FX market structure changes are behind a change in approach on the part of several non-bank market makers, and the direction of travel is very much the mainstream.
“The market structure has changed and our model has definitely changed with it,” said Laine Litman, head of Virtu Financial’s customised and disclosed liquidity offerings in FX and fixed income, in kicking off the second panel on liquidity provision at Profit & Loss Forex Network Chicago. “What liquidity consumers needed two or three years ago has changed and with that, we have had to look at our models as well as at how we interact with markets. And it doesn’t stop, it is a continuously changing dialogue – for example, two years ago people were simply not talking about full amount trading, but now it seems to be what all the venues are talking about, so as LPs we have to evolve and learn how to make markets in these larger amounts, and learn how we warehouse that risk and hedge without causing market impact.”
If there was one overriding theme from the panel, which featured non-bank firms only, it was how these firms had evolved their business, indeed as Giovanni Pillitteri, portfolio manager at HC Technology observed, “Had we had this panel three years ago, talking about risk warehousing and larger tickets, then there would have been a bunch of banks up here rather than four non-bank firms.”
Pillitteri agreed that the market has changed “dramatically”, adding that the Swiss National Bank event was probably the main catalyst. ”We have a more open market now and this means that firms like ours can leverage their technology and smart order routing expertise to try to solve problems for liquidity consumers.
“Technology is why we have the opportunity to grow,” he added. “On the bank side, technology still tends to be siloed, but on firms like ours we are able to move more nimbly and bring innovation to the table.”
Jeremy Smart, head of distribution at XTX Markets, observed that while the core model of the non-bank firms had not changed, at places like XTX it is the core distribution model that has. “If you go back a few years, our model, under the GSA guise, was to distribute liquidity on public venues to banks and then have them filter it down,” he explained. “Now we are making a much bigger effort to get closer to the end clients directly.
“This comes with challenges and opportunities,” he continued. “The opportunity is to create a great dialogue with our customers – which we generally have now – about how they execute, what value we can add, and how their business is being absorbed into the market.
“The challenge is that every client has a different set up in terms of their liquidity pools and how they manage their technology,” he added. “This means we end up in a more bespoke relationship – which is probably the biggest change I have seen – that is more open and transparent, but also involves the development of a much broader range of approaches.”
The broader change in the market structure has also represented a challenge to the non-bank firms. Mark Bruce, business development, head of FICC at Jump Liquidity, observed that the firms on the panel all grew up in a non-disclosed environment. “Jump’s genesis, philosophy and focus for many years was the open, transparent central limit order book environment,” he said. “It remains our fundamental bread and butter, but we have also made the shift towards the disclosed channels because the reality of the market is that’s where it’s heading.
“So we have had to scale our distribution in a different way, but that also provides opportunities to play a bigger role as an LP,” he continued. “We are all principal trading firms on this panel who have to go after opportunities and that opportunity is currently in providing disclosed liquidity.”
Bruce also pointed out that the opportunities in the CLOB environment are “diminishing right now, and I do not think that is healthy for the market overall”, however he reiterated the importance of a firm being able to interact with customers via multiple channels.
The biggest remaining challenge for the non-bank sector was seen as gaining meaningful and direct access to the true end consumers of liquidity in the real economy. Although Smart did reveal that XTX is providing liquidity to asset managers and hedge funds as well as regional banks and retail brokers, the general consensus was that credit remained a significant obstacle to overcome in engaging with asset managers and, ultimately, corporates.
“A lot of end users are hard to get to because of the credit issue,” acknowledged Litman. ”Until there is more evolution in that space and we break down the credit barriers, it will remain that way.”
Significantly, the panel did not think governance would ever be an obstacle, Bruce noting, “Our compliance framework has grown significantly in recent years, both regulatory and discretionary such as the FX Global Code. We know the importance of going through our procedures and processes and making sure we do things right. There is an assumption in some quarters that the nonbank community has a light compliance regime, but that’s wrong – it’s a huge part of our business.”