John, Hotspot FX was founded in 2000 and was the first ECN to enter the institutional FX market. Did this provide the firm with any significant first mover advantages?
[JM] Being the first ECN for the institutional FX market helped establish Hotspot as one of the early innovators in electronic FX. As a first mover, we have the most experience in operating a truly unique marketplace where institutions, banks, hedge funds, CTAs and corporates interact in a dynamic ECN environment offering centralized price discovery, full depth of book transparency and complete end-to-end anonymity.
Hotspot was acquired by Knight Capital Group in April 2006. In what ways do you think having such a strong parent has benefited the company?
[JM] Prior to the acquisition, Knight was known primarily for its successful U.S. equities business. Since then, Knight has expanded across asset classes, adding not only FX but also fixed income and listed derivatives, while growing its European equities business and further expanding its futures, options and algorithmic capabilities. This has allowed Knight to offer to its clients a comprehensive array of complementary products and services. Knight also has a demonstrated track record of operating successful electronic marketplaces, such as Knight Match, Knight Link and most notably perhaps, Direct Edge, the now-independent and full-fledged electronic U.S. equities exchange that was once an ECN wholly owned by Knight.
In terms of Hotspot itself, we have clearly benefitted from being part of the Knight organization in many specific ways. Knight’s large and diverse universe of clients provides Hotspot with a broad pool of potential new clients for our FX marketplace. We’ve also been able to expand into new regions by leveraging Knight’s expanding global footprint. Additionally, we have been able to greatly enhance our technology by tapping Knight’s IT organization and electronic marketplace expertise that has been key to Knight’s many successes. As such, we’ve continued to keep all of our system development in-house, with complete control over all aspects of the platform and a tremendous amount of flexibility when it comes to meeting client needs. Finally, we have been able to raise the profile and credibility of Hotspot, something that comes from being part of a successful and respected global financial services firm like Knight.
Early last year Hotspot realigned its business to focus on its institutional offering. Why did it decide to exit the retail forex market?
[JM] For many years, Hotspot ran two marketplaces for two main client types, institutional and retail. Knight acquired both businesses as part of its acquisition of Hotspot in 2006. However, it was the institutional ECN which represented the large majority of the Hotspot business and was the main driver behind the acquisition, as it offered Knight the opportunity to add a new and complementary asset class to its already successful institutional equities business. In February 2009, Knight determined that the retail offering did not align strategically with Knight’s offerings focused on institutions and broker-dealers, so we exited the retail forex space. I think the success we have had since that date in many ways reflects that decision to focus on delivering the best FX marketplace to the professional community.
You mentioned that the Hotspot ECN structure offers direct market access with full market transparency, centralized price discovery and depth-of-book display - all with complete anonymity. Why does this business model give traders so much more control over their FX trade execution?
[JM] These are all key components to the Hotspot FX marketplace. We believe our ECN market structure levels the playing field for all participants, giving them all equal weight within the platform and allowing them to participate in any capacity from aggressive to passive to any combination in between. In the end, whether you are one of our market makers streaming two-sided markets 24 hours a day, a bank, a hedge fund, a high frequency shop or an individual professional trader placing a single order, the determining factor as to whether or not you will be top of book comes down to one thing – price. It is this equalizing factor that we believe creates a fair and open marketplace and gives the participants complete control of their trading experience.
With the publication on September 1st of the Bank of International Settlements Triennial survey of Foreign Exchange Market Activity showing a 48% rise in Spot transactions, how have Hotspot volumes grown over the same period?
[BG] We welcome the triennial BIS report and other industry reports and surveys that help paint a picture of the size and characteristics of the often-opaque FX market. In fact, to that end, in January of this year, Hotspot began releasing its market volumes on a monthly basis as well as data going back to the beginning of 2009, demonstrating our belief that greater transparency is a benefit to the market.
With respect to the BIS report, it’s encouraging to see the FX market show such growth over a three-year period that has been a challenging environment for most asset classes. Specifically for us, the BIS survey confirms what we have seen on our own platform: significant growth in participation from non-bank firms such as hedge funds and high frequency traders, as well as the overall rise in spot transactions. We believe that the global trends as identified in the BIS report play to Hotspot’s strengths, as seen by our 125% volume growth over the same period.
