Institutional Investor's Alpha Magazine - December 2007/January 2008 - (Page 63)

Hardware munication cables under the ﬂoor. While pondering an underﬂoor tray system offered by a vendor, he learned of another Connecticut-based hedge fund that uses the system and contacted them to ﬁnd out more about how their cables were set up. But he was told there was no way that they would let him near their data center, even to examine something as innocent as cable trays. Such furtiveness is what spawned testing outﬁts like STAC, which is headquartered in Chicago. Though hedge funds won’t talk about the advantages of a particular piece of hardware, companies like STAC will. “The ones who are making tons of money on it aren’t telling anybody,” says Lankford, who founded the company in 2006 after a career in banking, software and information technology. “That is one of the reasons for our business. When vendors come to us to test their equipment, we are all about publicizing their technology breakthroughs.” The results of a typical STAC test can be confounding. In December, the lab ran high-volume market data through HP blade servers — a collection of electronic circuits and processors on a thin, modular chassis that can be inserted into a larger rack — ﬁrst on a common Ethernet network and then on a newer, potentially faster network technology called Inﬁniband, manufactured by Voltaire. The result: Voltaire’s product was faster. Most hardware innovations these days focus on three areas: servers (the central processing units of computer operations), the computer chips that run those servers and the network technology that moves data. Computing work done on these systems includes various back-ofﬁ ce accounting functions, as well as trading and market data analysis. Change is rapid in all three areas, and hedge funds are usually among the early adopters of any advances. Patrick Guay, senior vice president of marketing for Voltaire, says ﬁ nancial ﬁ rms have been using his company’s newer and faster network devices to improve back-ofﬁce accounting functions and client services. But the application that draws the most interest is electronic trading and analysis, where added efﬁciency and speed can translate into proﬁts that rapidly offset the cost of buying new equipment. “The return on investment on these solutions is incredibly short,” says Guay. “Recovery is not years or months; it is down to weeks and days.” Kevin Pleiter, global ﬁnance section director for IBM, oversees the tech giant’s products and services aimed at hedge funds and financial companies. He says hedge funds represent a very diverse market when it comes to hardware. “There is a vast separation between ﬁrms,” he notes. Tech-savvy hedge funds doing high-volume trading are important customers for IBM’s latest servers, which promise faster computing capability. “It gives you an opportunity to do things four or ﬁve times faster than the competition,” says Pleiter. “In theory, if you are really good and have a great algorithm, you can make your technology investment back in a second.” Of course, he notes, even the best technology can’t compensate for faulty ﬁnancial judgment or operations: “If you have bad algorithms and poor execution, faster hardware could mean you actually lose money quicker.” Hedge funds’ need for speed has led technology specialists to begin embedding heavily used software in the hardware, instead of running it separately — effectively eliminating a tiny step where information has to move from one location to another. A program that prices options can be encoded onto a computer chip to run automatically instead of as a separate software application. “You put it on a chip, and the information doesn’t have to go any where,” says TABB’s McPartland. Advanced hardware can also be used to deal with extreme market gyrations that can swamp existing systems. This past summer’s market mayhem, and the record trading volumes that resulted, over— ANDREW LO, FINANCE PROFESSOR, MASSACHUSETTS loaded some brokers’ systems INSTITUTE OF TECHNOLOGY and caused backups in orders and trade executions. McPartland says some funds have since decided to build more capacity and faster systems to deal with volume spikes. “The big concern is, Can these systems continue in worst-market conditions?” he adds. “That is what a lot of these newer solutions are promising. These new technologies have found ways to avoid and eliminate queuing.” For fund managers, the trick to staying on top of the ﬁ nancial information explosion is being able to upgrade hardware as fast as technology companies turn out new products. AQR’s Levine says his ﬁ rm replaces its servers every two to three years to make sure it doesn’t fall behind, adding that the need for new hardware is not limited to its trading desks. Until recently, AQR’s accounting system was running on a system that took 20 hours to complete one particular series of updates. But new hardware Levine purchased included chips so fast that the same task now takes only 20 minutes. “It has made a huge difference in people’s lives,” he says. With new hardware so complex and specialized and being developed so rapidly Lankford says there is no end in sight for STAC’s role as a testing center. In September, he established the STAC Benchmark Council, an industry group designed to deﬁ ne standard ways of measuring the performance of trading technologies. The group, which began with eight of STAC’s customers — primarily global brokerages — has quickly gained popularity. “In November we opened it up to technology vendors, and in about a month we went from zero to 21 vendors on the council,” Lankford says. “This is an arms race. If hardware costs $100,000 or $1 million, that’s irrelevant to hedge funds.” DECEMBER 2007/JANUARY 2008 • INSTITUTIONAL INVESTOR’S ALPHA • 63

Table of Contents Feed for the Digital Edition of Institutional Investor's Alpha Magazine - December 2007/January 2008

Institutional Investor's Alpha Magazine - December 2007/January 2008 Contents Letter from the Editor Longs & Shorts Pension Corner: Liberal Returns The Good Guy: Inner-city MVP Cover Story: Marathon Men Interview: Rizk Management Profile: Living on Hostile Ground Profile: Buy and Hold In Theory: The Fallacy of Portable Alpha Strategies: Changing Course Alpha Bytes: Behind the Scenes Unhedged: Commentary: An Activist Alternative

Institutional Investor's Alpha Magazine - December 2007/January 2008

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