A long-awaited code of conduct for good practice in the global foreign exchange market is being unveiled on Thursday, and senior central bankers expect market participants to voluntarily enforce its provisions within less than a year.
Guy Debelle, RBA
“There will be a period of time for market participants to adjust their practices where necessary to be in line with the principles in the code,” says Guy Debelle, deputy governor of the Reserve Bank of Australia (RBA). “This period of time might potentially be as short as six months, but no more than 12 months for the vast majority of market participants.”
The drafting of the code began in 2015 when the Bank for International Settlements convened its FX Working Group (FXWG) of central bankers, chaired by Debelle, mandating it to establish a single set of principles that could be applied to the global FX market, replacing the many regional codes that had previously failed to prevent systemic market manipulation.
The benchmark-rigging scandal revealed in 2013 not only led to the firing of many senior traders and the paying of multi-billion dollar fines, but it also reduced trust and confidence in the FX market, with widespread criticism that banks had failed to enforce good conduct on their trading floors.
The FX Global Code attempts to put that right. Its 55 principles are broadly split into six categories: ethics; governance; execution; information sharing; risk management and compliance; and confirmation and settlement.
The sections on execution and information sharing are arguably the most relevant to recent experience, as they attempt to put clearer guidance in place on how confidential information and client orders should be handled.
Certain execution-related practices have attracted particular attention and discussion during the drafting process. Pre-hedging, for example, is defined by the code as the management of the risk associated with one or more anticipated client orders, and the code rules that participants can only pre-hedge when acting as principal and must do so fairly and transparently.
On last look, whereby participants are given a final opportunity to accept or reject a trade request against its quoted price, appropriate disclosures to clients are now required to ensure the client fully understands how price movements may affect the counterparty’s decision to accept or reject the trade. Meanwhile the code also requires that the mark-up applied to transaction prices must be “fair and reasonable”, and that clients must be made aware of the inclusion of mark-up and how it is determined.
Some practitioners had lobbied for the code to take a more stringent line on these practices, and further feedback is still being sought on last look, but in general the architects of the Code sought to introduce strong principles rather than outlawing or fundamentally redesigning accepted industry practices.
Lee Sanders, head of FX execution at Axa Investment Managers says: “We would welcome a more ambitious stance on last look and mark-up, which would give buy-side firms a stronger voice in determining whether a trade is subject to last look and understanding how it is priced. There is still work to be done to improve transparency and fairness in these areas.”
Now that the code has been published, the challenge of implementation begins. The framework is deliberately principles-based rather than rules-based and, as such, it carries no statutory power, so adherence is entirely voluntary. Debelle believes rules would have been easier to arbitrage and would not encourage participants to think about their practices in the same way a voluntary code should.
Up to date
But the FXWG recognises the need to promote and incentivise adherence, and today it publishes a blueprint for achieving adoption. Market participants will be expected to embed the code in their day-to-day practices and culture, and to sign a simple statement of commitment. A newly constituted Global Foreign Exchange Committee (GFXC) will be tasked with promoting and monitoring adherence.
“It is vital that the code remains up-to-date and evolves as the market evolves,” says Debelle. “The GFXC will regularly assess whether new information or market developments warrant updates or additions being made to the code.”
While the code came about in response to the uncovering of collusion and malpractice on the sell side, its provisions apply to all market participants, including asset managers, corporates, hedge funds and pension funds. In taking greater control over their FX trading and management of their counterparties, buy-side firms will have a key role to play in the code’s success.
“The code will only succeed if both buy-side and sell-side participants now play their part,” says Neill Penney, managing director, trading at Thomson Reuters. “Some buy-side firms may question why they should need to pay any attention to the code, but a healthy industry depends on an educated consumer base to hold providers to the highest possible standards.”
Axa’s Sanders adds: “Having global standards on how clients are treated is a very useful development for the FX market, but I just hope it delivers what is necessary for the buy side to be more secure and confident when transacting FX.”