FX benchmark fixes, specifically the WMR London 4pm “close”, have been in the spotlight recently thanks to price action around and during the fixing windows. Colin Lambert talks to Shirley Barrow, global head of benchmarks at Refinitiv about how WM/Reuters Benchmarks are managed – and what it would take to change
In spite of liquidity conditions easing in FX markets, there is a sense of nervousness among participants, and nowhere is this more heightened than in the lead up to the month-end WM/Reuters London 4pm Fix. This benchmark rate was first established in 1994 and has evolved to be adopted by index providers and asset managers the world over as they seek to rebalance and value their international portfolios.
With this adoption has come, however, a steady increase in the amount of business actually being conducted in the window as managers seek to minimise their tracking error to the published rate. The challenges that arose from this increased attention on the Fix were highlighted in 2013 when allegations of misconduct amongst bank traders triggered a sequence of fines for banking institutions; traders being dismissed and in some cases facing trial; and the Financial Stability Board (FSB) conducting a review of FX benchmarks that led to a series of recommendations, key amongst which was the extension of what was a one-minute fixing window, to five minutes.
The company responsible for implementing the recommendations was WM Company, which was at the time owned by State Street. Now a part of Refinitiv, the WM brand remains, to provide consistency, and is headed by Shirley Barrow, global head of benchmarks at Refinitiv, who is herself facing the potential challenge of a noisy industry segment arguing for further change in the benchmark methodology – namely another extension of the window.
“We are obviously aware of the current discussion around the 4pm Fix and any time there are questions over how well the benchmark is working it is our responsibility to evaluate conditions and look carefully into whether it needs greater consideration on our part,” Barrow says. “I definitely think we are at that stage now with what has happened in markets at the month end especially, so we will evaluate because we are committed to providing a reliable and robust benchmark that does not impact the normal functioning of market dynamics, as it may be now.”
Although the 4pm Fix is considered a critical benchmark, from earlier this year all the firm’s FX benchmarks – they are calculated every 30 minutes throughout the day – have been regulated by the UK’s Financial Conduct Authority (FCA). “We also ensure we maintain the quality of the process with independent oversight,” explains Barrow.
“We are obviously aware of the current discussion around the 4pm Fix and any time there are questions over how well the benchmark is working it is our responsibility to evaluate conditions and look carefully into whether it needs greater consideration on our part,”
Changing the methodology is not something done lightly, however, and in keeping with Barrow’s determination to maintain the consistency and robustness of the Fix, she explains that a detailed and careful process has to be undertaken. “When the Fix originated, the core objective was to provide a snapshot of the FX market, at a particular time of day, in a transparent and methodical fashion that was accessible to the buy side. It was effectively the provision of a closing rate to the FX market for the buy side even though FX of course doesn’t have one. Investment managers have a close in equity and bond markets, they needed something similar in FX, so the core emphasis is on solving a problem for the buy side.
“This means that changing how we calculate the Fix has potentially major implications for the buy side, which only reinforces the need to ensure we go through due process and come up with the right decision,” she adds. “We are very focused on ensuring the benchmarks continue to confirm to our original objectives which is to provide a service so that many institutions don’t have to identify and manage an appropriate benchmark.”
Change, Oversight and Engagement
In terms of what has to happen to change aspects of the WM/R benchmarks process, Barrow says it starts off with the firm doing its own research and data analysis. It does this as a routine anyway and occasionally publishes a quarterly volume and price report on its website. “We look at the fundamentals of the service to ensure they are sound and then look behind them to see if we can identify any further issues,” she explains.
Should the need for change be identified, or further assessment needed, Refinitiv then engages with the industry over what impact any proposed changes would have, for example, how would executing agents see behaviour changing as a result of the changes? “We would like to access the dealers’ empirical data and analysis,” says Barrow. “They understand better than anyone how changes will impact their operating procedures and what the benefits and concerns would be.”
Following that the next stage would be the formulation of a proposal to the Oversight Committee and then the appropriate regulators, before starting a broader industry consultation. The responses from that consultation would be assessed and, if they impact the original proposal, WM will go through the same process backwards to ensure all stakeholders are comfortable with the proposal. “It’s all about due diligence of process,” Barrow explains. “We have to ensure we make the right assessment and come to the right decision for the industry.”
If such a process sounds familiar to industry participants, it should, because Barrow says that it has been undertaken on “numerous occasions”, perhaps the most public of which was in 2015 as a result of the FSB’s recommendations. “Even then, we still had to go through the process before we could implement change and fulfil the expectations of the FSB,” Barrow observes.
She is also keen to stress that Refinitiv does not just engage with the industry at times of heightened debate. “We are in constant engagement with the industry,” she asserts. “The Fix has evolved throughout its lifetime thanks to this engagement as well as new data sources and techniques becoming available. We are not entrenched in the way we work and we will look to engage with the industry to get some real dialogue going around what has been driving some of the fixes recently.”
Observing and monitoring all of this work is the aforementioned Oversight Committee, which is tasked with monitoring (and if need be challenging) all aspects of the benchmark process, including product changes, new initiatives and methodology changes. “In addition to the Oversight Committee, we have established a specific entity – Refinitiv Benchmark Services Ltd (RBSL) – to provide independent oversight for all of our FCA-regulated benchmarks,” Barrow explains.
“We are not entrenched in the way we work and we will look to engage with the industry to get some real dialogue going around what has been driving some of the fixes recently.”
As well as publishing the methodology and minutes of the oversight committee meetings on its website, Barrow also points out that WM maintains and active engagement with both buy and sell side – albeit on a less formal basis. “We recognise how important it is to have user groups to discuss what is working and what was is perhaps not, which is very useful for us,” she explains. “We want to strengthen our engagement, but although our process stood up well to the FSB’s scrutiny and the benchmark remained fit for purpose throughout, we have to acknowledge that there are some reservations from users in engaging, even at an informal level from a compliance point of view,” she says. “We are working towards strengthening those groups, however, and it is important for us to have buy and sell side engagement in what we do because they are the practitioners who provide us with tremendously valuable feedback that allows us to constantly assess the service.”
It is, perhaps, an unfortunate fact of life for the 4pm Fix in particular, that there are still behaviours which are associated with it. Barrow reiterates the importance the company places on maintaining the robustness and appropriateness of the Fix, which includes, she reveals, the monitoring of the controversial practice of pre-hedging. Whilst pointing out that the oversight committee does not pass judgement on the actual practice itself, Barrow says that a Refinitv team, independent from the operations of WM/R provides information to the Committee to allow it to study market conditions in the lead up to, and during, the fixing window. If an issue is identified there is an established escalation procedure that can end with the FCA.
That said, however, perhaps the most pertinent aspect of the recent debate around the Fix is how little of it is rooted in questions of conduct. There are few, if any, suggestions that people are mis-behaving and none that WM is doing anything wrong, rather the discussion surrounds whether the five minute window (plus the occasional pre-hedging period) can handle the size of flows now being presented for execution around 4pm?
The sense is that Barrow wants to ensure that the Fix remains fit for purpose by staying on top of the issue to not only fend off potential criticism from the industry but also to thwart potential competition from new players. “We will monitor market conditions as part of our mission to protect the integrity of the benchmark, which is all important,” she concludes. “Any benchmark has to be anchored in being achievable and being robust. We have to go through a lot of steps to change and be objective in our assessment, but ultimately we have to reflect the will of the market and if change is needed then we will implement it.”