Efficiency in FX is a must-have as volatility stirs and rule changes flow

Key Takeaways

• Regulatory developments help drive the adoption of automation
• Post-crisis reforms mean a global view of transactions needed
• Cloud and unified APIs foster seamless workflows in complex markets

The move by the US, Canada, and Mexico to a shorter settlement cycle (T+1) in May and the volatility of the Yen in recent months underline the importance of using cutting-edge technology to achieve efficient workflows and manage risk in FX.

A stream of post-crisis capital market regulations, such as MiFID II, Dodd-Frank, and CFTC/EMIR Refit, is also adding to compliance workloads. Both sets of developments are impacting workflows across the trade lifecycle and bring the disconnected nature of FX technology into the spotlight.

While financial institutions and corporations are increasingly aware of the benefits of automated end-to-end trading (from cost efficiency to fewer settlement failures, and lower operational and compliance risks), progress toward modernization in the FX ecosystem is unequal.

A 2022 survey of FX market professionals found that trade execution was viewed as the most automated part of the FX workflow, while regulatory reporting was an area that most respondents (51%) found to need the most automation. Overall, 58% said they were spending more time working to automate processes and workflows.

Those who operate with legacy systems and disjointed workflows are at a disadvantage. The reliance on spreadsheets in the “London Whale” incident in 2012 or a more recent Excel error by a team member of the Norwegian Sovereign Wealth fund that cost the state USD 92 million serve as cautionary tales. How can the laggards do better?

Get an OMS

It’s critical to leverage the available technologies to automate and simplify trading, risk management, and operations through one scalable platform.

Order management systems (OMS), for example, offer robust features, streamline workflows, and enable efficient trade execution and processing. Data is the lifeblood of financial systems, but manually shifting vast amounts through a multitude of platforms increases costs and risks through inaccuracies.

When the market turns quickly and violently, as the Yen’s movements have shown this year, agility is required. Time is money, and disjointed internal processes are slower. An integrated, automated process offers stakeholders with a real-time vision and alignment of market risk and compliance. By providing secure communication channels, an OMS facilitates a seamless end-to-end trading process, improving efficiency and reducing costly errors.

Benefit from APIs and AI

Additionally, APIs (application program interfaces) provide an array of benefits. These tools can provide traders with timely data, empowering them to improve decision-making in fast-paced and volatile markets. As a window into historical data, they can also improve in-depth analysis. APIs also facilitate live communication between different applications and enable traders to access millisecond-level updates on exchange rates. Additionally, they allow a high degree of customization through configurability and integration at each level of a technology stack and are designed to be scalable.

Using Unified API solutions is another way to contribute to lifecycle automation by building integrated technology stacks. These stacks use a simplified, standardized, and consolidated interface to access functionalities within a software system. Moreover, when the technologies are located on cloud infrastructure and dovetail with artificial intelligence (AI) tools, FX market participants reap the benefits through efficiency and competitiveness.

AI is still in its infancy, but its advantages in FX are becoming clearer with each passing day. It can predict market movements, indicate arbitrage opportunities, and analyze large data volumes to identify patterns that humans might miss, tailoring solutions to clients’ trading behavior and risk profiles.

In a complex and decentralized FX industry, where regulatory reforms (from stricter reporting criteria to faster transactions) and more competition are increasing the pressure on FX participants, an immediate and holistic view of transactions is needed.

T+1 repercussions

Since cross-border equity trades frequently involve foreign currency, T+1 adoption in the US makes the adoption of more efficient FX workflows a necessity.

Under T+1, transaction funding might not occur in time as it depends on FX settlement processes involving trade matching, confirmation, and payment, all of which must be completed within currency cut-off times. Foreign investors have less time to source US dollars to fund their US securities.

While it is too soon to predict with any certainty the longer-term liquidity impact of the move to T+1, solutions are being developed to facilitate the process for non-US participants. Bloomberg, for example, recently launched the Bloomberg FX Fixings (BFIX) value tomorrow outright rates, a benchmark on a value T+1 basis available to the market.

Market participants must get ahead of the curve and prepare because more upheaval is coming as Europe also heads towards T+1. The path there is expected to be more complex and costly because of the fragmented nature of systems and the lack of a unified capital market in the EU.

Payments and technology

Payments underlie everything in FX, and this, too, is changing. From the US and Europe to India, real-time gross settlement (RTGS) frameworks are advancing, powered by the latest technologies to make things faster, cheaper, and more secure. RTGS is expected to expand into new areas, including cross-border payments, and leverage blockchain-based smart contracts to automate the settlement of complex transactions.

Moreover, messaging standards adopted across different asset classes, such as FIX, could drive standardization and automation, as could the adoption of ISO 20022. The latter is an international standard for exchanging electronic messages between financial institutions designed to replace legacy messaging standards and capture more valuable data payment information.

It is one of the most significant changes in the sector since online transactions became the norm. Swift, the heart of global payments, has delayed ISO 20022 deadlines several times since 2020, as firms scramble to meet the 2025 deadline.

Driving change

In other areas, the costs of upholding bilateral agreements with counterparties and the obligation to post variation margin for some FX instruments are pushing more firms towards clearing, leading to the development of more standardized procedures.

The need to conform to regulations following the financial crisis has driven more investment into automating and integrating workflows. The benefits are tangible. Continued volatility and the thrust towards instantaneous trade settlements, combined with new technologies such as AI and blockchain, require and feed into automation. FX professionals have little choice but to embrace the phenomenon fully.