FX electronic trading: Improving execution, liquidity, and risk management
Trading in foreign currency can be a challenging process to navigate given the fragmented nature of the over-the-counter market. Overcoming these challenges requires the ability to aggregate information, liquidity providers and execution protocols in a seamless and intuitive workflow.
In a recent interview with TraderTV, Tod Van Name, Global Head of FX Electronic Trading at Bloomberg, notes that asset managers typically rely on an order management system or an execution management system – or both – to effectively consolidate their exposures across multiple asset classes and accounts.
By combining these exposures, asset managers can reduce the notional value of orders placed, their transaction cost, and market impact. This approach can apply to exposures with different maturity dates by combining exposures into optimal packages of trades, which can ultimately match cash flows more effectively. To make this a reality, the entire FX trading process—from order generation to execution and settlement—must be flexible and dependable.
The risks of trading without a robust system
With these facts in mind, Van Name believes that asset managers need a robust mechanism to trade, including access to a full suite of instruments and liquidity providers and the means to manage risk.
“Being unable to hedge or hedge completely at fair value is certainly a risk,” says Van Name. “There are also operational risks associated with not having a robust mechanism to trade. That includes things like missing a trade, or over trading, or trading the wrong way.” He adds that there’s also the risk of booking trades incorrectly or failing to book them at all.
From Van Name’s vantage point, these risks appear when there’s too much focus on the process and not enough time on the results. Often, this stems from a need for better technology or systems to support the trading process. Ultimately, such risks can compromise the firm’s fiduciary duties and inflict unnecessary costs on the trading operation.
Finding the optimum approach
While many different approaches to trading exist, investing in a purpose-built solution can streamline the process and mitigate risks at every stage of the trading lifecycle. “It’s fair to say that no one size fits all. Some asset managers distinguish between low-touch trades, which are really small routine operational type trades, and high-value trades, which tend to be much larger and more sensitive to price volatility and information leakage,” says Van Name.
Nonetheless, asset managers need the flexibility to trade based on policy, procedure, and risk appetite. Simply put, they need the ability to choose how they execute trades, at scale. “They may want to trade via an RFQ, live streams, algo orders or chat based trading,” adds Van Name.
Paving the path to better execution and liquidity
While better execution depends on adequate liquidity, the arrival of quantitative solutions for the FX market can unlock a broad range of improvements.
Using such technology, asset managers can benchmark against a midpoint or an arrival price while also analyzing the performance of the liquidity providers, which includes assessing spreads, fill ratio, the cost associated with a reject, and the overall response time provided by dealers. Today’s solutions can also help analyze the impact of a large trade once initiated or completed. The insights such technology delivers can significantly affect transaction costs, which in turn informs an asset manager’s approach to optimizing liquidity and execution.
The critical step that firms must get right involves the selection of the right technology provider. A quantitative solution should satisfy internal requirements and incorporate a firm’s risk profile, processes, and procedures. However, the solution should also allow for streamlining of existing processes, the creation of efficiencies, and the means to mitigate risk and reduce transaction costs.
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