May 2003
Euromoney FX poll 2003: UBS finds the secret of success
Following last year's surprise jump up the rankings, UBS has now made it to the top of the market share table in Euromoney's annual forex poll. Katie Astbury reports; research by Andrew Newby, Paul Pedzinski and Dave Skallinder.
| Fabian Shey, global head of forex services, UBS: "We operate this business at a profit." |
The growing success of UBS in the foreign exchange market has fuelled the envy of competitors as well as attracting customers. "If I could spend just two days in any other firm to find out how they are running their foreign exchange business, it would be UBS," sighs the global head of forex at a rival firm. With UBS becoming the bank with the biggest market share in the 2003 Euromoney forex poll, who can blame him?
That global head is not alone. Senior bankers at all the top forex firms tell the same story. "I take my hat off to UBS - they've done a great job," says one.
| Martin Wiedmann, global head of forex distribution, UBS: "We have fewer staff, more productive staff, and fewer servers." |
There is a grudging sense that UBS deserves recognition for becoming only the second bank ever (after Deutsche Bank in 2000) to depose Citigroup, the winner of the Euromoney annual forex poll in every other year since its inception in 1979.
In 2001, when Citigroup won back the top spot from Deutsche, UBS Warburg ranked seventh with a market share of 3.55% compared with Citigroup's 9.74%. Last year, UBS's rise to second place with a market share of 10.96% to Citigroup's 11.17% was the talk of the forex market. This year, with 11.53% market share, UBS looks down on all the other banks, including Citigroup, which ranks second at 9.87%. What vexes the competitors is that they just don't know how UBS did it.
They know that the bank has spent a lot becoming a relatively new and formidable competitor for market share with all the main client groups. They know its technology is first rate (and expensive). They know, or at least suspect, that UBS is doing a better job of targeting non-market-making banks as a client group than any other firm. And they know that the people running forex at the bank are a clever bunch who wouldn't get into the business if it wasn't bringing in revenue. But try as they might they just cannot work out how the bank is making money out of this business.
Well, guess what? UBS says it is. "We operate this business at a profit," says Fabian Shey, managing director and global head of forex services at the firm. "We don't have a choice in that. We measure very closely the net contribution of every ticket over every channel."
Whichever way you look at the results of this year's forex poll, UBS's performance is impressive. It triumphs in the biggest forex poll that Euromoney has ever conducted. With 1,901 valid replies, the poll's base of respondents accounts for over $17 trillion in annual forex turnover. It is difficult to dispute results from such a large pool of data (though of course the other leading banks will try to do so).
Competitors are inclined to believe that UBS's success springs from just one client group, but the data just does not back that up. UBS is, according to our poll results, easily the biggest bank for real money institutional investors, again with a market share of over 11%. It is the second-biggest bank for hedge funds too, with a 12.48% market share, following narrowly behind Deutsche Bank, with its market share of 13.03%. And UBS puts in a highly respectable performance with corporates, where it is the fourth-biggest bank, with a 6.38% market share.
But where it really knocks the competition for six is with non-market-making banks, where its market share is 18.89% - over 10 percentage points above Citigroup in second position. Several other firms have identified regional banks as a new client base: Deutsche, JPMorgan, Citigroup and ABN Amro are just four of these. But somehow, through its bank-for-banks (B4B) project, UBS has been more successful at tapping into these clients, with a combination of good technology, strategic support from senior managers, and good old-fashioned aggressive marketing.
Winning partnerships
"The case for B4B is so compelling," says Shey. "If a [smaller] bank can't do a tremendous number of tickets itself, it is more lucrative to get the best terms for its shareholders and to focus on client relationships and distribution by entering a partnership such as this."
The partnerships themselves are straightforward. Relatively small banks that are unable to run a full-scale forex sales and trading operation, or those finding it expensive to maintain the teams necessary for that kind of business, simply distribute UBS's (or another service provider's) prices, on its behalf. Different banks call this different things - white labelling, outsourcing, or even insourcing - but they are basically the same sorts of relationships.
The result is that the regional bank gets to distribute better prices in a broader range of currency pairs through better technology with fewer staff. And UBS gets indirect access to the regional bank's clients, which are usually too small and with too low a credit rating to make it attractive for UBS to acquire them directly as its own clients through a regional presence. All of the prices that are distributed by the regional bank are fed through the same pricing and risk management engines as the rest of UBS's forex transactions. UBS needs fewer people to provide coverage to those banks over the phone. In short, everyone wins.
