The headquarters of the Swiss Financial Market Supervisory Authority (Finma) in Bern, Switzerland. The Finma has directed UBS to use electronic platforms to perform at least 95% of its foreign exchange trades after finding that employees conspired to rig currency benchmarks.
Bloomberg
Switzerland’s decision to mandate automated trading of currency is an unprecedented push by a regulator to limit the scope for market manipulation and may accelerate a trend already reshaping the industry.
Switzerland’s Financial Market Supervisory Authority, or Finma, directed UBS to use electronic platforms to perform at least 95% of its foreign exchange trades after finding that employees conspired to rig currency benchmarks. The action will probably prompt some banks and regulators to do the same to avoid any appearance of being lax on financial crime, said Charles Geisst, a professor of finance at Manhattan College in Riverdale, New York.
“If they’re successful, if it can be executed well, the others will have to follow suit because UBS would simply say, ‘Well, come and do business with us because we don’t rig ’em anymore,’” Geisst said, adding he couldn’t recall another case where a regulator has imposed a minimum automated trading share.
Authorities and some FX clients have pressed banks to switch to computer-driven trading as a way to eliminate the potential for manipulation that prompted US, British and Swiss regulators to fine UBS and five other global banks a combined $4.3bn this week.
Algorithmic-driven trading already accounts for the majority of spot trades, the buying and selling of currency for immediate delivery, a trend that has cost a growing number of traders their jobs in recent years.
Mark Branson, Finma’s director, said that humans should conduct no more than 5% of currency trades to safeguard the market against misbehaviour.
“The human factor played a huge role,” Branson told journalists. “The limitation of the human factor in this business will limit the potential for manipulation in the future.”
Until now, the main incentive for pushing switching to electronic dealing has been cost and performance, not regulators. Computer-driven trading became more appealing after the 2008 financial crisis, when foreign-exchange trading sputtered and volumes collapsed. Electronic trading offers a cheaper and faster alternative to the voice brokers who traditionally worked the $5.3tn-a-day market.
“Banks do want to put in electronic automation regardless of what regulators want to do because it’s cheaper,” said George Kuznetsov, head of research and analytics at Coalition, a London-based financial analysis firm, who also said he knew of no precedent for the Swiss action.
Electronic dealing accounted for 66% of all currency transactions in 2013 versus 20% in 2001, according to Aite Group, a Boston-based consulting firm that reviewed Bank for International Settlements data.
It predicts about 81% of spot trading – the buying and selling of currency for immediate delivery – will be electronic by 2018.
More recently, automated trading in the spot foreign exchange market appears to have subsided, according to central bank FX activity cited by Aite.
“This retreat is likely not permanent, but it’s not what we would have expected given the increased noise about FX fix scandals,” said Javier Paz, a senior analyst at Aite.
He said customers appear to be relying on “trusted bank relationships” amid the benchmark-rigging scandal.The six banks that settled with regulators this week, which include HSBC Holdings, Royal Bank of Scotland, Citigroup and JPMorgan Chase & Co and Bank of America Corp, are all among the top 10 currency traders in the most recent ranking by Euromoney Institutional Investor.
Finma’s Branson said automation at UBS has increased “substantially” in recent years, especially since the currency investigation began a year ago. UBS said it is already implementing remediation measures ordered by regulators and noted that it already uses computer platforms for about 90% of its currency trades.
For Ann-Christina Lange, a professor at Copenhagen Business School, removing the human element from automated trading doesn’t necessarily limit market manipulation. She cited US cases of “spoofing,” a practice banned under the 2010 Dodd- Frank financial reform. It uses computer-based applications to create the false impression of market demand by rapidly placing orders and then cancelling them.
“It might be that the move towards more automatisation limits the kind of manipulation in this case,” she said. “But it might increase other types of market abuses that could not take place under human supervision.”
In the bond market, London-based Liquidity Finance is trying to gain market share by pitching to clients the opportunity to trade both over the phone or using its electronic-trading system. While debt has traditionally been brokered through conversations or in e-mails, an increasing proportion is moving to computer platforms as the biggest and smallest firms grow less willing to commit their own money to buying big blocks of debt from investors.
The move toward automation calls for a range of new requirements defining what proper business conduct means, she said.
Federal Reserve Bank of Chicago President Charles Evans has called on US regulators to reevaluate whether markets have sufficient risk controls in place to oversee high-frequency trading.
US regulators are unlikely to follow their Swiss counterparts because the prefer to proscribe particular activities rather than prescribe practices, according to Geisst.
Regardless, the shift toward the use of technology in trading and banking will continue to transform the model, said Claudio Scardovi, who oversees the financial services practice for Europe, Middle East and Africa at AlixPartners.
Making automation a requirement instead of an option, he said, “reinforces the need for banks to embark on the digitisation across all services or else they will struggle to keep up with new competition.”
