vestr’s Head of Business Development, Stefan Wagner speaks to Victor Gomez, CEO of BITA, in an informational and insightful discussion into indexing in the financial space.
When designing an index what is doable? Are the edges of indexing blurring in our current day context?
All these questions answered and more in the episode. It covers topics such as:
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Definitely, thank you, Stefan, for the opportunity to participate in your podcast. I tried to escape the finance array like five or six times in my life, and somehow it cracks me back. So right from the beginning, I went and studied geology, somehow ended up studying economics and then going into finance. Then, later down the line, I had a startup about education, but then went back to finance. In between, I decided to do an MBA to move more into management. After that, I was working for the German Stock Exchange. Somehow, I even got involved in a gastronomy startup, before I finally ended up running a Fintech now.
I think the key ingredient is to have passion for what you’re trying to build. That’s a necessary condition. After that it is finding the product market fit. Because there’s a lot of startups that die early because they never really understood the industry, or they never really had figured out how they were going to penetrate that industry. Finally, another one is execution.
Of course, I could tell the most romantic ones, like, you know, team management, etc. That’s, that’s for sure. But I think when I look at where most startups fail, it is when it comes to execution.
Today, if you look at our current plan, we are primarily focused on serving ETFs asset management firms that are looking to launch funds or investment vehicles that need an index on the back. But we’re also serving a good number of trading firms that have a little bit of a different set of needs. Namely, where they might need real time data, real time calculations, delivering very low latency where we can we also have proxies for. Now going forward, we’re starting to get into more of the investment advisory RIA space.
It is very difficult to start an indexing company because you normally need a lot of infrastructure. Plus you need a lot of people in addition to a lot of data. Right from the beginning. So I think being a Latin American helped a lot. Because, from early on, I was able to get a team of very, very talented people. If I would have hired here in Germany logically my cost would have been significantly higher. So, it allowed BITA to bootstrap. And from the beginning, reach a certain scale, where we then were able to start getting institutional funding.
In terms of challenges, I think COVID makes things difficult from an operational perspective. A lot of our teams work remotely. In contrast, I personally tend to prefer working in an office. In my opinion, there is nothing like the feeling in an office. Sometimes you find yourself in situations where there are meetings to discuss something while this could have been shouted to the person next to them in an office. So I think that’s one of the challenges of having a team that is spread around different locations.
Yes, definitely. A lot of people think that building and maintaining an index is as simple as figuring out some stocks, putting them together, and then calculating a value, print it out. And it is an extremely complex business, [it needs to be ] very, very accurate. Making a mistake has a big impact. And operations are very heavy. Consequentially, you need to have very solid infrastructure, you need to manage and analyse a lot of data points per second. So it is more complex than what people think.
Normally it is data. One of the big challenges in indexing is you can have a lot of index ideas in different asset classes and different angles. But at the end of the day, finding the data, it’s sometimes complicated. On the one hand, because of indexing needs, because it’s a rules-based industry and regulations force you to be rules-based; it needs structural data. But on the other hand, it is also because the data that you need more often than not, is produced by your competitors.
You always need to have redundancy, for example. That is the first thing. You need to pay everything twice, from different vendors. That way, you can always have a point of reference. And then you need to have mechanisms in your systems where you can isolate either prices that do not correspond to a norm. Or where you can evaluate data sets historically and identify holes, fix them, and run the process again.
One other complex thing is always corporate actions. I mean handling corporate actions. Because you can have corporate actions where you have two companies merging then spinning out of business. But then giving the shareholders no Company A shares in Company C, and then out of that then also has been another Company D that they didn’t put into into an IPO.
In making sure that the index reflects the next day, all the mechanisms in the right manner can be complex.
The other part is basically, the day-to-day interaction with clients. So clients tend to come and pin you down on: “Hey, why is this? Why is that?” And so, it needs a lot of back and forth with clients.
The first advice will be licensed beta core, which is a software that allows clients to solve indexes. Through that you cut the back and forth of: “what if you do this, what if you do that”.
Exactly, they can prototype very quickly. So that is one advice. The second to be honest is: keep it simple. This is a reality. I think the best thing is that the indices are simple. You can have a very exciting topic. Or a very exciting theme. Even if you have a selection mechanism, a lot of people try to overcomplicate. As in how to weigh the stocks and how to cap them and how to work in certain situations. At the end of the day, I think the beauty of indexing is that it should be simple.