What is more difficult to understand is why UBS has done a better job with setting up these relationships than the competition. To an extent, even this business has become commoditized. Any leading forex bank that says it distinguishes its services in this area by offering pre-trade and post-trade services to smaller banks, as well as the run-of-the-mill pricing and execution, is deluding itself. Every leading forex bank that is serious about offering these services to smaller banks now does this. They all combine pricing and execution services with research, analytics, and post-trade straight-through processing. And they all can bring derivatives into their execution offering or are at least planning to do so.
The advantage for UBS is twofold. First, it is fortunate in not having the sort of branch network that would bring it into competition with regional banks. This means that those smaller banks are more inclined to link up with UBS than they might be with, say, Citigroup, which many of them view as a direct competitor in their local markets. Secondly, UBS simply worked out that this was a new and lucrative group of clients earlier than the competition did. "We were the first to identify banks as clients," says Martin Wiedmann, who jointly runs global forex distribution and services with Fabian Shey at UBS. "Some view them as market participants or even as competitors. We treat them like clients."
Once a small bank has entered a B4B-style partnership with a larger firm such as UBS, it is difficult for other large forex banks to access those clients. A small bank does not go through all the complication of the technology installation and, often, the pain of firing its entire forex trading team, only to continue to use many other firms' technology and services. So once a big firm is in, it's in well - it has secured a long-term relationship with that client that is unlikely to be broken easily.
Sneering or jealous competitors often try to downplay the importance of banks as clients, or say that somehow UBS's volumes with banks shouldn't count. But that's rather like saying that leading deals for financial institutions shouldn't count in the debt capital markets rankings. In fact, they're the biggest single group of issuers by far.
"Banks are intermediaries," says Shey. "But fund managers are not really end users of forex products either - their clients are. They too are intermediaries. You would be surprised at the range of banks - in terms of size and reach - that use this service."
As transaction volumes continue to consolidate among the top three, the top five and top 10 forex banks, the size of the banks that are likely to become amenable to these sorts of services is likely to increase. In other words, bigger international banks, not just the tiny 900 or so Italian banks, for example, may be forced to accept that they cannot compete, and use the liquidity provided by firms that they have traditionally been their arch-enemies.
That is a high psychological hurdle.
Opinion on the remaining depth of the client base is divided. Some say that the main group of desirable regional banks, especially in parts of Europe, has already been captured by the largest forex firms. Others believe that smaller banks will increasingly hook up with two or three large firms each, to avoid relying on just one firm's technology and credit rating. Either way, those banks that have identified banks as clients are likely to continue to compete furiously for market share, at least for the next year.
But it is not just B4B that has pushed UBS into the top slot in this highly competitive poll. Its technology, which is widely thought to have cost a fortune, has also proved to be a worthwhile investment. In common with all of the top five banks, it has used technology cleverly to boost efficiency and improve client service. But again, it has done a better job of pushing clients to transact electronically than its rivals have.
Excluding domestic Swiss business, 70% of its cash and 31.4% of UBS's options transactions are executed electronically. For some groups, the e-ratios, as they are called, are even higher. For banks, it is over 90%. So those large transaction volumes that come through B4B are costing UBS very little to process.
And it has done this without marginalizing its own staff. "We have clear targets," says Wiedmann. "Our staff are paid dollar incentives if they get clients online. That has turbo-charged our efforts. When we started a lot of people were sceptical, thinking: 'Am I going to be out of a job?' Now everyone is converted." Where some firms made the initial mistake of dividing their volume and performance targets for electronic and voice brokerage, UBS has, by luck or by design, always maintained one unified distribution model.
Good technology is certainly a determining factor in the success or otherwise that banks have in gaining market share efficiently. Those firms that have spent heavily in this area have tended to reap rewards, by outsourcing execution to other banks and by processing all their orders efficiently.
But banks' claims about the competitive advantage this affords them should be taken with a pinch of salt. Of all the 20 or so banks that Euromoney spoke to regarding this year's poll, at least 10 claimed to have "the best STP rates/internal processing tools on the street". And most of them preceded that rather empty statement with: "I know all the other banks will be telling you this, but..."
What that demonstrates is that it is quite clearly impossible to compare like with like and say that one bank's back office is better than another's. UBS is no exception. It certainly has very good back-office technology, but whether or not it is better than that available to other banks is hard to measure and impossible to prove.