The platform has recently been experiencing record volumes. Why do you think increasing numbers of trading firms and fund managers find your value proposition so compelling? Connecting to Hotspot is relatively easy?
[JM] Yes it is. There are no customer on-site hardware installs required, and we have partnered with virtually all of the top FX prime brokers, providing superior clearing services. We also allow quoting down to 1/10th of a pip, which can result in extremely tight two-way spreads. Additionally, the diversity of client types coexisting in our marketplace makes for a unique and balanced pool of liquidity and participation that is unique to Hotspot.
[BG] Overall, Hotspot’s value proposition is relatively straightforward. By offering an ECN market structure for FX, all participants compete on a level playing field with one another where price competition and transparency is paramount. Furthermore, the FX prime brokerage model allows for complete end-to-end anonymity for the end user, and the ability to tap into the large credit lines available among our prime broker partners. This combination, and the ability to see the potential savings, have been resonating with more and more clients and potential clients than ever before, especially those who previously viewed FX as a secondary function to facilitate their investments in other asset classes. Now, these clients see that they can significantly drive down their trading costs in an environment where fund managers and investors seek to maximize profitability with every trade. Lastly, FX has become a truly viable asset class unto itself and has attracted participants traditionally focused on other markets. For these clients, their relative familiarity with the anonymous ECN structure and technology has helped us quickly get people up and running.
Last year Hotspot saw 18% growth in the number of new users using your platform. Was that growth across all client segments?
[BG] Yes, we have seen notable increases across all client segments from banks and institutions to asset managers and corporates. On top of last year’s growth, we have seen this trend continue with the number of firms trading on the platform up 15% year over year, and we have added new users onto the platform from both new and existing client firms at an even greater rate of 25%. New users and existing clients are both behind the dramatic rise in volumes transacted on the platform over the last 18-plus months, unmatched by any other time in our history. Hotspot volumes for the first half of 2010 have nearly doubled compared to the same period in 2009. Our clients transacted over $4.67 trillion in spot FX over the period compared to $2.35 trillion in 2009, elevating our average daily volume to $36.5 billion, from $18.4 billion. As with ECNs in other asset classes, as volume and market share grow and more people discover the value in the liquidity pool, the adage of “volume begets volume” begins to kick in. I believe that is part of what we are witnessing at Hotspot right now.
What steps have you taken to offer even more ways for trading firms to access the Hotspot platform?
[BG] Our goal has been to make onboarding new clients as easy as possible. We have achieved this by allowing multiple and flexible means of access backed up by a strong team of technology and support professionals all charged with creating a great client experience. Recognizing that each client is unique and has different preferences when it comes to interacting with our platform, we have multiple solutions to meet the needs of clients of all shapes and sizes. Our FIX and JAVA APIs provide choice for individuals or third-party providers seeking to connect directly to the platform. We have several market data solutions available via ITCH, FIX and Java. Meanwhile, our co-location facility at Equinix provides clients with an efficient and cost-effective means of accessing Hotspot along with other financial markets and venues from the same location. Internally, we have partnered with our Knight Direct team, integrating Hotspot functionality into Knight’s robust multi-asset class EMS. We have also developed a streamlined, “FX-only” iteration of Knight Direct for the FX trader that is completely customizable and provides access to all the order types and functionality we have developed over the years, as well as provides a portal through which to view Hotspot’s dynamic liquidity pool.
In the end, client demand has driven our development and flexibility when it comes to accessing our liquidity. We are agnostic as to how a client may interact with us and are always exploring new options and partners that can make client onboarding as easy as possible.
Over the last few months have you noticed any significant build-up with regard to the number and type of market making clients joining the platform?
[JM] Yes. Over the course of the last year, we have more than doubled the number of market makers on the platform. Specifically, many buy-side clients such as hedge funds, high-frequency traders and proprietary traders are now acting as a new generation of market makers, employing cutting-edge systems to consume massive amounts of market data and power sophisticated pricing algorithms to make two-sided markets. Our community of bank market makers has also evolved along with this trend, embracing new technology, and deploying new trading and risk management methodologies to greatly improve the way they make markets. This makes bank market makers a key component to the liquidity on the Hotspot platform.
What advantages do you think customers obtain by using a proprietary matching engine like Hotspot’s which has relatively quick development cycles?