Well, right at the beginning, some of the first thematic funds were very interesting for me. Because at that time, they were just looking differently on how sectors are constructed. There is a lot of work. I still have not seen the great product there. But there is a lot of work being done in using Artificial Intelligence (AI) as a warning mechanism.
Sure. Basically, this is more towards active management indexes. Where you basically have an AI-based rulebook.The AI rebalances and looks back at what went well, what went wrong. It learns and reiterates. Eventually, it starts learning as it goes. There is some experiments being done out there, that I will be looking to see how that evolves and what the regulator thinks about it.
We’re seeing a lot of just transitioning exposures that were managed through mutual funds and sometimes in activist studies and putting them into our rules base, on top of an index. We’re seeing a lot of pickup on crypto, on the indexing side. So I think that is one of the areas of growth, not only for BITA, but I think for the industry. I think custom indexing is becoming more and more and more important, not just having an index and putting it in a storefront and hoping that somebody can license it.
So normally, in the indexing industry, you have three models for example. The index provider can build an index, and own intellectual property. In all cases, especially the index provider is based in Europe that needs to be complying with the regulations. So it’s going to be BMR compliant. [BMR stands for benchmark regulation.] Then you have engagements where the client develops some IP, and they just need you to calculate. Those cases are primarily going to come from the US and other geographies, where not necessarily somebody administering an index needs to comply with a certain set of rules. And then in that sense, you just receive a methodology, you code it in your system, and you run and calculate. And then the third one is what you call basket calculation. In that case, you’re doing basically, they’re just plain vanilla calculations. So you don’t even rebalance the portfolio for the client. The client already sends you on whatever periodicity they send you a series of stocks or securities and some weights, and then you just value that portfolio valuation. I would not even call it an index. Like an intraday NAV basically.
l think it’s several things. I think the ETF as an investment vehicle has proven itself to be very efficient. By now it has become really difficult for an active manager to justify management fees. There’s of course exceptions.
Let’s say the benchmark hogger, it’s becoming extinct.
Exactly. And then you have the new top, so the new generation, specially this last generation, they’re pretty much into investing. But they are not the people that were the typical persona in the past that would buy The Wall Street Journal. Because they were enthusiasts. And they would say “let me see”, “let me find something sophisticated”. The current generation is more about topics, about themes, about what I believe in. But then for the implementation, they tend to go for simple, cost effective solutions.
Think direct indexing can add value in certain situations. So I think one is simply when you need a certain custom exposure, that you cannot get off the shelf anywhere. For example, you’re a registered investment advisor, and you’re managing smaller portfolios and going to an index provider and just licensing an index is not cost effective. That is one case where you just get access to the composition, and you just trade directly, and you can get back.
So, anywhere where we’re trading, underlying stocks can be done in a cost efficient manner, as well. There can even be somebody in the institutional side for pension funds that want to bypass investment vehicles in the middle and they know that they can have very cost efficient execution. Direct indexing can be of value.
I don’t think direct indexing is an ETF killer, like some people are saying out there. In the sense that it’s always better. If you look at the fees of what direct indexing companies are charging in the US, I don’t see the cost efficiency.
So it’s an attractive market. We’re aiming to enter that market with some of our solutions. But all I’m saying is that not in every case it brings value.
From an index perspective, you have the complete challenge that is still in a lot of the regulatory environments. For example, you cannot invest in a vehicle for crypto, it cannot be put into an ETF wrapper in a lot of the regulatory environments. And that translates then also for an index strategy. One of the GSEs that benchmark regulation talks a lot about, the quality of the pricing and any sway market determines etc, etc. And logically in crypto, there can be as a framework is still being evolved. There can be situations where it let’s say it could be easier to manipulate things.
I would say number one, by far will be Wall Street, the original one. So the introduction of Gordon Gekko to the world I think, I think that movie inspired tons of people going into finance.
I think that movie was fantastic. And I think of the most recent ones; I really like The Big Short. I like the way it got filmed. So a little bit trying to explain some of the complex terms in Leman terms. But on the other hand, I like the combination of a little bit of a documentary approach with a traditional movie.
Yeah, so they can contact us of course through our website. They can send us an email to firstname.lastname@example.org. They can contact me or anyone from my team on LinkedIn.
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