Nonetheless, without having had the opportunity to go through the nuts and bolts of UBS's technology, competitors now generally assume that it is first-rate. Unusually, it has a single global infrastructure for booking trades. "We used to have operational set-ups in each of the time zones, with dozens of different systems," says Wiedmann. "In the late '90s we decided to build one global operational infrastructure, based in Zurich. Now we book 90% of our trades through there." The efficiencies that this brings are clear. "We have fewer staff, more productive staff, and fewer servers," he adds.
This makes it easier to measure the volumes and cost-income ratios of each client that UBS deals with. It does this in quite a sophisticated way. "The days of us high-fiving in the hallways after winning a transaction are behind us," says Shey. "We examine clients based on the overall business they do with us throughout the year."
With all its technical know-how, UBS is now also assuming an advisory-type role with clients. It is not alone in this - Morgan Stanley has undertaken a similar scheme. It involves setting up a team of technology boffins - or a client connectivity team as UBS calls it - to visit clients and advise them on the types of, say, order management systems that they should think about using. The bank team doesn't sell these products - it merely advises clients on what might work for their type of business.
A changing business
The community of bankers that are big in forex is very cohesive - "incestuous" even, as one global head of forex puts it. They all have a pretty good idea of what everyone else is up to. And they have almost all privately said that they are impressed with what UBS has done, in terms of volumes, client reach, and technology. After all, after the SBC/UBS merger it gave itself a daunting task. "Three years ago we looked at the forex landscape and we felt it would dramatically evolve," says Shey. It had a limited set of choices: become a niche player, become a top three bank, or get out of the business. So it started to prepare to be one of the biggest banks in the business. "We took steps to get our fixed costs under control and to reconcile our variable costs. We upgraded our risk management processes for cash. And we invested in pricing and routing technologies to form the backbone of our distribution model."
In the face of the global power of Citigroup, the increasing presence of Deutsche, the reliably strong presence of Goldman Sachs and CSFB and the huge potential of what was then the newly merged entity of JPMorgan Chase, not to mention the understated but global reach of firms such as HSBC, UBS's plans were hugely ambitious. At worst, they contained all the ingredients of an embarrassing and expensive disaster. "We don't have the physical presence of Citi so we knew we would have to offer superior service and greater breadth," says Shey. But the plans worked. "Too many people think forex is just about having a dealing room with traders, sales people, Bloomberg terminals, and Reuters terminals," he says. "But it's a business - that's what it is."
And that business is changing. It is rare to find common ground among a group of bankers as competitive as those specializing in foreign exchange. But the heads of forex at all the biggest firms agree on one thing: price is no longer an issue.
Margins in the main currency pairs have shrunk close to zero, and for any of those pairs at any one time there are dozens of banks offering almost identical prices. Service providers have been forced to adapt. Suddenly they are competing with each other for clients and volumes according to a different set of criteria.
"The mystery in forex is not in the price - not even for some structured products - because the transparency is too great," says Jim Turley, MD and global head of forex at Deutsche Bank. "The key in execution is in consistency, liquidity and advisory. If you are in the game, you have to play the whole time, so there's your consistency. You have to offer whatever liquidity the client wants - from $1 to $1 billion. And you have to make sure you are smart."
So there you have it. Those are the basic ingredients of a successful foreign exchange business. The final main component is efficiency. If any bank can churn out prices at the same rates, the bank that can process those trades the most efficiently will make the most money. Simple.
And Turley should know - his bank has ranked a close third for overall market share this year, and it has been one of the top five banks every year since 1997, having ranked first in 2000, second in 2001 and third last year. Having started as a young pretender to the top slots in the business, it is now widely acknowledged as a high-quality market leader. That doesn't mean it's gliding in the comfort zone. "Forex is a mature industry but it requires more innovation and more investment than a new business," says Turley. "Anyone who thinks they can trot along in this business with the same services, the same speed and the same invention rate is kidding themselves."
In fact, painfully little divides the biggest banks in the industry - particularly the top three. Combined, they control over 31% of global forex turnover. But they have different strengths.
| Richard Moore, MD, global forex manager, Citigroup: respect for the competition |
Even before the results of this year's poll were made public, rivals doubted that Citigroup would rank as the top bank for overall market share, simply because competition is more intense. "I think everyone built up the idea of Richard Moore like he was some sort of god," whispered one banker, referring to Citigroup's head of forex. That may be taking it a bit far. Euromoney certainly hasn't spotted any shrines to Moore while visiting the leading banks in the field. Dartboards, maybe, but no shrines. Nonetheless, as Citigroup has come out on top of this poll for almost all the 25 years it has been running, a certain awe surrounds its forex business.
