The Rise of Online FX
The growing adoption of online foreign exchange (FX) trading sites and portals continues to outpace predictions and has led to the development of web-based trading forums for other capital market instruments. After initial predictions of corporate and institutional activity seemed too optimistic when the FX platforms came onto the scene seven years ago, the consolidation, maturity and enhancement of the online trading systems continues to attract new market participants. This article examines the current state of online FX and new developments on the horizon.
A review of the gtnews Online Trading Survey from July 2004 revealed a broad base of customer use. It showed that 40 per cent of corporate respondents trade online and more than 50 per cent of banks employ online trading platforms. Other treasury surveys point to more than half of all corporates executing FX trading online, particularly those companies with revenues in excess of $1bn. A leader in FX online volume among multi-bank portals is FXall, where volumes recently topped $43bn per day and more than two million annual transactions occurred in 2005. Given that more than one quarter of gtnews survey participants planned to begin FX trading online, those numbers will certainly increase.
That hypothesis is consistent with more recent research. The findings from Treasury Strategies’ 2005 Corporate Liquidity Research Program indicate that more corporates are seeking online trade initiation and portfolio tracking capabilities. In addition, most large multi-bank FX portals have expanded into other capital markets, such as money market investment trading. Options trading is available on some single bank platforms, but not yet available on multi-bank sites, although most platforms are working towards that goal.
The initial array of FX multi-bank portals has dwindled to three main providers: FXall, FX Connect and Currenex. The latter two have more recently focused their efforts on the institutional (asset manager and prime brokerage) community rather than corporates, although both continue to serve customers in that arena. While Currenex is an independent online provider, FX Connect was initially a State Street Bank proprietary product for institutional trading firms, which now serves other customers in the asset manager market. FXall is now privately owned after beginning as an alliance of large banks.
It is worth noting that pricing plans for use of multi-bank portals have become more varied, and can be structured to meet the needs of corporates with either a small number of users or global requirements. Both the range of pricing plans and the ability to include all credit providers in the FX bidding process should lure many undecided large corporates to the multi-bank online platforms.
Single bank trading sites remain popular among small and middle market corporate clients. Those companies are more likely to have single bank credit providers and are unlikely to have FX volumes that warrant multi-bank portal subscriptions. Easy portal access to the bank’s broader treasury and cash management products is a compelling advantage to many corporates.
It could be argued that one of the most important developments driving the migration to online FX trading is the requirement imposed by the Sarbanes-Oxley Act on corporate treasurers. Three years ago, treasurers were more interested in the price discovery and straight-through processing (STP) benefits of online FX execution. Now, the security and audit trail benefits of the single and multi-bank FX online systems allow for greater compliance with Sarbanes-Oxley conditions for workflow documentation and corporate FX policy provisions. A selling point for corporates is the fact that trades can be documented as having been competitively bid in multi-bank sites and FX confirmations can be obtained easily.
Varying degrees of STP exist in online trading platforms. The highest levels of integration exist for the asset management and prime brokerage institutional clients because their high trade volumes require such automation. In particular, the ability to discretely trade large blocks and allocate trades to subsidiaries is imperative for those client types. Direct connectivity to client systems facilitates the settlement and confirmation process. For corporates, standardized interfaces and messaging formats that can directly export trades and reports to a treasury workstation system is of paramount importance. Some online FX providers have established partner channel relationships with certain treasury system vendors (resulting in a quicker and less expensive interface), but virtually all corporate ad-hoc requests for integration can be accommodated.
From a trading execution perspective, significantly greater liquidity exists in the online platforms than in the past, and two areas of growth are emerging market currency pairs and non-deliverable forwards (NDFs). Buy and sell-side customers can trade and compensate NDFs at the central bank fixing rate, an executional capability that has not existed until recently in multi-bank portals. In addition, demand from institutional clients has resulted in more sophisticated order management features in the online platforms.
With FX trading volume increasingly segmented by institutional and corporate counterparties, the multi-bank sites are likely to continue the feature-rich development of their sites and further enhance the STP elements of the platforms important to each group of customers. For corporates, the central advantages of multi-bank portals are the ability to bid out trades to an array of credit banks, price discovery driving down execution costs and the compliance benefits of integration with front and back-office workflow. Those corporate treasuries with technology systems that allow for direct interface will recognize the highest returns in time and cost-savings.
It is clear that for all FX participants, the explosive growth in online trading has commoditized trade execution and liquidity to the extent that for best pricing and ease of back-office processing, corporates will continue to conduct their FX trading business online.