Former UK Prime Minister Harold Wilson was once quoted as saying, “A week is a long time in politics”, well, the same can be said in the FX platform industry. Over the course of the last week, as we reported in a Squawkbox Special on Tuesday (September 16), a lot of people had to take a long serious look at their business – and act quickly.
For some, the issues threatened their very business model, I am thinking in particular of those platforms that used AIG as the central counterparty. As we noted on Tuesday, Currenex was in the position of already having a degree of contingency in place – and it swiftly moved to replace AIG with JP Morgan. The others? We are waiting to hear.
Leaving aside whether Currenex was fortunate or not (and to paraphrase another former national leader – “good generals or bad? Give me lucky generals anytime”), the fact is the platform was ready to go. And while the bulk of its business happens to be on the (unaffected) RFS module, market sources tell me that the ECN model at Currenex continues to be treated with suspicion.
This suspicion is driven by concerns over a single central counterparty – in particular a bank at a time when financial institutions are firmly under the microscope.
Which brings me back to the opening quote.
Last week, there was much buzz over a (still unconfirmed) report that CME was about to pull the plug on FXMarketSpace (see Squawkbox September 15). This week, a press release dropped into my inbox from CME providing “clarity” on the group’s central clearing model, i.e. CME Clearing House. The benefits are clear and unarguable, as I noted in the special issue last Tuesday, and the layers of protection that make up the Clearing House mean it does not face the issues other parties would – it is an industry solution in effect.
So, that noted, thoughts inevitably turn to who provides access to a clearing house. CME, obviously, has a very strong FX futures business and it saw a surge in volumes this week – equally ICE has a fledgling FX futures business that offers a similar model (and level of protection).
Oh yes, so too does FXMarketSpace – the crucial difference, according to friends in the market, is that FXMS is an OTC product. For all the fungibility of futures and cash, some organisations have yet to build sufficient technical support to enable them to comfortably close out a position in one product, via the other. Some organisations, it seems, prefer the comfort of an OTC product.
Which leaves the industry with FXMS, which is suddenly finding itself the subject of intense scrutiny. My sources tell me that actual trading volumes on FXMS have barely increased from last week, so the (continuing and justified) debate over the platform’s future are still pertinent, but as one trading firm manager said to me last week “you can’t connect to these things in hours you know”.
The fact that people are clearly talking to FXMS about how it mitigates risk in the trading process means that any decision CME may or may not have taken, is likely to be re-thought. It is much too early to say that FXMS had dodged a bullet – it needs to show some actual and serious growth in its trading volumes before that can be countenanced – but the model is clearly seen less as a threat to banks’ FX businesses and more as an aide to mitigating counterparty risk.
And that is the bottom line with any platform that uses a clearing house – that it guarantees all trades, and while the Lehman trades appear to have settled well (a much better effort on the part of CLS compared to the Refco collapse), the nervous atmosphere in the wider financial markets means e-FX managers are re-evaluating their risk and distribution models.
Most, of course, prefer to see customers trade with them on their single bank platforms, but it would be dangerous to ignore the multi-participant model – for clients want choice. Concerns over counterparty risk will serve to assist the multi-participant model, therefore the banks need to embrace that model in some shape or form.
A Correction (I think)
We have been asked to point out by Citi’s LavaFX that it does not use AIG as a central counterparty. We are happy to clarify that point – as we stated in Tuesday’s Squawkbox Special, we are told that Lava’s Interbank platform (as opposed to its ‘normal’ platform, uses AIG.
If this is wrong, we apologise unreservedly for the error, however it is proving difficult to actually confirm anything. Sources with intimate knowledge of the firm’s Interbank platform tell me that it used AIG as a central counterparty at its launch, what is happening now is anyone’s guess. The situation may have changed in recent months – if so, it has been a very quiet change. Repeated calls and emails to Lava continue to elicit no response, so we remain none the wiser. Further updates will follow (hopefully).
