FXCM CEO reveals next steps post-SNB disaster

Sid Verma, Solomon Teague
Published on:

After the events of Black Thursday, the CEO of crest-fallen FXCM, the FX broker, discusses the shake-up in its business model, the future for retail flows, and lashes out at the institutional FX market structure.

Drew Niv-600

On January 15, the Swiss National Bank (SNB) abandoned its minimum exchange-rate policy with the euro, triggering the most volatile day of trading in the FX markets for decades.

While a number of FX brokers suffered terrible losses alongside their clients, among the most high-profile casualties was retail broker FXCM, which was forced to take out a $300 million loan from Leucadia National Corporation to ensure compliance with capital rules.

Euromoney speaks with Drew Niv, CEO of FXCM, to discover what went wrong, how the firm hopes to navigate the next crisis and broader lessons for the FX market.

Post-SNB policy shift, there are many concerns surrounding FX retail brokers, including pure agency models, with some arguing brokers in effect bet against their customers’ positions – other than indulging in legitimate hedging – and their income is effectively derived from client losses, combined with commissions on trades. Could you respond to this claim?

It is true that many retail FX brokers do benefit from customer losses as a business model. This is why FXCM launched its agency business model in 2007 to shift the paradigm in the industry. In FXCM’s no-dealing-desk execution system, trades are matched one for one with a liquidity provider.

For example, when a client enters a EUR/CHF trade with FXCM, FXCM has an identical trade with one of our liquidity providers. When a client profits in the trade, FXCM gives the profits to the customer. However, when the client is not profitable on that trade, FXCM ends up having to pay an equivalent amount of the loss to the liquidity provider.

In the case of the SNB event, while clients could not cover their margin call with FXCM, we still had to cover the same margin call with our liquidity providers. The failure of the banks to provide pricing during the event ultimately resulted in some clients having negative balances with FXCM.

Could you explain if and how you manage client positioning and balance books internally, either through crossing and internationalization?

We do not cross or internalize retail FX orders. Each and every trade is passed on to the best price shown by a third-party liquidity provider. FXCM makes its money from a commission or mark-up that is fixed and attached to the trade. We make the same amount of money whether the customer wins or loses.

How much turnover is required to make up the cost of capital?

We do not look at our business as balance-sheet intensive, like a bank, and we do not measure it that way. FXCM is a high fixed-cost business and so our ebitda margins have varied between 25% and 50% in the past few years, depending on FX trading volatility. The higher the volatility, the higher our margins.

Many levered retail investors placed bets, assuming the downside would be 100% backstopped by FXCM. Some market players suggest that aggressive marketing language adopted by retail FX brokers nurtured this impression. In your view, how did this assumption in the marketplace develop?

We believe FXCM’s system operated properly during the January 15 event. FXCM has sophisticated online trading technology that incorporates extraordinarily robust risk-management systems of our client’s positions which prevented highly levered investors from losing more money than they had in their account.

The software would mark to market the customer’s account on a real-time basis and if at any time the margin requirement was breached, the system would automatically liquidate the client’s positions. I cannot presently recall a specific instance of FXCM enforcing its right to collect negative balances on the rare cases where we had negative balances.

However, I also cannot recall an FX market event as extraordinary as what occurred on January 15.

If the SNB can abruptly abandon its long-standing policy  that
it had just reaffirmed to the world, spitting in the face of what
a western country is supposed to embody, then what about
the other currencies that carry significant risk…?
Drew Niv

Every FXCM client agrees when they open a trading account to be liable for negative balances in certain situations, particularly negative balances resulting from extraordinary market events. The client agreements clearly and expressly provide FXCM with such right and put clients on notice of such potential liability. Accordingly, given the extraordinary market events on January 15, FXCM believes it has the right to pursue debit balances of certain clients.

During this historic move, liquidity from banks became extremely scarce and shallow, which affected execution prices. Liquidating these trades in normal conditions would generally be quick, but instead took much longer because banks were not making markets. This was a flash crash. The move by the SNB affected the entire FX industry globally – both retail and institutional markets – and more than $10 billion was lost by financial institutions.

Unlike previous major market moving events where liquidity was not frozen, during the SNB event the global FX market ceased to function properly. The market saw pricing go from 1.20 to well below 0.8.