Mike Harris, President of Campbell & Company, talks about the changing dynamics of trading relationships over the past 20 years and why he’s still bullish on FX as an asset class.
Profit & Loss: When you think back to 1999, what was the biggest difference between FX trading then and now?
Mike Harris: The biggest difference then was that all of our trading at that time was being done via the voice market, which meant that our transaction costs were higher because of wider spreads. But more importantly, every trade that we did, we were crossing a spread. We never had the opportunity to bid or offer on the near side of the market – that was the market structure at that time.
The other thing to point out is that there were differing viewpoints on trading protocol in the FX market at that time. There was more of a focus on relationship-based trading, which meant that we had an understanding with counterparties that “one call was full”. This meant that if I was calling you, you were the only person I was asking for a price, so I wasn’t competing it, nobody else knew about it and there was no “winners curse”. That’s how we traded.
Move ahead 20 years and we have a bifurcated market that is driven by electronic market makers. You can still call out and get one call full pricing, but more than likely you will reach out to multiple liquidity providers to compete that quote over some sort of electronic platform to make sure you are getting the client the best fill possible. And in this new electronic context, we have to think about the market dynamics of a multitude of liquidity venues; whether you’re requesting bank quotes or interacting with electronic venues with algos, one has to be extremely wary of the micro structure of the marketplace. Best Execution remains paramount and being involved in a market that is heavily reliant on electronic trading is dramatically different than where we were in the ‘90s.
P&L: Given this change, and more broadly the shift towards electronic trading and algo execution, has the relationship element of FX trading been significantly eroded?
MH: I don’t think that it’s eroded, I think that it’s evolved. We have a lot less counterparties than we used to, which means that our business is more concentrated with a smaller group of names, but we’re more important to those names. So that in itself is strengthening our relationships.
We used to have about 40 counterparties and with that, many there would have probably been a few regional banks where we would only call them in their domestic currency because they might have unique corporate flows and therefore were able to quote us a little bit tighter. But at the end of the day, we weren’t a big, important relationship to them. However, we still had to manage this relationship – and all the others – to keep the pricing tight. Now we have fewer relationships to manage, plus the addition of an entirely new type of market maker with the proliferation of non-bank liquidity providers.
The dialogue with our counterparties is driven more by liquidity provision, but it’s still a relationship-driven business. We still make trips to visit our counterparties now and encourage them to visit us.
P&L: Why is that?
MH: There are really two drivers for continuing face to face meetings. First, is the continual need to discuss liquidity provisions and mark-outs. That’s a critical element of these relationships that is always best handled in person if possible. Second, is simply maintaining those relationships. Whereas you used to develop strong relationships over the phone, no one talks on phones anymore, everything is via text on a screen because everyone is multitasking and doing more things. So now we have to go out of our way to maintain the relationships that we do have.
It’s also worth pointing out that because a lot of businesses have shifted from principal to agency the way they’re getting paid has changed, and so has the relationship as a result. When acting as a principal these firms got paid via the spread, but as agency businesses they’re printing a ticket charge on every trade we make so now they just want to come in and tell us about the new piece of technology they have so that we’ll send them more flow.
So the relationship used to be more about trust, you wanted your counterparty to trust you so that they would be confident that you weren’t going to run them over and would quote you tighter as a result. Now, the goal is the same but you don’t have to manage the relationship in that way. Now we primarily focus on data and market-driven discussions about liquidity provisions, pricing and other terms.
P&L: Looking ahead now, do you feel positive about the future of FX trading?
MH: I think that with FX in particular as an investible asset class it comes down to the macro regime that you’re in and where the opportunities lie – which includes the timeframe for a trade idea. We had this period before the financial crisis where all global economies were going up, then came the crash and it all headed south, which required broad easing of monetary policy. Between quantitative easing and lower rates, it was tough for FX as an asset class because volatility declined and if you were trading relative value, which is effectively what every currency pair is, you just didn’t have as much opportunity.
But now, unlike where we’ve been for the past 10 to 15 years, it feels a little bit like where we were in the late ‘90s, early 2000s where we’re seeing a lot of divergence of economic growth and monetary policy. And that’s creating some really interesting opportunities. Brexit is one example – what is that going to mean for EUR/GBP? Then you also have questions about trade relations between Japan and Korea, much less the US and China, which are having an impact on monetary policy, economic growth and, subsequently, the value of currencies.
So I’m very bullish on the opportunities for FX trading and I think that investors are seeing these opportunities too.