In 2003, however, Citigroup has taken its knock into second place with good grace. "The market is highly competitive among the top tier," says Moore. "Overall we accept that we won't win every poll every year, especially with the highly competent competition." He adds: "Our market share is up as a matter of fact. All the other indications of our market share indicate that it has risen, not fallen."
It all depends on how each bank defines its market. For firms such as Citigroup and JPMorgan, it's the top 2,000 financial institutions and corporates. For CSFB, for example, it's the top 200.
In any case, each of the top firms knows where its strengths lie. With its relatively new bank outsourcing project, Citigroup may trail significantly behind UBS for non-market-making banks. But it is comfortably the biggest bank for corporates, with a market share just over 11% - almost double the volume that UBS handles. "This company has a fantastic suite of products and a long history of serving multinational corporations in all markets," says Moore. "We have a very strong product offering, and that combination is an advantage that we are keen to preserve."
Similarly, Deutsche Bank is the leading firm for hedge funds, although Citigroup and UBS are close behind.
JPMorgan's position at fourth for overall market share is a sign that the dislocation of its forex business caused by the merger with Chase is finally behind it. There is a clear gap between Deutsche in third place and JPMorgan in fourth, but it is in a good position. "We are poised for growth here," says David Puth, the bank's global head of forex. "We are very pleased with the last 10 months, and we are pleased that this poll reflects that. We are confident that the best days are ahead."
Prime brokerage gains focus
JPMorgan has reorganized its forex operation, combining its spot and derivatives better. And it has identified some new client bases. "Historically, particularly in Europe, we have punched below our weight with corporates," says Adam Burke, MD and head of forex Europe at the bank. "So we have put time, effort and investment into increasing our footprint with those clients."
Corporates are certainly still a crucial client base for all of the biggest banks. Morgan Stanley, for example, which ranks just 34th with corporates, says it wants to boost its business with those clients. But the bulk of the effort and money that banks have invested in the business over the past 12 months is generally for financial institutions. Hedge funds are high-maintenance clients that often require bespoke services such as prime brokerage, and that is making prime brokerage an area of focus for all the big forex firms. Technology is now catching up to make the business more efficient.
| Klaus Said, global head of money markets, CSFB: targeting the world's top 200 clients. |
Deutsche Bank, JPMorgan and AIG, for example, have recently established a new network known as Traiana to share information electronically on give-up trades. They hope this will eliminate the rather heavily manual processes that this business requires now. And multibank trading platform FXall is also planning to use its underlying network to facilitate this kind of information sharing. That project should launch towards the end of 2003. In both cases, clients will be unlikely to notice the difference as far as their interaction with the banks is concerned. But the banks will be more efficient in prime brokerage, and therefore more profitable.
Any bank that wants to make a dent in the prime brokerage and hedge fund business needs to be able to provide liquidity, quite apart from the back-office processes that these transactions require. As Klaus Said, global head of money markets at sixth-place CSFB, points out: "The leveraged community is directional. They need trades and liquidity, not structured products."
| Jim Turley, global head of FX, Deutsche Bank: "The mystery in forex is not in the price." |
Curiously enough, many banks are reluctant to talk about their own forex prop trading business, even though this appetite for risk is essential when providing liquidity for clients. "Making a half a billion dollar trade disappear - that's what we are known for," boasts one senior banker, before quickly insisting that his name should not be associated with that statement.
Other firms are more open about this side of the business. "We take risk to provide liquidity to our clients and we take it on for our own prop books," says Turley at Deutsche Bank. "We do both, but if I had to choose one I would choose the former." Similarly, Moore at Citigroup argues that it is an essential part of client service: "Clients expect us to act as a principal," he says. "If we are simply verbal broker-dealers, that is not a great business model."
Prop misconceptions
Goldman Sachs, nicknamed the biggest hedge fund on the Street, is perhaps the most open about its risk appetite. "The pendulum has swung," says Geoff Grant, MD and head of forex at the bank. "Five or 10 years ago, our prop business may have been seen as a liability. Now it is an asset. Our prop business is fully integrated into global forex, and it doesn't have to be behind a Chinese wall.
"We have proved to our clients that this structure brings benefits to them. They know that we will put our money where our mouth is. There is an underlying fear that if a bank has a big prop position it is going to jump in and spoil the client's trade. We confront that misconception head on. It never happens here. If a client has a big trade, the only way that the prop team will jump in is to take the other side and provide liquidity to the client. We stake our reputation on never jumping in front of a client. The client comes first. This is a competitive advantage to us."
