Will London’s institutional sector continue to embrace the ECN model, or will further FX exchanges appear? Institutional FX expert Jonathan Brewer, Head of eFX Sales at Sucden Financial provides a detailed insight
LeapRate today spoke to Jonathan Brewer, Head of eFX at Sucden Financial, in order to ascertain his perspective on the best execution model. Mr. Brewer, a senior executive within the institutional FX sector with significant experience, goes into great detail in this week’s guest article, in order to dissect the many facets of what can be considered best execution among London’s large FX firms.
Mr. Brewer explains:
“One of the topics that I intend to cover is the best model to adopt within London’s institutional B2B sector, and whether adopting the ECN model or operating as an exchange is better.”
“As we know, the FX market is one of the most liquid financial markets in the world and by virtually any definition the existing market structure is very efficient. At the same time, you could argue that exchanges operate within at worst a monopolistic and at best an oligopolistic market structure.”
“One of the key benefits of the exchange model however is transparency, and it is undoubtedly true that the retail end of the FX industry has suffered (and still does to some extent) from the lack of execution transparency that certain participants offer. Ever since I first became involved with the eFX business at Sucden Financial, we have been strong advocates of our STP ECN model, because we believe that this affords the best level of pricing, execution and transparency for our clients, and also enables healthy competition in the market as a whole.”
“The answer to this entire question really relates to the definition of an exchange, because this term has been bastardized in recent times within the FX market, with the lines between an ECN and an exchange becoming blurred. An exchange is a venue that facilitates the matching of orders between market participants; all types of traders are welcome to trade on this type of environment because the orders that participants are showing are interest based. For an “exchange” to come out and openly state that certain types of traders are not welcome (i.e. News Traders) would suggest to me that they are in fact operating as an ECN.”
Mr. Brewer then took the conversation on to Sucden Financial’s perspective, and some statistics, as to what is the best technological solution for firms to offer brokers the most effective means of execution, whether no-last-look execution has advantages over other methods, and if disruptive order flow from very high speed execution is of concern, and if so how this can be mitigated without upsetting the client base.
“Different execution models are appropriate for different types of traders, and it really depends on the market impact of the trader in question. I may be counter trend, but I am a strong advocate of last look. The right is exercised by the major liquidity providers (LPs) in this market and exists in order to enable them to offer very tight spreads, which in turn leads to reduced costs of trading.”
“Many liquidity providers use EBS and the CME to hedge FX exposure, which price in 0.5 and 1 pip increments respectively. This means that, in order to offer the sort of spreads that the retail market expects to see nowadays; LPs need to show spreads that are tighter than their incoming spreads, meaning that at point of trade they are immediately negative. They need to be able to protect themselves from arbitrage traders who take advantage of this, and as such they need to retain the right of last look.”
“A point and click trader who is trying to follow trends will absolutely not benefit from trading on a no last look feed, which can be demonstrated by simple mathematics (see below). If however someone is trading the sort of a ultra-high frequency arbitrage type of strategy that you have mentioned in the question, their market impact will be very high, and therefore a no last look model would be very appropriate.”
“If a trader is trading GBP/USD, the average spread that they might receive on a good “no last look” price feed might be 0.7 pips in liquid hours. The average spread that they might receive on a good ECN price feed that does include last look might be 0.4 pips in liquid hours. This means that the client would need to get an average slippage across every trade of -0.15 pips in order for it to be worthwhile for them to trade on the no last look feed. (For clarity, this is based on the commonly held misconception that there would be zero slippage on a no last look feed. Of course this is not the case, because it is possible to miss the price that is quoted on a no last look feed, thereby getting slippage).”
“If the trader in the above example trades non directional, non-toxic flow and their ECN broker is operating a clean ECN model, then the client should receive average slippage of significantly less than 0.15 of a pip.”
“The reality therefore of no last look venues is that they are not really relevant for “normal” retail traders and are tailor made for traders that have very toxic flow. The paradox is that this is exactly the sort of flow that they are trying to avoid and are beginning to refuse to accommodate.”
“The above being said, I do believe that a wide choice being available to end users ultimately manifests itself to the benefit of those users. In light of this, I believe that providing no last look as an option to clients is a positive thing, and this is one alternative that we are considering making available to our clients in the near future.”
When asked by LeapRate his opinion in terms of connectivity and accessibility, Mr. Brewer provided his view on the best possible means of offering a broker the resources they need without coming under fire from regulators (in Europe especially) and if raw-spread execution is sustainable without B-Booking the trades to maintain the low spread at times when there is a lot of fluctuation.
“Sucden Financial runs a very transparent model and our clients are very happy with the service that we provide. “We believe that this is an important ethos to use when operating in this market” he stated.