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iPod solution may save Wall Street from ruin

iPod solution may save Wall Street from ruin
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First Published: Mon, Mar 02 2009. 11 54 PM IST

Updated: Mon, Mar 02 2009. 11 54 PM IST
Michael Stumm is an accidental currency guy.
Toronto-based Stumm is a founder of Oanda Corp., a pioneer in Internet-based foreign exchange trading and information. It’s an unlikely career turn for a computer scientist who has done research at Stanford University and International Business Machines Corp.
Yet Stumm, Oanda’s president, is at the centre of an effort to democratize currency markets and, perhaps, save capitalism as we know it.
Stumm isn’t an altruist, but an entrepreneur whose company may be among the clear winners of the global meltdown. The currency market is arguably the only area of finance in which business is good. The volatility spooking investors and swamping hedge funds is a boon for trading platforms such as Oanda’s.
“I’m a scientist, really, who happens to be involved in a market that could use some scientific thought,” Stumm told me in Singapore. “This is how we can add value.”
That’s where economist Richard Olsen, who co-founded Oanda in 1995, comes in. Olsen’s biography says he specializes in advanced forecasting technology for the financial markets. His passion is looking for the root causes of abrupt shifts in markets that lead to broader crises.
“We need a weather-forecasting system for markets,” Olsen says. “Just stand back and think about how we have forecasting systems for weather and tsunamis, but not the financial world. Does that make any sense to you?”
Well, no. By now, investors had hoped the International Monetary Fund (IMF) would have solved this problem. That was the plan after the 1997-98 Asian crisis. IMF set out to create a system of warnings that financial hiccups were afoot.
That’s easier said than done. Troubles in US subprime loans were predicted here and there. What wasn’t anticipated was the speed with which those problems would spread to almost every other asset class.
“We’ve never given anybody sufficient teeth that their views are treated seriously, that people have to act when those warnings are given,” UK Prime Minister Gordon Brown had said last month.
IMF managing director Dominique Strauss-Kahn says he’s working on a “new type of early warning system” to offer a heads-up about future crises. While that’s all well and good, Stumm and Olsen may have a more tangible strategy in mind based less on financial models than science.
“Think about the iPhone and the iPod,” Olsen says. “The technology is simple, easy to use, increasingly widely available and changing the world. Why not apply the same ideas to markets? Let’s simplify finance in a similar way.”
Olsen’s analogy is an apt one. Apple Inc.’s iPod altered the music distribution system as never before. All that online trading data Oanda and others are collating, can be used to divine cracks in markets. Think of it as Wall Street’s “iPod solution”, Olsen says.
Oanda has assisted its clients in executing at least 447 million trades since 2001. On one day in late 2007, it facilitated 1.5 million transactions. Mining those trades—and others—may offer clues about financial troubles.
Collecting and analysing tick-by-tick market data can expose misalignments—disconnects between prices and risk premiums that have broader implications. Price movements aren’t just noise. Buy and sell orders can say lots about who is building and closing positions and why.
Mapping the size of the positions and their objectives can indicate which investors face margin calls and will soon be forced to reverse trades. Margin calls were a major precipitator of the global crisis. As markets crashed, more and more investors had no option other than to exit.
Why not create a weather map of sorts to track when a critical mass of panic selling is building and threatening economies?
“Technology has never been sufficiently applied to the markets, and that’s a mistake,” Olsen says.
It’s an odd thing. Governments will spend billions and billions of dollars to understand the inner workings of atoms or blood pressure, but won’t cough up funds to figure out the ups and downs of cascading markets that greatly affect public coffers and may bankrupt cities, if not entire countries.
Universities allot millions of dollars to study the sexual habits of humans or the intelligence of dogs, but little to what’s happening in financial markets. When you think about the hundreds of billions of dollars the US is spending to bail out banks and companies, why not spend a couple of billion building a market data repository?
The effort could take the shape of a consortium of governments, banks and international organizations. Anything that holds the promise of letting policymakers and pension fund managers know all hell is breaking loose, is worth considering. It seems like money decidedly well spent.
“The financial system is the nervous system of the world economy,” Olsen says. “We need a way to tell when that system is in trouble. In this day and age, it’s crazy that we don’t.”
Bloomberg
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First Published: Mon, Mar 02 2009. 11 54 PM IST