Goldman Sachs is pleased with its fifth place in the 2003 poll, even though it has slipped a position and, according to these results, lost some market share. It competes with the biggest in the market in most areas, but the weakness in its armoury at the moment appears to be non-market-making banks, where it ranks way down at 17th.
Surely it could target that group better? After all, it already has the technology in place. "We have all woken up and seen what some banks have done in that area through electronic platforms for instance," says Grant. "We are intrigued by this, and certainly not dismissive. We have thought for a long time that a lot more banks would become clients rather than competitors, and we will focus more on that now. We are not conceding that client base."
Grant's colleague, Mike Burton, who runs institutional forex, agrees that this is not a client group that Goldman Sachs can approach without being fully prepared. "We haven't thrown ourselves at that client base only to pull out later," he says. "We are taking it one step at a time and building a technology-driven service designed to the needs of that client group. We want to make sure we get it right first time." And as the bank outsourcing model works well for those leading forex firms that have centralized sales and trading teams - rather than an extensive branch network - Goldman should be in a good position. It just has to move quickly.
As prices are so commoditized it is difficult enough for banks to distinguish themselves and gain or maintain clients. That pressure is being intensified by a growing determination among clients such as pension funds to really make banks work hard for their business. "The number of clients cutting down their counterparty list is amazing," says Paul Blain, MD and head of European forex sales at Morgan Stanley. An increasing number of fund management houses now employ staff who are dedicated to managing the relationships they have with counterparties. And they are, by all accounts, a fearsome bunch.
Blain says: "Every six months, they get someone senior from the counterparty bank in and present the results to them. That plays to the strengths we have. If a big institutional fund manager is thinking about a roster of counterparties, we can offer one-stop shopping, with equities and fixed income as well as forex. There is the fear factor for the peripheral banks that the barriers to entry to get new clients are getting higher. You have to produce good reasons to be added to the list."
Good advisory services certainly provide one good reason to be considered, and all the big firms are putting resources into that. Many of them say they are the only firm doing this, or at least one of the few, but in fact all the serious forex banks have some kind of offering in this area.
| John Nelson, global head of FX markets, ABN Amro: using advisory capabilities. |
ABN Amro, for example, which, in common with other forex banks is focusing on services other than just pricing, is proud of its advisory team. It says it is willing to hire people and add resources to any part of the business where it feels this will improve its services. John Nelson, global head of forex markets at the bank, says: "We have a forex analytics team which is geared especially towards asset managers and real money accounts. The whole purpose of this is to help optimize their currency exposures, and we do that very well." It is always difficult to link this kind of advisory work directly to revenues, but firms such as ABN Amro clearly think it helps.
State Street has one of the biggest research and analytics operations of any firm. Most banks have between four and 10 full-time forex research staff. State Street has 25 people in its research group and a further 10 people in the strategy team, led by Avanish Persaud. Considering that the bank only has around 100 sales and trading staff, this is a large number. Mark Snyder, global head of forex at the bank, argues that this is one of the reasons that State Street manages to rank 16th in this year's poll, despite having no corporate services at all. It is the highest ranked of any of the specialized firms. And around 65% of its forex turnover comes from clients that do not use its custody services.
| Mark Snyder - global head of FX, State Street: fighting off competition. |
Snyder says that State Street can indeed draw a link between its intellectual capital and its volumes. "This is not run-of-the-mill research - the work we do is very specialized and fact-based," he says. "We have 15% of the world's securities passing through our electronic vaults. That is a mammoth asset size. This base, plus our team of researchers that build our flow-based metrics of investor behaviour, gives us a big advantage."
That advantage is crucial, as other non-custody banks strive to take that business away. "Banks don't have to do anything to attract forex volumes from custody clients," complains one rival. "We convince asset managers not to use custodians for their forex business." But Snyder is not worried. "I have been in this business for over 20 years, and frankly that is an old story," he says. "It may be true for other custodians, but we can manage any transaction."
This kind of almost vicious competition is commonplace in forex. And even despite that, there is still enough depth to the market for dozens of banks to try to maintain full-scale forex operations.
Very few big firms are cutting headcount in forex. Every bank is looking for new opportunities. Several heads of forex can remember the days when they struggled to attract graduates to visit their stand at recruitment fairs - new and talented people were all flocking to equities and corporate finance. Now forex attracts some of the brightest people in banking. And it looks set to continue doing so. "The world is an uncertain place," says Moore at Citigroup. "How will the Middle East situation play out? How robust will the recovery be? And then there is the potential for euro enlargement. These are all major themes that will continue to make currencies an interesting business."
It certainly beats working in equities.
More information on foreign exchange
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