TCA services in FX grows rapidly; FX revenues at custodian banks to suffer
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Foreign Exchange

TCA services in FX grows rapidly; FX revenues at custodian banks to suffer

The number of service providers for transaction cost analysis (TCA) in the FX markets is growing by the day, as more investors respond to the increasing requirement for price transparency in the processing of their FX transactions.

James Noser, at Abel Noser, speaking to TabbForum, says the visibility of the lawsuits against the main custodian banks has led to demand in the investor community for “industrial strength” FX TCA tools. He believes whatever the outcome of the lawsuits, the sector is likely to see sizeable change over the coming years, as more buy-side investors scrutinize a previously opaque sector of their operations and start to negotiate lower rates for their FX trades.

In addition, he says, buy-side firms will require that their investment advisors offer expertise that will help lower their FX trading costs.

“Custodians will earn fewer profits from their FX operation and investment advisors will see increased complexity in theirs,” says Noser.

TradingScreen, the trading technology company, has become the latest company to launch a TCA tool, as the competition to meet buy-side demand for better transparency in FX increases.

TradingScreen has launched a real-time TCA tool for multiple-asset classes, including FX, which provides graphical monitoring of executions for large orders.

The product includes a heatmap representation of TCA-related data, which the company says will help control costs across markets with fragmented liquidity as well as providing a warning system for adverse market moves.

“Real-time TCA helps traders identify trading venues and strategies for efficient execution at the lowest possible cost,” says Jon Fatica, head of analytics at TradingScreen.

“Also, as more and more traditional and alternative asset managers start trading across asset classes and geographies, this will provide an early warning system for rapid, adverse market movements.”

Demand for TCA has increased in recent years after a series of lawsuits, especially in the US, were taken out against custodian banks State Street and Bank of New York Mellon by state pension funds for alleged fraud in the handling of currency trades.

In recent months, a slew of firms has introduced TCA tools to meet that demand, threatening to put pressure on the margins at leading custodian banks.

Global asset consultancy Mercer has launched a service to allow institutional investors to monitor the costs involved in FX transactions, while ITG, the agency broker, and New York-based Abel Noser Solutions both released TCA tools in April. FXall, the leading multi-dealer FX platform, launched its Execution Quality Analysis tool in the third quarter of last year.

Other firms such as FX Transparency LLC, Global Trading Analytics and Russell Investments have established themselves as leading providers of such services in recent years.

“Providers that can adapt to the changing environment will distinguish their services from those offered by less nimble competitors,” says Noser.

That appears to be hitting the bottom line of large custodian banks, such as State Street and Bank of New York, says Brad Hintz of Sanford Bernstein Research. Though they do not disclose FX profitability, the combined FX revenue at the two banks in 2011 was down 4% from 2009, and then dropped another 13% in the first quarter. Hintz calls it a “worrisome trend”.

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