Fed official hails progress on the FX Global Code of conduct but calls for expanded engagement to address emerging issues like settlement risk and prepare for industry changes ahead.
The foreign exchange (FX) market has seen seismic shifts since the transition to free-floating currencies over 50 years ago. Electronification, automation and growth in emerging market currencies have radically altered practices. Guiding this complex, fast-moving industry towards efficient and ethical conduct is the FX Global Code.
Launched in 2017 through central bank-private sector collaboration, the voluntary Code outlines principles for good practice across areas like execution, risk management and compliance. Speaking at the FX Markets USA conference last year, a senior Federal Reserve official applauded its adoption by over 1,000 institutions globally.
“Implementation of the Code has made a tangible impact on trading practices,” Anna Nordstrom, Head of the Domestic and International Markets Functions remarked, citing reduced last look windows from venues, eliminated extended hold times by liquidity providers and exclusion of non-compliant participants on some platforms.
Buy-in from the buyside is also rising substantially. Of the top 15 US asset managers, 11 have now signed on, representing a formidable $36 trillion in assets under management. “This is a significant achievement, illustrating the Code’s influence extends across the industry,” the Nordstrom said.
But Nordstrom cautioned more is required, with industry input critical for the 2024 review. Areas highlighted as priorities included:
With $6.5 trillion changing hands daily, counterparty settlement failure poses systemic risk. Yet many trades still lack adequate protection through multilateral netting, payment-versus-payment settlement or other measures.
“Addressing gaps in FX settlement risk mitigation remains a top priority,” noted the Nordstrom.
The Global Foreign Exchange Committee (GFXC) aims to reinforce principles around managing this risk while exploring monitoring enhancements like more regular survey data collection. But greater efforts are still needed to expand use of proven risk-reducing infrastructure.
The upcoming transition to T+1 settlement in US securities markets also holds major implications for associated FX transactions. With newly shortened timeframes, banks must coordinate sequencing of equity and FX leg settlement to avoid disruptions.
Given settlement often relies on manual processes spanning global time zones, substantial enhancements to confirmation and nostro management will be essential. Nordstrom urged institutions to begin evaluations now, rather than waiting for the 2024 deadline.
As emerging economies expand, currency growth is outpacing developed markets. Yet representation within the Code lags. The GFXC seeks to boost participation so all players benefit from standards for ethics and efficiency.
“Emerging markets have great interest in contributing to a just, global marketplace,” stated Nordstrom. “Their perspectives can help ensure the Code’s principles stay relevant across diverse regions and cultures.”
With the next evaluation starting in 2024, the GFXC is distributing a survey on the Code’s efficacy and pain points. “This presents a valuable chance for market participants across the spectrum to express their views,” said Nordstrom.
Following constructive industry feedback, the last review expanded guidance around key practices and created new disclosure cover sheets to boost transparency between counterparties on issues like pre-hedging policies.
But as the market evolves, so must guidance. “Addressing FX settlement risk is currently a top priority,” Nordstrom reiterated. “We anticipate our discussions and deliberations to be very insightful as we embark on the Code’s next phase.”
Overall, the Code has enjoyed substantive early traction across conduct expectations, execution policies and risk management. But its legacy relies on continuous enhancement and diverse input to match a changing industry. As Nordstrom concluded, “Guiding the FX market’s development will be facilitated through advancing an adaptive, globally relevant Code.”