THE FUTURE OF FOREIGN EXCHANGE
K&K Global Consulting Ltd: Patrick Fleur interview
In 2002, a Dutch asset management company traded an FX transaction algorithmically for the first time. A senior trader at the time, Patrick Fleur has been a pioneer on the cutting edge of electronic execution in FX ever since.
At the time, he was working for APG Asset Management, a Netherlandsbased privately owned asset management company. Although the idea of electronic trading can be traced back to 1976, when the NYSE began sending orders to appear on brokers’ screens, it was not until the late 80s that the first fully electronic execution was taking place – and even then, it was primarily in equities and futures.
Now head of trading and execution at PGGM, Fleur believes algorithms are an under-used tool which savvy traders can use in FX to significantly improve their trading performance.
“If you’re an asset manager trading several billion every day, you should consider using algos,” he said. "The access to liquidity is far better than the traditional voice market. Everything above 50 million should by definition be traded by an algorithm.”
The background to Fleur’s electronic evangelism comes from the realisation that the traditional trading model, based on brokers providing liquidity to the buy side, no longer necessarily applies in the 21st century. As the sell side comes under increasing
regulatory pressure due to MiFID II, Basel III and the global regulatory agenda set out at Pittsburgh in 2009, the buy side has found it increasingly difficult to source liquidity from brokers.
“It’s no longer possible to rely on the broker,” he said. “The role of the broker started to change the minute venues like Lava came along. The biggest was EBS which enabled me as an asset manager to have the same liquidity as the traditional liquidity providers, the banks.”
While some asset managers have been cutting broker lists in recent years, others have been adding niche specialists, especially in emerging markets, as a way to ensure access to the coverage they need. Overall however, the number of brokers has decreased substantially in Asia, Europe and North America. A bifurcation is
taking place as asset management companies pare down their lists to the large global houses, plus the smaller niche players in markets such as Brazil that have the relationships necessary. However, Fleur points out that the cost of adding new banks can be significant – and given the increasing electronification of the market, in some cases it may not be cost-effective.
“Banks are only responsible for 30 - 35% of total turnover and liquidity,” he added. “So the way to respond is not by onboarding more banks. It absorbs enormous amounts of resources in the onboarding, and the additional liquidity is limited. Instead, it’s better to look at new ways of finding liquidity which means onboarding non-bank liquidity providers to create all-toall platforms where I can cross with similar entities to myself.”
However, the adoption of more advanced trading technologies in FX is a challenge, particularly since in many cases FX was traditionally traded as a side-effect of transactions in other asset classes. K&KGC research indicates that the majority of buy-side firms have not yet adopted FX trading algorithms.
Some firms do use electronic venues such as FXall and others. According to Fleur, it’s partly a question of mentality.
“There needs to be a change in behaviour before it becomes successful, as the buy side moves to become liquidity provider rather than pure liquidity taker,” he said. “This is why we are using algos because roughly 70% of what we do is nonaggressive, meaning we post liquidity to different cut-offs. It’s a change in attitude.”
There has been much talk in recent years of ever-increasing automation and the relative decline of high-touch services. Despite the focus on trading low-touch, PGGM does not believe that executing electronically is the best choice. In some circumstances, especially with lower sized orders, other options may be preferable. The essential argument comes down to the cost versus the benefit of transacting
“If I have to transact $5 million, there’s no need to have the algo execute because the time it takes to implement and the risk you run in the meantime is higher than the .00001 spread I have to cross,” said Fleur. “Best execution is a process, not a best price, measured over a longer term, to decide who you trade with. Best execution is about evidence.”
One of the major challenges for traders in all asset classes in Europe and worldwide is the need to adapt to new regulation, including but not limited to MiFID II, Basel III and EMIR as well as Dodd-Frank in the US and local initiatives in individual countries.
In Europe, much of the European Commission’s efforts in recent years have been focused on improving transparency. Yet despite this push, one of the most critical components of a transparent market – the creation of a consolidated tape – has not been achieved.
“I’ve been pushing to create a consolidated tape which helps you not only with TCA but to create transparency around where the market is”said Fleur. “It should be created by enforcing an obligation for every market participant to give up their transactions which already happens of course in the forward space under EMIR. But the bigger liquidity providers are holding back because they don’t want to disclose information.”
Regulation is often seen as a cost or a burden which market participants have to endure. In some contexts, principles such as greater transparency are praised, while in others, draconian requirements and poorly thought out plans within MIFID II have been criticised.
“People are afraid of change because it’s new and unknown,” he added.“I try to look at the upside of what new regulation can bring, rather than look at what it costs me to do so. To me, best execution or MiFID II should be part of a logical framework, for example not only the transparency and implementation of transaction reporting, but what is the intention of transaction reporting? Transparency. So, you build a scalable model which can be reusable in the future when the next new regulatory framework comes around.”