (~90% of Iarge IT projects fail.)

[disabledvet]

outside of what you use in your personal life my view is simple:  "the technology should come to you."  i can't imagine any substitute for actual face time with a client in this line of work--"are we on the same sheet of music still?" material.  needless to say you will be listening to people who you truly abhor.  If it's any news "they don't like you either."  i imagine the point of the process is to make money and not to be liked--it's not like the point is to explicitly kill people as some seem to feel is their charge in this line of work.  (They're call "euphemisms" folks!)  Having said that without referencing higher authorities (God, war, the State, technology) it's easy to lose perspective.  To actually believe "it's all about murder" and a celebtation there of?  It might be the point of the media--but i sure don't see how in any right thinking mind it could ever be vis a vis wealth creation.  the key word as i see it is "creation."  like the medieval builders of cathedrals "that takes time and effort" the finality of which may never be witnessed by the first builder himself.  and of course what set America apart from day one from the rest is while its "cathedral" was being built was "we will have law" when we do it.  Unique doesn't even begin to describe that "accident of history."  More like "unprecedented."  Isn't it interesting that in the USA all our games have rules-the most fundamental of which is "the goal of the game is not to kill the other guy."  Not to say "people don't get hurt" or "it never gets personal"--just saying...the GOAL is not to kill since "what happens when the canon is pointed at you Mr. Murderball?"  Methinks "the game is over then" for who in their right mind would want to play anymore?

http://www.youtube.com/watch?v=9H4e9eRUZZY&feature=player_detailpage

[High Plains Drifter]

on a similar note, this is why companies like IBM and UNISYS are still in business. The money is not in the mainframes, but in the proprietary software and lease payments and consulting.

Its stuff like this that makes me think I am so glad I, myself are in charge of my own investments and I and I alone have control over them and not some stupid pension fund plan.

[Rainman]

CalPers re-hires the same State Street thugs they are suing for fleecing them in the past. Only in Kalifornia.....

http://www.bloomberg.com/news/2011-07-06/state-street-rehired-by-calpers-after-being-likened-to-thugs-.html

[tgatliff]

Unless you live in Poland, your story seems EXTREMELY unlikely....

Every construction design today uses CAD no matter what the size.  Also, load analysis is a nearly brainless exercise to perform and would take a monkey (or baby boomer) to screw it up.  

In short, forward the link to any article you can find on this if you dont mind...  I think the chances in this type of event happening in todays world without someone going to jail are slim to none..

[Stuck on Zero]

An engineering firm here designed a new pedestrian overpass over I5 using a new CAD/CAM system.  A very impressive design, very beautiful and slender.  The design was accepted by the city and let out for bids.  The winning construction contractor stipulated that he was not responsible in the event of a collapse because in his estimation the design was flawed.  During construction everyone commented that it looked like it would fall down.  The engineers said it was safe.  Their computer analysis was flawless.  The contractor stated in a newspaper article that he felt the whole thing would come down when he pulled out the formwork.  Guess what?  When the formwork was pulled the overpass collapsed.  It seems that they forgot a support column.  Fortunately no-one was hurt. 

[blunderdog]

You gotta look on the bright side, though.  We've been depending on this sort of thing for decades.

Malinvestment = GDP growth

[ebworthen]

A long winded sales pitch for your friend, and an illustration of the curse of technology.

Computers are nothing but calculators.

Creating a program for the calculator forces static two-dimensional constructs.

Throw in humans acting on various motivations in a three-tiered management structure with four dimensions and you have a highly sophisticated and very expensive clusterfuck - which now requires a consultant.

[Yen Cross]

  That was insightful. I agree. Thank you. 

    The Human element (blocks any algo...(:

[ExpendableOne]

Sorting out the "consulticks" should be step one.  I've often found that the "consulticks" selected by management are little more than salespeople with just a pinch of technical knowledge.  Overall, this is good advice to follow.

[Leo Kolivakis]

Yup, same with third party marketers who send over pretty young ladies in short skirts showing off their cleavage and batting their eyelashes repeating cliche phrases like "we think you should invest in hedge fund X, Y, Z because they add true alpha." Every time I ran across one of these dolled up bimbos, I felt like telling them: " Listen toots, you wouldn't know real alpha if it hit you in the chest and deflated your fake cans!"

[Mercury]

Like the government most of the "compliance" industry is about keeping up appearances, digging holes and filling them up and removing human judgement wherever possible.

Back in '08/'09 I worked for a smaller firm whose parent was one of those top three banks that imploded and wiped out many employee shareholders.

They were in full compliance the entire time.

[Stuck on Zero]

An old computer acronym here is apt: GIGO (Garbage In Garbage Out).  A "system" is no better than the data that is entered.

[Leo Kolivakis]

100% correct on GIGO. I can tell you stories about people who placed so much faith in their models and systems and then got it up the ass after a 20-sigma move! Fuck 'em, arrogant pricks deserve what they get!

[Yen Cross]

 In F/X we call them big moves per 100. They become large after 1000 handles.

[Yen Cross]

  Cogs and JAWs always work well together!

[spinone]

It is imperative that the purpose of the system is clearly defined, communicated, and understood by all parties.

This takes a level of management. Generally it is difficult to get management on board with an IT project unless they have some 'skin in the game'. The only time they pay attention is if there is a percieved crisis. Then they want a band-aid, not an IT system.

[DOT]

Arrogance and pretense can be costly.

I have run into more "investment" arrogance and pretentiousness than what I have endured with IT. 

[Yen Cross]

 perhaps you should strike out on your own?