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In the FICC of It In this week's In the FICC of It podcast, P&L's editor Galen Stops tries to rein in a punchy managing editor Colin Lambert. So to find out what is a "social experiment" and what report "is a propaganda exercise" listen in. Along the way there will be more considered opinion and insight on the changing dynamic of the LP-client relationship, including a quick way to identify changing LP behaviour, as well as a look at what is, at face value, a surprising deal involving FXall and 360T.
In the FICC of it In the latest edition of Profit & Loss' podcast series, In the FICC of It, managing editor Colin Lambert and editor Galen Stops discuss some of the news stories that have hit the headlines over the past week. They discuss the surprising departure of Fastmatch CEO Dmitri Galinov, the drivers of latest deal in the FX trading platform world and the challenges and opportunities facing the CTA industry. They close out with a few quick thoughts on the first anniversary of the FX Global Code and as you would expect, they are "off message"!
The Need for a Better FX Benchmark Philippe Bonnefoy, founder of Eleuthera Capital, explains why the FX industry suffers due to a lack of an effective industry benchmark. Bonnefoy discusses why the 4pm Fix can be beneficial, but points out that it also suffers from potential gaming. He then adds that benchmarking remains a huge issue for investors trying to work out whether they should consider FX as an asset class or not. “With an equity benchmark, you know what the index is doing, for fixed income you know what the composite bond or the bond benchmark in 10-year Treasury is. For FX, is it cash? Is it a three-month yield? Is it overnight pricing? How do I say that you created value for me in trading FX other than just saying whether you were positive or negative?,” asks Bonnefoy.
Combining Currency Hedging with Alpha Generation Adrian Lee, president and CIO at Adrian Lee & Partners, explains why combining currency hedging with alpha generating strategies can benefit investors. When questioned about whether clients are looking for hedging or alpha from currency managers, Lee responds that many clients actually need both simultaneously. He continues: “The challenge of risk management is that currencies are a biggish risk – there’s no long-run return really, so on paper it makes sense to reduce it. But when you start to do these hedges after you’ve got the international assets, you’ve got to get the currency exposure back… with that [you have] really strong cash flows because if you hedge half your 20% international, it’s 10% of your whole portfolio. If that goes against you [the impact on] performance in a quarter could be massive.”
Could the Shift to Clearing Alter FX Market Structure? Although there are clear drivers pushing more FX products into central clearing, this is unlikely to have a significant impact on market structure, says Paddy Boyle, the head of ForexClear, LCH. “The pressure to clear for banks that are subject to bilateral initial margin rules is very, very high and we have banks who tell us they’ve been cut off by other banks because they weren’t clearing,” he says. That, explains Boyle, is one of the negative drivers towards central clearing, while on the positive side there are lower capital costs, lower initial margin requirements and fewer credit line restrictions for firms that choose to use clearing services. As a result, Boyle predicts that cleared FX volumes will increase “pretty significantly” going forward.
Taking it One Step Further: Using Machine Learning to Improve Trading Hasan Amjad, head of algorithmic trading at GAM Systematic Cantab, explains how machine learning tools and techniques have enabled his firm to improve almost every aspect of its trading capabilities. “It goes all the way really,” he says, “Starting with portfolio construction, all the way to the final trade and the post-trade analytics.” For example, Amjad points out that machine learning can be used to improve pre-trade analytics by more effectively identifying what kind of trading the firm should be engaging in during current market conditions. He concedes that there are other techniques that enable firms to determine market conditions, but that “machine learning just takes it that one step further by being able to ingest a lot more data and give you the answer”.
Tracing the Evolution of a Currency Manager Philippe Bonnefoy, the founder of Eleuthera Capital, explains how his firm has evolved over the years in response to changes in the FX market. “Over the last 20 or 30 years we’ve evolved massively, starting as discretionary macro traders, then using more and more quant models to manage positions and then finally using the quant models to actually do the trading and become a quant portfolio manager,” he says. Part of the reason for this, explains Bonnefoy, is that the price behaviour of the FX market has changed significantly as market making has become overwhelming conducted electronically. Even now, he points out, FX trading firms need to be cognisant of these changes and how they’ve impacted liquidity when they screen and look at data to test their models.
What’s Keeping Institutional Money Away from Cryptos? Uncertainty about regulations, a lack of trusted custodians and concerns about security are key factors that continue to deter many large financial institutions from trading cryptoassets, says Kevin Beardsley, a managing partner at B2C2. Amongst these three factors, Beardsley cited the lack of regulatory clarity around cryptoassets as the biggest issue for these firms right now, pointing out that no major bank wants to clash with their regulators for trading in what is, relatively speaking, still a small marketplace. “The large institutions are all waiting for the regulations to become clear, which is a very rational approach,” he says.
A New Brokerage Model Following the launch of the consolidated tape in September, Dmitri Galinov, CEO of FastMatch, is envisaging a new business model whereby the platform will not charge firms at all for brokerage. Looking ahead in 2018 Galinov explains that the focus for FastMatch is going to be on expanding its market data business, which he predicts could grow large enough that it will be unnecessary to charge market participants a brokerage fee for trading on the FastMatch platform.  The analogous business model to this, according to Galinov, is Facebook.
US Regulators Eye Algorithmic Trading Justin Slaughter, a partner at Mercury Strategies, warns that US regulators are examining if they need to take further action around algorithmic trading.  Talking about how the Commodity Futures Trading Commission (CFTC) has not necessarily given up on “Reg AT”, which included a controversial provision that trading firms hand over potentially proprietary source code related to trading to the regulator, Slaughter highlighted broader questions about what data regulators should have access to.  “What should the government do to make sure that we have access in an emergency to critical data but not give it so much access that we’re then in danger of leaking our critical proprietary knowledge?” he says.