Equity-style technology is looking to make inroads in foreign exchange. In recent months, the number of new FX platforms has exploded, and traders are gaining access to faster and more transparent transactions. But can the market sustain all of the new venues available?
FastMatch and TraFXPure are two of the more prominent electronic communication networks to launch in recent months. Others include JFX.com, Molten Markets, LiquidityFX and FXSpotStream. In addition, successful platforms for FX are attracting potential buyers.
The shift in FX might be exemplified by a pending combination of two familiar FX trading providers: Thomson Reuters recently announced it plans to acquire FXall for $625 million. FXall has both a multi-dealer platform and an ECN.
Howard Tai, a senior analyst with Aite Group, said retail volume for FX has grown over the last 10 years, but the increase has become even more pronounced during the last three to five years. Also, institutional buysiders are turning to FX as an asset class to generate alpha, given that the stock market has been floundering.
With the growth of the FX market, ECNs are trying to replicate exchange-like liquidity, but with so many of them around now, the market is fragmented, Tai observed.
“There’s no such thing as one FX ECN talking to another FX ECN,” Tai said. “They’re all fighting each other very hard for market share.”
Though FX trading has traditionally been a voice-driven market, electronic trading is nothing new to foreign exchange. The electronic side has increased, though, especially in the wake of lawsuits by buyside firms alleging brokers gave them poor execution. That is creating not just competition, but also innovation, said Rebecca Healey, a senior analyst at Tabb Group.
“I think this is going to lead to huge leaps and bounds,” Healey said. “In the past, it might have seemed more like a halfhearted attempt within the FX space. But the tools and technologies are becoming much more advanced now.”
For instance, the notoriously opaque FX industry is now offering traders the ability to measure execution performance. The buyside is wising up, Healey said, and letting the world know they will not be taking their FX executions lying down.
It was a desire for fairness that led interdealer broker Tradition to launch TraFXPure in partnership with a number of major banks, including Barclays, BNP Paribas, Deutsche Bank, Royal Bank of Canada and UBS.
Dan Marcus, managing director for strategy and business development at Tradition, said the vision behind the ECN was to take away technological advantages and make all traders compete on a level playing field.
“If you have an environment that is designed to create complete fairness and you avoid any gaming, then you have firm liquidity on the platform,” Marcus said. “And if you have firm liquidity on the platform, that benefits people who need to trade.”
TraFXPure provides data at cost or free of charge, and it provides it to everyone so all parties have exactly equivalent data, rather than certain players being able to pay top dollar for faster data feeds. Another thing the ECN does is provide complete post-trade name disclosure, so malevolent traders can’t hide behind third parties.
However, TraFXPure isn’t out to exclude any type of trader, so long as everyone is playing by the same rules. Marcus said many people in the FX world have become worried about the proliferation of high-frequency traders, but many HFTs are just as concerned over poor behavior in the marketplace as anyone else.
“There is nothing wrong, per se, with high-frequency trading, and we welcome high-frequency traders to our platform,” Marcus said. “What we are going to control against is bad behavior on that platform.”
July 1 marked the launch of another ECN, FastMatch, which uses technology originally developed for Credit Suisse’s Crossfinder matching engine. Chief executive Dmitri Galinov said the system is 10 to 20 times faster than any other ECN available for FX. Galinov was head of Crossfinder before leaving Credit Suisse for his new position.
“We did certain changes to improve the speed,” Galinov said. “FastMatch is even faster than Crossfinder now.”
The firm had to make other changes as well to turn an equity platform into a venue for FX. For one, an ECN for foreign exchange has to run 24 hours a day, because unlike equities, currencies are not tied to exchanges operating during the limited hours of 9:30 a.m. to 4:00 p.m.
Foreign exchange also doesn’t have to deal with Reg NMS, so in some ways setting up a venue for FX can be easier than setting up an equities platform, Galinov said. On the other hand, equities trading is already transparent, whereas FastMatch had to have systems built in for transparency.
In addition to FastMatch, other ECNs also offer transparency, with additional ones likely to do so soon. Galinov said it’s inevitable that more FX platforms will offer transparency in the future, since institutional clients are demanding it.
As with equities, traders of FX often want to interact with certain types of liquidity, so FastMatch offers different sub-venues within its main platform. It refers to these as virtual rooms. The most popular room is a general pool in which all clients can interact, but FastMatch also offers a retail room in which anyone can provide liquidity but only retail clients can take it.
Another room, aimed at second- and third-level banks, as well as a lot of institutions in Eastern Europe and the Middle East, is designed for human traders, not machines. Like the cantina at Mos Eisley spaceport in Star Wars, no droids are allowed.
A fourth virtual room is set up for interbank transactions. Though it is currently the least used of the four, that’s because most banks are not yet set up to use FastMatch, Galinov said. By the end of the year, however, he expects all the major banks will be connected to the ECN.
Right now, the volume traded on FastMatch is de minimis, but Galinov expects the venue will be doing a couple billion dollars in notional trading each day by the end of the year.
Tradition’s Marcus said he was not overly concerned with the proliferation of ECNs for FX, as many platforms offer drastically different models and provide a true diversity of choices to customers. He also pointed out that consolidation is starting to happen already, with Thomson Reuters buying FXall.
To Galinov, the proliferation of ECNs for FX, as well as their consolidation, simply mirrors what has already happened in equities.
“We had Island and we had Arca, and then they were bought up by Nasdaq and the New York Stock Exchange,” Galinov said. And so it is now with FX. “There were existing venues that had older technology and no transparency,” he said. “As a result, there are all of these alternatives popping up. And then, as they start to succeed, like FXall, they’re buying out those successful alternatives.”
