In this column on June 7 2018 I wrote that the time had come for someone to show industry leadership when it comes to arguing the foreign exchange industry’s corner specifically around pre-hedging and Mark Johnson’s pending appeal. I looked particularly at the industry associations and stated, “The associations purport to speak for their members, well I would suggest the members – dealers of the present as well as of the recent past – need their voice represented loud and clear over this issue.”
In the week following that column one association got in contact and decided to start an initiative – which is ongoing – to demonstrate just such leadership by developing a paper that explains the need for pre-hedging under certain circumstances. This week it has been revealed that ACI – The Financial Markets Association is to draft a response to Mark Johnson’s defence team’s call for Amicus Briefs – independent expert submissions – to support his appeal. I understand that other Briefs are also being written for submission, however they are not from associations.
Both of these developments are to be welcomed and, hopefully, alongside the UK Court of Appeal overturning Stuart Scott’s extradition to the US to face charges relating to the same Cairn Energy deal, indicate that the tide of opinion is turning and that the US Department of Justice may find itself somewhat isolated in its stance.
I cannot stress enough how important it is for the associations that represent so many of their members contribute to this case and I sincerely hope that those that have remained silent, for example AFME and ISDA do not just sit back and let the other associations work alone. What is needed is an overwhelming response from the industry bodies, not just from one or two who deserve our respect for stepping up.
For AFME there is surely an understanding of why pre-hedging is important in certain transactions and circumstances and for ISDA, its documentation is at the heart of the matter and therefore surely the association should be willing to stand up and explain how these documents work?
I continue to believe, as I have stated before, that Mark Johnson’s appeal can be won if the argument is backed by independently sourced hard data analysis. It seems pretty clear that the jury in his case – indeed the District Court judge – had little or no conception of how OTC financial markets work, or of the ISDA documentation that sits behind most relationships, but more senior courts will have the ability to understand some of the crucial details that were apparently missed, or ignored, in the original trial. They will also, hopefully, understand documentation explanations better than a jury, hence why I feel ISDA needs to be involved.
There are also, again as I have argued before, some pretty serious implications for the US FX market in this. It is the prosecution team’s job to paint the accused in the worst possible light – it’s distasteful but it’s a fact of life – but when you look at Scott winning his appeal and Barclays’ former US FX head Robert Bogucki filing his Motion to Dismiss (which cites documents that apparently state that Barclays and HP agreed that there was no fiduciary relationship), you really wonder how on earth Johnson got to where he is?
More to the point you also wonder that if one or more of these cases goes against the defendant, who is going to deal with a US name? I know we all think FX liquidity is great and always there, but if we have a bifurcated market the reality – that it is actually less than great at times – will be exacerbated and the subsequent outcome could a nightmare for some firms looking to transact. After all, customers in FX rely upon competition levels for tight pricing, if there are only four or five LPs willing to step up – and they themselves can only hedge with each other – the end result will be wider pricing to those customers.
And for those who argue that the markets cannot bifurcate, consider this – we used to have on and offshore markets in many financial instruments, Eurodollars for example in the post-war period and the yuan currently has the onshore and offshore divide. So it can happen that we have two USDJPY or EURUSD prices in two totally distinct markets.
Is this a good thing? Absolutely not, but if the US legal system fails to understand the difference between responsible risk management via pre-hedging (again, subject to the right controls and disclosures) and front running then it could very easily happen.
This may be a nightmare scenario and we end up a long way short of this situation, but as long as the risk exists that we could, then the industry associations need to do their bit. They are paid large fees by institutions and individuals to serve their interests, so it would be nice to see them actually do that in a concrete and positive fashion.