LIVING BY THE CODE

Patrick Fleur, head of the trading & execution desk at PGGM, looks at the year ahead and assesses the challenges and opportunities created by regulations such as the FX Global Code of Conduct, and the impact of technological advances.

What impact do you think the FX Code of Conduct will have on the industry and how will it change behaviour?

Hopefully it will help us maintain having the deepest and most liquid market, where all participants not only step up and adhere to the FX Global Code, but also challenge each other to do so. They should work together to help the Global Foreign Exchange Committee (GFXC) create a more transparent, efficient wholesale FX market in which all participants increasingly become aware of their role and, therefore, duties. We are seeing the central banks lead by example with their trading relationships and demonstrating how you can adhere to a code which enforces the integrity and effectiveness of FX markets. All major banks, as well as buyside participants, should educate their clients to do the same.

Also, the Code is already successful. For example, the discussion about last look and pre-hedging during the last-look window is creating more transparency and opens the debate on how business is, and should be, conducted.

Do you agree with the Norges paper that there needs to be a robust governance structure around the last look implementation, to provide for an audit trail?

Currently, most execution systems do not allow clients to measure the duration of the last look window. Therefore, it is hard to control the behaviour of counterparties. I strongly believe that if clients get access to this data then the tools to police last look behaviour will emerge as well. This will enforce good behaviour.

What are some of the challenges with FX algo execution and how can its usage be increased?

To attract a broader community of algo users there are a couple of requirements. First, there needs to be a better explanation of the potential rewards and risks of using algos, which starts with more complete documentation. Questions should then be asked as to when and why to use algos and what can be expected? Peer reviews of transaction cost analysis (TCA) providers are becoming useful tools for this type of analysis.

Second, there needs to be greater transparency around internalised fills. Questions here should focus on how do the mechanics work, who are the different stakeholders and how are conflicts of interest measured? This remains largely a ‘black box’ to the outside world, but having this process audited would be a useful tool to have.

Last, but not least, is the need to reduce operational risks by conducting thorough tests before an algo is launched. Preferably the tests should be performed by an external party, along with sufficient risk controls, which would provide comfort to clients.

I think the creation of more credit intermediation tools should spur the availability of algos being developed by non-banks. This will give innovation in this field a big boost.

How are firms adapting to MiFID’s requirements to achieve best execution and a fully compliant trading desk? 

What we see at PGGM, and for some of our peers, is a push to get the proper data to enable better TCA. This goes hand in hand with more resources being deployed into both internal and external analysis on how we transact on behalf of our clients. We think that although best execution should focus more on having a solid process with a feedback loop, and less about proving best price, there is an obligation to have a full audit trail on how you transact and can make improvements going forward. We think that facilitating and encouraging fully straight through processing (STP) workflows and electronic trading are the basis on which to extract the best outcomes for our clients.

Overall, how can the industry create robust, commonly agreed, execution quality metrics in FX?

I think the starting point should be transparency and data availability. When clients have access to all the relevant data, the tools and useful metrics will develop themselves. It remains questionable why proper, timely and reliable volume data is still so hard to come by. The rise of independent TCA providers is encouraging because they provide a growing group of investors with the right data in order to have meaningful discussions with their liquidity providers.

Do you see a consolidated tape being created within the next five years?

There are some commercial initiatives to create something which could be considered a partial consolidated tape (e.g. Fastmatch and Curex), or at least a reference database (e.g. CLS). The price for some of the existing and newly born data-feeds is relatively high. However, one of the problems is that major stakeholders are still reluctant to join in on a consolidated tape; mainly due to confidentiality reasons as far as we understand. We think it is important to keep working on transparency and creating a benchmark and open market that can help restore trust in an industry which has suffered from a series of scandals, large fines and now even the first jail case.

FX was an early adopter of electronic platforms, but what are the key criteria to determine which platforms to use? 

As in equities, order routing logic, algo wheels and venue choice is still mainly done by banks. Whenever the question arises whether to use a single dealer platform or a multi-dealer platform, each client should decide for themselves what processes they need for their flows. Over the next few years we will be monitoring developments closely, but in our opinion the next generation of platforms should be very much about connectivity. As the workflow comprises a growing number of steps (order input / compliance / risk / pre-trade / execution / post-trade / reporting / settlement / administration), with the providers being increasingly independent or external parties, it will be key that you can connect to all of them. The other factor will be the ability to automate these workflows.

Traders at our end should only be looking at the exceptions, such as the large, difficult and more complex trades because this is where they can add value.

Looking at 2018, what are some of the challenges and opportunities ahead?

For challenges, I’ve noticed that FX swap liquidity is a topic that is not raised at the big conferences, and neither are there any fintech start-ups developing an alternative solution worth exploring (but please feel free to contact me if I’ve missed out on any new firms that have a brilliant idea to create a more electronic, level playing field and scalable solution in the swap space!).

Also, we need the development of a standard which all wholesale participants can use to deliver best execution within the FX space, but it needs to be benchmarked, transparent and replicable (although we believe spot is exempt, so we’ll treat spot as if it’s MiFID II compliant). However, getting your hands on affordable data, and being able to store it in a scalable way, together with internal transaction data is one of the greatest challenges from a governance and economic perspective.

Another trend we’re seeing is around cryptocurrencies, which have been on many peoples’ agendas in FX. To date, the wholesale FX community seems to be holding back, although the technology behind some of these currencies could help create efficiencies in our world.

My own view is that when looking at the unbundling of the whole FX chain, we are all still heavily dependent on banks’ IT when it comes to algos, venue choice, TCA and credit. There is more work to be done though on issues such as integrity and transparency, efficiency of the marketplace and the unbundling of other parts of the FX microstructure. Non-bank liquidity providers have focused on market making, including credit intermediation, but there is also room for a separate data model (as mentioned earlier), algo provision, market venues and smart order routing outside of the banking landscape. The majority of corporates and asset managers have been leaning heavily on banks to supply the whole chain but this has already proven to be a long wait.

Patrick Fleur, is head of the Trading & Execution Desk at PGGM, a role which he has held since September 2007. He is responsible for all relationships with financial counterparts and for all front office IT & facility related services. In addition, he is a member of the PGGM Allocation Committee which advises clients on long-term tactical adjustments to their investment portfolio. He also holds positions at the ACI FX Committee, the ECB FX Contact Group and the Bloomberg FX Advisory Board.

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