FX Industry at Regulatory Crossroads
by James Kemp, Managing Director,
Global FX Division at the Association for Financial Markets in Europe (AFME)
The Foreign Exchange (FX) event hosted in Brussels on 12 January 2011 by the Association for Financial Markets in Europe (AFME), in conjunction with HSBC, arrived at a critical time for an industry under the regulatory spotlight in Europe and the US. With the Dodd Frank Act stirring debate on the exemption for FX forwards and swaps and the European Commission to follow the US lead under two separate legislative umbrellas, EMIR and MiFID, time is running out to make the case for FX exclusion from mandatory clearing. And, as delegates at the AFME event learned, the unintended consequences of the proposed legislation could have a serious economic impact on both corporates and pension funds.
A model of evolved efficiency
The first panel session, moderated by HSBC’s Joe Norena, chronicled the evolution of the FX market, with the introduction of electronic trading partly responsible for the increase in trades from $500bn per day to today’s estimated $4tr. In the context of this dramatic market rise, the European Central Bank (ECB) is regularly examining how the market is handling growth and how the trades are executed, according to Holger Neuhaus, D-G of the ECB’s Market Operations.
Looking ahead, as the banks continue to make markets, they need to continue to invest in risk management, observed Richard Anthony, FX eRisk at HSBC, as well as to find new ways to differentiate themselves. The ‘corporate’ perspective, provided by Christian Held, Head of Corporate Treasury at Bayer, highlighted serious repercussions that could arise from a ‘one size fits all’ regulatory approach.
Moving trade in foreign exchange swaps onto regulated exchanges would result in serious unintended consequences. “For us as a corporate, the whole debate on regulation will always have a bad impact because we produce in Euroland and we export our goods to the rest of the world, so we need hedging.” Whilst Held understands the need to make the market more efficient and transparent, he stressed that corporates require “a tailored rather than standardised approach”. Held concluded that, if the regulatory threat materialises, it could force corporates to “move production away from Euroland and into countries where we are selling”.
Managing settlement risk
The second session featured a comprehensive examination of CLS, given by its President and CEO, Alan Bozian. Owned by the major FX banks, CLS settles 70% of the market and has a unique oversight arrangement with 22 central banks. The key market benefit of CLS, however, is that it eliminates settlement risk, which, according to an AFME/Oliver Wyman study in October 2010, accounts for 94% of maximum loss exposure on FX trades for products with a maturity of six months and 89% for two-year maturities. FX market credit risk is short-term (fewer than 75% of CLS trades settle in four months or less and liquidity requirements are reduced by 98%).