This article provides an overview of how financial instruments are represented by LUSID
What is a (financial) instrument?
A financial instrument is a financial asset that an investor either owns, or has an exposure to.
Here are three definitions:
1. Wikipedia: "Financial instruments are monetary contracts between parties. They can be created, traded, modified and settled. They can be cash (currency), evidence of an ownership interest in an entity (share), or a contractual right to receive or deliver cash (bond)." https://en.wikipedia.org/wiki/Financial_instrument
2. International Accounting Standards: IAS 32 and 39 define a financial instrument as "any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity" https://www.iasplus.com/en-gb/standards/ias/ias39
3. Investopedia: "Financial instruments are assets that can be traded. They can also be seen as packages of capital that may be traded. Most types of financial instruments provide an efficient flow and transfer of capital all throughout the world's investors. These assets can be cash, a contractual right to deliver or receive cash or another type of financial instrument, or evidence of one's ownership of an entity." https://www.investopedia.com/terms/f/financialinstrument.asp
The notion of an instrument is a fundamental building block in the implementation and operation of the LUSID platform. LUSID manages investment data, which relates to the instruments that the investment firm has contracts for (i.e. that they hold or have exposure to).
To manage instruments, LUSID has to be able to:
- Identify instruments that are transacted and held
- Record the attributes of these instruments and
- Link to other entities (e.g. issuing organisation) that the instrument has a relationship with
It is important to correctly identify an instrument for the purposes of pricing, trading, settling as well as reconciliation with third party suppliers and intermediaries. It is also important for accurately reporting to clients and regulators on portfolio constitution.
Knowledge of the attributes of an instrument are also required for investment operations, reporting (client and regulatory) and to support instrument analytics and pricing. Finally, the ability to link an instrument to parent and child entities are a pre-requisite for regulatory, trade and exposure reporting.
Issues in Managing Instruments
However, there are many issues around managing instruments:
- There are numerous instrument identification schemes (e.g. SEDOL, ISIN, CUSIP etc.) with different areas of coverage and conflicting views on instrument identity. Furthermore many major identifiers are subject to licensing costs and usage restrictions.
- Whilst identification schemes uniquely identify an instrument, some identifiers can be reused and are not guaranteed to be unique over time.
- The instrument universe is not static. Instruments come into being, change (e.g. because of corporate events), and cease to exist. There are inconsistencies between different providers when it comes to identification and the timing of instrument changes.
- The relationship between instruments and quotes. Some instrument identity schemes apply at the security level, and some at the quote level (e.g. exchange or trading venue). Different business processes require instruments at either the security or quote level, or sometimes both with navigation between levels.
- Not all securities have a quoted price, either because of thin trading volumes or because they are traded OTC or are exotic instruments. If there is no price source, additional information about the instrument is required for analytics based pricing.
LUSID Design Principles
LUSID is designed from the ground up to address these issues at source.
- LUSID supports the use of multiple concurrent identifiers which are all stored bi-temporally. This allows you to select the identity scheme(s) that you wish to apply at the point of use, and to apply "asAt" views of an instrument's past identity.
- LUSID defines data rules, validations and hierarchies in a unified location (via recipes), and applies these at the point/time of use. This allows you to customise security sources and derivation rules to meet the requirements of different investment management processes.
- LUSID has integral audit and logging capabilities to evidence the provenance and lineage of all data sources.
- LUSID can control access to data items down to the level of properties, by user and role. This enables effective control of fee liable data, where e.g. only a limited number of divisions or regions within a firm have licenses to use particular instrument identity schemes.
- Finally, LUSID has unique ID for every Instrument, called the LUSID ‘Unique Instrument Identifier’ (aka ‘LUID’). All trading activity inside a portfolio is expressed in terms of these LUIDs, as are any holding statements or other generated reports. LUIDs are unique to your client.
Find Out More
The searchable LUSID support centre provides case studies for instrument management issues with best practice examples for LUSID configuration.