[JM] Speed of execution is paramount. The faster a customer knows whether his order has been executed or cancelled, the more profitable that customer can be. No customer is subjected to a fixed bid/ask spread. Additionally, we are able to respond quickly to client requests. Whether it is for a custom report, specialized functionality or a new connection, by keeping development in-house we are able to control the priority queue and adjust as priorities change, enabling us to respond to client requests or marketplace changes with incredible speed and flexibility. We have always managed our platform to stay ahead of the curve when it comes to capacity and messaging rates, which continue to grow throughout the industry at an ever-increasing pace. Because of this discipline, we have not had the need to impose any restrictions or limitations on how clients place orders or consume our comprehensive market data.
Bill, how many currency pairs are now available on the platform and what new order types have been added over the last year?
[BG] Hotspot currently offers trading in 51 currency pairs plus spot gold and silver. We will continue to expand this universe as customer demand dictates, working with our liquidity providers and clients and assemble the critical mass of liquidity required for a positive trading experience. With respect to order types and functionality, we have added GTC, Market, Stop Loss and Take Profit orders. Additionally, we have added Time Slice and TWAP algorithms leveraging the in-house expertise in this area from Knight Direct, which also offers a comprehensive suite of equities and options algorithms. We have also recently introduced compatibility with Excel RTD, allowing for orders to be delivered to the platform via this method used by many funds and proprietary traders. Lastly, the introduction of the new Knight Direct GUI interface for Hotspot represents a significant upgrade in the look and feel of our FX GUI as well allows for significant customization to suit client preferences.
Over the last 18 months e-Forex has been reporting on the growing interest within FX for deploying ever more complex algorithms and advanced execution techniques such as smart order routing. Do you see this creating more demand for the type of services you offer?
[JM] Many participants today use various means to aggregate several venues and liquidity sources into a single view of the market. Furthermore, for certain client segments, minimizing market impact is extremely important, making execution algorithms a vital part of their daily execution methodology. Once multiple venues are aggregated together, smart routing technology comes into play. Hotspot is able to integrate with any third-party aggregator or smart router. In addition we have developed many of our order types so that they are compatible with the algorithms and strategies that our clients may utilize either directly or through these third-party providers. When competing head to head with other platforms in an aggregated environment, we are confident that Hotspot will always stand on its own and win its share of business based on price and tight spreads.
Over the coming months, how will you be looking to expand the already considerable features and functionality available on the platform?
[BG]We have several initiatives underway. First, we are expanding the features and functions available via the Knight Direct GUI. We also are working on streamlining the process for second- and third-tier banks to access the platform and adding to our algorithmic offering with a VWAP product.
In other areas, we are launching white label functionality in the fourth quarter of 2010, which will allow FX brokers to harness Hotspot’s innovative technology. Finally, we are putting together a specific offering aimed at international equities traders to improve the efficiencies of the FX leg of their trades. In short, we have a lot going on and are working on ways to leverage our 10 years of technology innovation to provide additional services beyond our core ECN to our clients.
Hotspot is headquartered in Jersey City with offices in the US, London, Singapore and Hong Kong. Looking to the future, what new regional and customer markets will you be hoping to target?
[BG] Hotspot is always looking for new markets where we can introduce Hotspot FX to new users. Recently we have been focusing on Asia where we have added to our team in Singapore and Hong Kong. We believe that the Asian region, and specifically Japan and China, represent an area with tremendous growth potential where clients would appreciate Hotspot’s transparent market structure, true price competition, technology and ultimately reduced costs. Additionally, we are starting to look into Latin America as an area that we have yet to really penetrate, leveraging relationships that Knight already has in the region. Lastly, we are building up our European sales team to allow us to better serve this critical part of the FX market.
John, since Hotspot was founded, we’ve seen many trading venues come and go and witnessed extraordinary product innovation within the electronic FX space. What attributes does it take to survive in the FX business and how will Hotspot go about ensuring it remains one of the most successful and pioneering firms in this industry?
[JM] Clients, clients, clients. Did I mention clients? In all seriousness, obtaining critical mass is our number one objective. As we continue to grow, we will stay very close to our clients in order to understand and deliver the necessary products and functionality that they require. For this to work, our technology has to be robust and extremely nimble. I feel very confident that we offer a superior FX marketplace, with innovative technology and comprehensive client service, which should position us for a positive future.