Edelman Award: Safe, Secure Securities Settlement
With analytics as its engine, Indeval’s groundbreaking Dali system brings unmatched speed, efficiency to Mexico’s financial market.
By Peter Horner
On May 7, the most-watched stock market measurement in the world – the Dow Jones Industrial average – plunged nearly 1,000 points (almost 10 percent) in a matter of minutes. The size and speed of the drop shocked the financial world, but what was truly shocking was that weeks later, the best reason any Wall Street wonk could offer to explain the breathtaking roller-coaster ride (the Dow recovered most of what it lost within a half hour) was a “trading glitch” that triggered massive, computerized sell orders.
|For videos of the 2010 Edelman Awards Gala and Presentation, see:
Untold billions of dollars in paper wealth disappear in a matter of minutes because someone hit the wrong computer key? Are you kidding me? As one blogger put it, “If this was really primarily caused by a ‘computer glitch,’ how are investors supposed to have any confidence at all in the market? After all, if a computer error can wipe out half your account in less than an hour, why invest at all?”
The May 7 market meltdown served as yet another reminder that financial markets, especially in these difficult economic times, must be beyond reproach when it comes to security, accuracy and efficiency. Serendipitously and just a few weeks earlier, the Institute for Operations Research and the Management Sciences (INFORMS) bestowed its most prestigious prize, the Franz Edelman Award, on Indeval for its innovative use of operations research to help strengthen the banking and securities exchange system in Mexico – securely, accurately and efficiently.
Indeval, the Mexican Central Securities Depository for financial securities, manages Dali, the securities settlement system (SSS) that settles securities operations and exchanges that average more than $250 billion a day. To put that figure in perspective, every five working days Dali settles in trades the equivalent of Mexico’s annual gross domestic product. With operations research (O.R.) as its core engine, Dali settles its massive volume of trades securely, accurately and efficiently in near real-time (one or two minutes), a record unmatched by any other exchange in the world.
Geneses of Dali
Indeval and its partners the Mexican Central Bank and Instituto Technológico Autónomo de México (ITAM) began implementing Dali in 2005 with two key requirements for the new system: 1. The SSS had to function with minimal financial reserves, which is invaluable during financial crises when liquidity is scarce; and 2. The SSS had to employ near real-time settlement capability to meet ever-increasing demands for intraday liquidity and risk management tools. With these premises, communication protocols, business rules and best market practices were revised, and a new settlement solution was created.
The project not only met its primary goals, the near real-time settlement capability saved Indeval’s clients/stakeholders (domestic and international financial institutions, the Mexican Central Bank and various government ministries) $150 million collectively a year by significantly reducing daily liquidity requirements (and thus intraday loans and accompanying interest payments). The unique application of O.R. combined with its dramatic impact and potential on a national and international scale made Indeval the first Mexican organization and the first financial organization to win the Edelman in its 38-year history.
Former INFORMS President Tom Cook, who headed the famed Sabre group at AmericanAirlines during its rise to analytical legendary status during the 1980s and 1990s, served as master of ceremonies for the Oscar-like Edelman Awards Gala held in conjunction with the INFORMS Practice Meeting in Orlando, Fla. INFORMS President Susan Albin presented the Edelman Award to Indeval CEO Hector Anaya.
“I don’t know what to say. I haven’t practiced this part,” quipped Anaya, who led Indeval’s well-rehearsed presentation during the competition earlier in the day. He was joined on stage by a large contingent from industry, government and academia that comprised the prize-winning presentation team.
“To tell you the truth, what I want to say is ‘thank you’ to my team,” Anaya continued. “They … established a commitment to work as a team. We spend a lot of our lives at work and they are my friends. … I shouldn’t be here – they should be here. Thank you very much.”
O.R. Like ‘Magic’
After the ceremony, Anaya admitted he had never heard of the term “operations research” before his company entered the Edelman competition. So what does he think of O.R. now?
“I think it’s magic,” he said. “It’s magic to settle billions of dollars of trades in a minute. Our settlement system, with O.R. as its core engine, queries more than 22,000 database records and sends messages to all of our clients confirming the settlement in one or two minutes. In my opinion, that’s magic.”
The dramatic award announcement – greeted by a standing ovation from the capacity crowd of conference attendees – capped a daylong competition in which six finalists from around the world (see accompanying story) made a series of
presentations before a panel of judges. In his opening remarks introducing Indeval’s Edelman presentation to the judges, Anaya described the work as a “major development that will profoundly change the way our business is conducted.”
Anaya added that Indeval was “very proud” that the Dali securities settlement system was “developed from scratch using O.R. techniques,” that it was capable of “incorporating the entire Mexican financial sector,” that Dali “efficiently settles $250 billion in transactions on average each day,” and that it was “implemented on budget and on schedule.”
Describing the geneses of the initiative, Anaya noted that the desire of Indeval’s Board of Directors to adopt international best practices dovetailed closely with the vision of the Mexican Central Bank, which resulted in a close partnership between the two entities. Together, they recognized the need for “an additional partner that would bring the technical and O.R. expertise required for the areas of cross-engineering, systems design, optimization and simulation.” Enter Instituto Technológico Autónomo de México (ITAM) – and operations research – thus creating, as Anaya put it, “a great team of industry, government and academia working together … with a common goal: to deliver a world-class, state-of-the-art securities settlement system.” The Edelman judges were obviously impressed.
