THETRADETECHFX DAILY from the floor
Growing pains : The impacts of T + 1 settlements on FX execution and liquidity
CATRIONA LAWLOR , FX trader at Baillie Gifford , tells The TRADE how T + 1 will affect FX market dynamics , liquidity and best execution .
What impact will a shift to T + 1 settlements have on market dynamics and liquidity ? At a headline level , a shift to T + 1 doesn ’ t immediately sound the alarm bells for FX markets , given a large portion of funding FX is already traded this way . However , when you delve into some of the timeline changes involved , there are some important considerations to be made from a market dynamics and liquidity perspective . Taking the US market as an example , if an equity buy is traded over the day into the US close , for a non-US asset manager there becomes a very short window to get the equity trade matched , FX generated , and executed in the market in time to meet deadlines to settle on a PvP / net basis . If these orders are sizeable , we could potentially be looking at a lot of one-way traffic into USD in a very tight timeframe – which will almost certainly impact liquidity during what ’ s currently a very low-volume period of the day ( though we should also expect a shift in activity at that time as a result of this change ). Another key question though , is if we can access the liquidity we need to get the trade done – at what sort of spreads will this be ? Given the dynamics mentioned above , pricing sizeable FX risk at the tail end of the day will very likely have an impact on the spreads we ’ re seeing , particularly from the likes of eFX pricing engines – though the extent of this remains to be seen . Friday afternoon FX trading is front of mind in this vein , given the weekend exposure to follow . This is why we , and likely other buyside firms , will be reviewing our spot FX panel to ensure we have access to sufficient wellpriced liquidity .
What needs to be done to ensure FX transactions can meet new T + 1 rule changes ? Put simply , as a market we need everyone to be doing their bit on this . For buy-side firms such as ourselves , to date this has involved an in-depth review of our trade lifecycle operating model , assessing everything from systems capabilities to meet reduced timelines , to location of our people – which has led us to establishing trading and operations presence in the US , to ensure we can continue to achieve the best outcomes for our clients . Crucially though , we need the help of other market participants to make this change a success for all involved . Coverage is a key ask of our brokers , with the potential need to execute FX orders until 5.30pm EST ; whereas for custodians , FX cut-off times to settle T + 1 trades on a PvP / net basis will become so important , and we hope these will provide the flexibility needed leading into the 28 May 2024 go-live date . Linked to this , is the deadline involved with settling FX trades on a PvP / net basis . Currently , with the timelines described above , the deadlines are very restrictive and if missed , would result in much-increased volumes of FX settling bilaterally – which would be a step backwards in our ability to mitigate settlement risk , a key principle of the FX Global Code .
What pain points still exist in the build up to the implementation of T + 1 ? At present , FX cut-off times are our main pain point . In an ideal world , we ’ d have until at the very least 6pm EST to get any necessary FX executed , matched , and off to custodian banks for onward processing / settlement . As things stand however , the timelines don ’ t add up . Unless we see an extension of these deadlines from PvP providers and custodians , we ’ ll be in the unfortunate position where counterparty selection for a trade will have to take into account an increasing number of these operational considerations . As a trader this is frustrating , as we could end up with the most wonderful panel of liquidity providers in the world , but not be able to trade with the one we want due to a cut-off time elsewhere . Again , from a best execution perspective this feels like a real step backwards – however , we ’ re hopeful that in a world where technology and automation are increasingly deployed to solve similar problems , there ’ ll be scope for movement here . After all , with T + 0 on the tip of the tongue when the SEC announced this change
24 THETRADETECHFX DAILY