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Foreign Exchange

FX aggregation nears full adoption; glitches still exist, survey shows

Some 94% of buy-side and sell-side firms now use liquidity aggregation in their FX trading systems, compared with 65% last year, according to a survey conducted by StreamBase Systems, a Lexington, Massachusetts-based technology firm that builds systems for real-time data streaming.

Although the survey concluded that most respondents were satisfied with their aggregation, more than one-third said they planned to improve their liquidity aggregation capabilities soon. The survey was based on 135 responses from mainly US-based FX participants, with 55% classifying themselves as buy-side firms and 36% as on the sell side.

“Even though everybody now says they understand that you can aggregate the market, there’s still a big emphasis on how markets are aggregated, not just that they are,” StreamBase’s chief executive, Mark Palmer, tells EuromoneyFXNews.

Market participants typically use the Financial Information Exchange (FIX) protocol as the common messaging language to stream price data. However, the semantics around such a protocol can be very challenging for users, according to the survey findings. For instance, pricing methods, connectivity points, and transmission of data might vary between institutions. Furthermore, the more components that are added, the more complicated aggregation becomes.

Aggregation in the FX markets has grown rapidly in the past five years in line with the growth of high-frequency trading, mirroring the earlier adoption of electronic trading in the equity markets. It is now regarded as a must-have technology because it enables both high-frequency trading firms and banks to implement trading algorithms and, in the case of banks, to send prices out to customers based on certain metrics, such as best buying behaviour.

However, as a result of aggregation being adopted by a wide spectrum of users, it is no longer a competitive differentiator for banks and high-frequency firms, and so market participants are now seeking to improve the performance of their aggregation systems.

“There’s now an increased emphasis on making aggregation smarter and faster. Performance still ranks high in terms of what people want,” says Palmer. “But now clients want to price more intelligently and know how to rapidly implement trading algorithms.”

The evolution of intelligent pricing in FX is likely to mirror that of the equities market, where the focus on high-speed performance never stops, Palmer adds. Nonetheless, the performance of FX price dissemination might continue to lag behind the equity markets, because liquidity in equities is funnelled through a few exchanges while FX liquidity is more fragmented between single-dealer portals and multi-dealer exchanges.

“In equities, we are now routinely talking about micro seconds, it’s very uncommon for people in the FX space to worry about micro seconds – milli-seconds are fine,” says Palmer. “I do think there is a question of whether FX will ever get to that level of ultra-low-latency trading.”

Indeed, this year’s findings – it is the third year StreamBase has conducted the FX survey – show that the complexity of integrating and normalizing various FX data formats has replaced low-latency data sources as the main concern for effective algorithmic trading among FX participants. Thirty-six percent of respondents “scramble” with the integration, whereas 22% considered accessing low-latency sources as the biggest data challenge, the survey shows.


 Biggest Data Challenge for Algo Trading in FX

 
Source: Streambase

In relation to algorithmic trading, the survey findings showed a 3% drop in the use of algorithms in FX execution, with 43% of respondents using them for FX trading and, within that sample, almost two-thirds developed them in house, rather than using external developers, or banks.


 Primary FX Algo Functionality

 Source: Streambase

On a more macro level, the survey asked respondents for their opinions on regulation. Regardless of the fact that high-frequency firms and non-reporting banks are the biggest drivers of the growth of FX markets, 52% of the sell-side firms (predominantly banks) still believe regulatory requirements will have the biggest impact on their FX business, rather than the increasing threat from competitors. Meanwhile, of the buy-side firms, 43% expected increased regulatory scrutiny, and more than a third expected an increased call for market transparency as a result of lawsuits about FX transaction costs.

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