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RBC lets clients trade alongside it with new FX recommendation service

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By:
Paul Golden
Published on:

Hedge funds and real money clients looking to shake up their FX trading strategy now have the option of basing their trades on proprietary market analysis from RBC.

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FX clients looking for recommendations with the reassurance of knowing the party making them is transacting alongside them can now do just that with a new service from RBC Capital Markets.

In May, the bank introduced its active macro overlay strategy (Amos), a daily FX trade recommendation service that looks at speculative flows through FX markets to track and identify where markets might be heading.

Created by the bank’s FX quants team in London, the model examines trade events to looks at where speculators have been putting money.

It models flows during the past 24 hours to work out the aggregate flow for that day and then maps out the data over the last week and the last month.

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Rob Turner,
RBC

“The best signal is obviously for all these flows to be going in the same direction,” says Rob Turner, FX quant trader at RBC and the creator of Amos. “However, we also consider the stock of outstanding positions over a much longer period.”

Each of these factors has a different weighting, which is used to inform the overall view if they don’t all point the same way.

Turner says RBC has had the capability to conduct this type of modelling for a number of years, but that this was the first time it had been used to make automated trade recommendations.

The motivation for the service has come from clients asking the bank what would happen if it took a rules-based approach.

“Positioning in FX markets usually refers to one metric – the CFTC [Commodity Futures Trading Commission] data, which is taken from FX contracts traded on an exchange,” explains Turner. “Our model looks at a different data source to get an alternative view.”


A bank that risks its own capital side-by-side with that of its clients certainly adds comfort that interests are aligned, and the upside and downside is shared equally 
 - Brad Bailey, Celent

RBC shares information on how the model works – such as how positions are calculated – with prospective Amos clients. Once the client agrees to use the service, they start to receive daily trade recommendations and any trades they make are executed with the bank.

Trades are executed at the 4pm London fix, so at 3.40pm each day the client receives the list of trades RBC is recommending for that day. Trades are done on the basis of ‘negative affirmation’ – so unless clients say they don’t want to execute these trades, RBC will execute them on their behalf.

These fixing orders have a defined fee, usually in the order of $20 per million. Clients are charged this fee plus an additional spread, which is negotiated individually but is normally around 90 basis points of the value of the fund for which they are using the recommendations.

A fund of $100 million would attract an annual overall cost for analysis and execution of about $900,000.

The model makes recommendations for all G10 currency pairs, although not every client will have a mandate to trade all these pairs.

“The model is not customized to the specific currency pairs each client wants to trade,” says Turner.

“We could potentially extend the concept to less liquid currencies, but the way we have constructed the model works particularly well for G10 currencies that are relatively cheap to trade and free-floating, which means the activities of speculators drive trends in a way that does not happen with emerging currencies.”

Market impact

While the service enables clients to replicate the performance of RBC’s FX positioning-based trading strategy dollar-for-dollar, they are executing much higher volumes than the bank is trading for its own book.

Therefore, the market impact of RBC’s trade is likely to be no more than what Turner refers to as a “rounding error” relative to the client’s trade.

“In addition, we are executing them as fixing orders, so we are not calculating the rate at which clients are filled on their trades,” he continues.

“If clients were simply getting passed a rate from their bank, they would have little visibility over how that rate was calculated, and if their bank was executing trades on its own book at the same time this could negatively affect the rate the client received.”

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Brad Bailey,
Celent

In many instances, the Amos trades will not even be executed in the underlying market since RBC will be able to find offsetting interest at another bank and net the trades off.

Celent research director Brad Bailey says that if an investment manager’s FX strategy entails active management and trading, it is crucial to have a partner that has a keen grasp of the difficulties of trading FX.

“A bank that risks its own capital side-by-side with that of its clients certainly adds comfort that interests are aligned, and the upside and downside is shared equally,” he adds.