Programs trading in the equities division, and hybrids, rates trading, fixed income : Lehman Brothers

Abstract

My summer was with the European Capital Markets Division at Lehman Brothers in London. The summer programme at Lehman Brothers was structured as two rotations with two desks for 4 weeks each - one in Equities and the second in Fixed Income. The desks were chosen in such a manner, so as to give each intern a wide perspective of the firm's activities and a microscopic picture of how each desk fits in line with the firm's goals, mission and vision. My rotations were with Programs Trading in the Equities division, and Hybrids, Rates Trading in the Fixed Income division. These two desks are vastly different as will be seen below, The desk's main activities were to work on portfolio trades carried out by large funds like pension funds, hedge funds and mutual funds. To analyse portfolios, Lehman had developed a proprietary risk model, using which they could be analysed to discover how various factors (macroeconomic, industryspecific and fundamental) that affect a portfolio, affect the particular portfolio in consideration, particularly in terms of sensitivity to returns and risk. Lehman had also developed a model to estimate transaction costs of particular trades (given the parameters of the trade, e.g. how fast the trade is to be carried out, how much price risk is allowed, etc.). Using this analysis, the portfolio manager could then refine his trade and the parameters of the trade, so as to align his risk exposure according to the views of the portfolio manager, with minimal transaction costs. After the trade was finalised by the portfolio manager, the trade to be carried out is communicated to the sales trader to which the client has been assigned to. This order is, in turn, passed on to traders who then carry out the trade; if the order is a worked-out order, the trader simply has to input values into the system, or else, the trader has to decide the optimal parameters by which the trade should be carried out. Since the desk had to deal with large trades, the desk dealt with large volumes and charged minimal commissions due to large-scale automation. To cope with such volumes, a dedicated technology team developed various automated trading algorithms, which achieved different purposes during the trades, and had different benchmarks for performance. These algorithms were regularly used by the traders part of the desk. These algorithms could also be actually be used directly by the clients themselves; i.e. Lehman provided Direct Market Access to its clients using its systems. A very experienced research team was behind developing the quantitative analytic models for risk and transaction costs, and the trading algorithms. Another team used their work to create custom research reports for clients, and most of my work was with this team. I was not assigned a mainstay project; on the other hand, I was helping out with the bespoke analysis that had to be carried out for the various clients. I was also asked to develop a few MS Excel tools that could be used to analyse the portfolios. In direct contrast to my previous rotation, Hybrids was a structured product desk, where trades were very infrequent and the products that would be traded were custom-made according to the client. The desk's main activities were to create custom products based on baskets of assets that could range from equity to CDOs 1, as the requirements of the clients were. Most of the risk that the desk took on itself was correlation risk, that is, the risk of the correlation of the returns of the asset classes within a hybrid product going the other way the desk had predicted to be. The Hybrids desk was supported by the Structuring team that just developed new products and looked at ways of pricing such products appropriately. A lot of research went into describing the probabilistic cash flows of a product, so that they could be priced accurately. Pricing products is a very important activity at the structured finance desks, and this would take up to a week or two. This is important, since the client would ask 2 or 3 investment banks to come up with the same products and select the one with the lowest price. Therefore, it was essential to price the product accurately, and calculate the margins properly, based on rigorous quantitative research, which would be carried out by the trader themselves or the structurers. Most of the products developed at this desk, were customised to the client's requirements and views. This desk was new, and most of the ideas on new products would come from the customers themselves. But this part of the firm is seen as the growth area of the firm.