Data released by Greenwich Associates last year referred to a very slight decline in the percentage of the largest corporates (those trading in excess of $50 billion annually) using algos, while their use among smaller corporates rose significantly, albeit from a much lower base.
Almost a year on, though, the firm’s markets principal, David Stryker, says there has been an increase of one third in the proportion of the largest/most active corporates using algos – despite there being no further significant increase in their use among organizations trading less than $50 billion a year.
A Greenwich Associates study of buy-side FX traders reported that 60% of traders had materially reduced the cost of FX trading by using algos, so it is unsurprising that more corporates are looking to execute more FX spot volume algorithmically according to Curtis Pfeiffer, chief business officer at Pragma.
“Our sell-side clients tell us that corporate treasurers are becoming increasingly aware of the challenges around execution and the need to secure the best prices possible for trades,” he continues. “Algorithmic trading is an effective way to improve execution quality and lends itself well to transaction cost analysis [TCA], since the execution trail is easily captured.”
In terms of selection criteria, BestX CEO Pete Eggleston, refers to the growing importance of net spread cost performance (including the fee), together with measures of market impact/footprint, while Stryker reckons corporates are focused on the quality of the liquidity the algo provides access to, as well as the proven execution quality or ability to demonstrate that the algo does what it says it is supposed to do.
David Stryker, Greenwich
Corporate treasurers’ focus in the FX market is facilitating the running of the business and managing currency exposure risks. As a result, they are looking for algorithmic strategies that perform a specific task without any surprises, adds Pfeiffer.
“If the corporate has a large order without immediate urgency to complete the order, it will look for an algo that posts — to try and capture spread — and monitors liquidity across multiple venues simultaneously in order to know where liquidity can be found while reducing market impact,” he explains. Strategies such as time-weighted average price (TWAP) and volume-weighted average price (VWAP) are often used to achieve these aims.
As supply chains become more global, many treasurers also need ways to access less liquid currency markets. In these situations, algorithms that triangulate (where a client can trade an illiquid currency pair via a third, more liquid currency like USD or EUR) can be very useful.
When Euromoney wrote about corporate use of algos in January 2017 there was talk of how corporates were increasingly viewing algos as a mechanism for working risk into the market – a trend Stryker says has strengthened among the largest corporates.
Curtis Pfeiffer, Pragma
There are indications that it has become increasingly difficult to trade large trade sizes in FX due to reduced market maker inventories and fragmentation of the electronic market place, adds Eggleston. “Algos can help to discharge larger tickets into the market quietly and efficiently and given that corporates can sometimes have large sizes to trade due to corporate actions, for example, algos are a useful addition to their execution toolbox,” he says.
The increasing sophistication of corporate FX trading is also reflected in the recent decision of Shell to become the first corporate to sign up to the FX Global Code of Conduct, although Stryker reckons corporates continue to lag other types of institutions (for example, hedge funds) in using TCA to track their execution performance.
“About one in 10 corporates uses TCA for FX, which is around half the figure for all institutions,” he says. “However, just as we see in algo usage, the biggest corporates are more active users – their use of TCA is in line with the overall figure for institutional usage.”
Asset owners such as corporates are being strongly encouraged to take more direct responsibility for ensuring their execution is of a high quality. As a result, the sell-side is seeing its corporate clients look increasingly to additional services such as TCA reporting, says Pfeiffer.
“The degree of understanding by corporate treasurers of TCA reports and how to employ them seems to vary widely,” he concludes. “However, with the global code highlighting execution as one of its six core principals, the level of knowledge and experience should grow significantly over the next couple of years.”