“They accomplished something in Mexico that apparently hasn’t been done anywhere else,” said Edelman judge Cindy Barnhart, a professor at MIT and a past president of INFORMS. “That impressed us, and they did it through the use of operations research.”
“They provided something new, which is ‘netting’ buyers and sellers every two minutes in near real time instead of at the end of the day,” added Andres Weintraub of the University of Chile, another Edelman judge. “That takes away a lot of the risk in the operation. It’s an excellent integration of IT and operations research.”
Like the other judges, former Edelman winner Grace Lin was impressed by the innovation, uniqueness and impact of Indeval’s SSS system: “They showcased the use of O.R. in an area [financial] that hasn’t been widely represented in the Edelman competition,” she said. “The integration of O.R. with IT can really help reduce risk because they have real-time settlement capabilities. If you don’t settle right away and have to wait until late in the afternoon or even after hours, there’s potential to create big problems.”
|Edelman finalists boast international flavor
By Barry List
|Including Indeval, this year’s 2010 Edelman competition drew an international list of competitors working on a wide variety of projects.The other five finalists and their Edelman presentations included:
The Delaware River Basin Commission: “Improving Water Release Policies on the Delaware River through Operations Research”
Deutsche Postal DHL: “Managing Global Brand Investments at DHL”
“New Brunswick Canada Department of Transportation: “Achieving Transportation Asset Management via Operations Research”
Procter & Gamble: “Inventory Optimization at Procter & Gamble: Achieving Real Benefits Through User Adoption of Inventory Tools”
Sasol: “Innovative Decision Support in a Petrochemical Production Environment”
Technical papers from all six Edelman finalists describing their work in detail will appear in an upcoming issue of Interfaces.
The Need for Speed
The key to Dali’s near real-time settlement capabilities is an operations research based engine that is executed automatically and offers a continuous and secure operation, ensuring that settlement is irreversible. This single clearing and settlement engine incorporates a linear programming model that chooses which pending operations can be settled with the depositors’ available balances, maximizing the value of the transactions settled.
Thanks to the model, many transactions that would remain pending if they were processed individually are settled together, thus reducing liquidity requirements dramatically – by 52 percent in cash and 26 percent in securities. The most important benefit of the implementation of Indeval’s new settlement system is the enhancement and strengthening of the Mexican financial infrastructure.
A major challenge for implementing a new solution was to get the support of the whole industry and persuade more than 100 direct market players (including HSBC, Bank of America and Citibank) to change their operating procedures for handling transactions.
Usually, the handling of financial transactions relies on data management and information technology approaches, which do not take into account critical factors such as the order in which settlement instructions are executed. Considering this,the Indevalteam applied operations research techniques that proved to be critical for the success of the project.
The team used business process modeling to redesign all business processes; designed and tested a new rule-based SSS to improve the quality, reliability and safety of the service; and developed a simulation model to evaluate the performance of the new SSS in liquidity usage and settlement time.
While the enhancement and strengthening of the Mexican financial infrastructure was the most important benefit of the implementation of O.R. in Indeval’s SSS, other benefits include a safe mechanism to transfer money from the Central Bank to meet obligations in other payment systems and an effective tool for depositors to close their risk positions swiftly for better risk management.
Perhaps no better testimony to Indeval’s achievement with Dali came from Donald Donahue, chairman and CEO of The Depository Trust & Clearing Corporation (Indeval’s U.S. counterpart), who said the following via video as part of Indeval’s presentation:
“The severe global financial turmoil of the past few years has made clear how very critical the capabilities of the financial system’s operational structure can be. Being sure that you can properly clear and settle securities trades and the related real-time payments, along with efficiently accounting for and servicing the underlying securities assets, is an absolutely essential part of ensuring stability and integrity in the global financial markets. The Dali implementation recently successfully completed by SD Indeval is an outstanding example of a financial infrastructure organization’s success in meeting these challenges. Indeval’s achievement is especially impressive since it involved a market-wide implementation encompassing Mexico’s domestic and global equities, government and corporate bonds and money market instruments. … As Indeval’s U.S. equivalent … we appreciate very well just how much an achievement this represents.”
Peter Horner (firstname.lastname@example.org) is the editor of OR/MS Today and Analytics magazines. Barry List (email@example.com), the director of communications for INFORMS, contributed to this article.
|The ‘Super Bowl of O.R.’|
|Named in honor of a pioneer of operations research practice at the Rca corporation, the franz edelman award for achievement in Operations Research is considered the “super bowl of O.R.” because it honors the best applications of operations research in the world. the nearly eight-month competition begins with a call for nominees in the fall. the nominees are asked to provide a two-page summary of a practical application of O.R. that has had a significant, positive impact on the company’s operations and bottom line. A team of verifiers is then sent froth to make on-site visits to learn more about the nominating work and verify claims made in the application process.The field of nominees is gradually narrowed down until six finalists are invited to present their cases before a panel of judges at the INFORMS practice conference in the spring.2010 Edelman Committee Chair Srinivas Bollapragada of General Electric served as one of the judges, along with Layek Abdel-Malek of the New Jersey Institute of Technology, Cynthia Barnhart of MIT, Tony Brigandi of AT&T Labs, Ananth Iyer of Purdue University, Grace Lin of World Resource optimization, R. John Milne of IBM, doug samuelson of Infologix inc., Donald (Bob) Smith of Monmouth University, Michael trick of Carnegie Mellon University and Andres Weintraub of the University of Chile.|