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Screenshot of a breaking news alert e-mail from Q2 2017
Location, location location.
Unlike many business sectors which produce a physical product, for specific application within a specific market, the entire structure of the electronic trading industry has no physical product and its end users operate on real time basis across the globe.
Bearing this in mind, an interesting differential exists between one and another.
Since the dawn of electronic trading, companies have established themselves an a few specific cities which have become synonymous with FX, and as the global infrastructure that provides connectivity and liquidity between traders and firms has increased dramatically has improved in order that it now barely matters whether a trader is in Hong Kong or Houston, companies continue to stick rigidly to the same areas.
In doing so, there are pros and cons, the pros being that there is access to a skilled workforce, ready-made regulatory structure and proximity to technological infrastructure which provides low latency connectivity, however the costs of establishing in prominent financial centers such as London or Chicago are extremely high, and in today’s world of low profit margins due to the necessity to provide very low spread and high acquisition costs, the perceived prestige of concentrating operations in prime areas could prove to be a white elephant.
Despite its global, borderless, internet-based nature, from advertising and client acquisition down to provision of service, FX is a non-geography specific business. Client acquisition within retail FX firms is often conducted by introducing brokers, affiliate marketing or internet media advertising, in order to provide trading services directly to a client’s computer, regardless of location.
Although the method of attracting order flow for institutional firms is different, the end result is the same. Chicago-based trading desks may provide order flow via liquidity providers thousands of miles away.
Is there really any specific business justification for firms to continue to pay the extremely high cost of maintaining physical operations in London, New York, Chicago, Sydney, Melbourne, Hong Kong, or Singapore?
These are cities whose realestate costs, commercial taxation and overheads are among the highest in the world. With the exception of Limassol, Cyprus, which boasts very low corporation tax and low regulatory costs, companies that nowadays could save their money by moving operations elsewhere.
Customers do not visit offices of FX firms, they do not see the physical operations, nor do companies use local advertising suppliers via which to generate business. Indeed on the contrary, they cast their nets wide, using global suppliers whose office they have never visited. The only important jurisdictional aspect is regulation – one aspect that some companies in Cyprus have considered a justifiable reason for moving from their offices in Limassol with low taxation and operating costs, to London with its huge real estate costs, higher salary outlay and higher regulatory costs.But does it have to be London? Britain, like many nations which host large financial centers, is home to an economy which contrasts enormously between the largest financial center in the world, the City of London and Canary Wharf, and, well, the rest of the country, which, even in parts of Greater London, is inexpensive compared not only to the City’s totally disproportionate financial district, but actually to other parts of the western world. Companies based outside the UK, for example, perhaps do not realize that just from just a few miles in each direction from the Square Mile itself, operating costs including real estate, staff costs and overheads are very low indeed across the entirety of Great Britain.
It is remarkably inexpensive to operate from other cities such as Manchester, Sheffield, Leeds, or Birmingham, just to name four out of a possible fifty. For companies which insist on providing Financial Conduct Authority (FCA) regulation to their retail clients, this would suffice. Cost per square meter of office space is less than a quarter of that in London, salaries are almost half, and the extra few miles between these cities and Equinix’s LD4 datacenter would make absolutely no difference whatsoever to speed or effectiveness of execution.
The reality is that companies do not think England, they think London.
As for the rest of Western Europe, the entire region is almost completely devoid of FX technology providers, there are no notable FX firms or infrastructure apart from TMX Atrium’s Frankfurt point-to-point connection to Moscow, which is really only there to serve as a funnel between London and Moscow.
With regard to retail FX technology, the vast majority of it is developed and provided from well known large developers in Israel, a nation which is home to the second highest number of venture capital funded start up technological innovators in the world.
Conversely, firms from mainland Western Europe, by contrast, (with the exception of Switzerland and its banks with in-house technology) are notable by their complete absence.
The same applies to the trading desks of New York and Chicago. Would it not be more effective to establish outside of these cities? Detroit, for example, is a city in need of complete regeneration following the 2009 financial crisis which has turned a once industrial, bustling manufacturing center into a veritable wasteland. Should large financial institutions wish to uproot from New York and Chicago, both nearby as far as speed of data transfer is concerned, it is likely that the State of Michigan may even subsidise the costs and not charge them corporation tax due to the potential regeneration and employment that such a move would generate.
There are some specialist companies in Northern Michigan, with ThinkLiquidity, and ILQ, however GFT’s continued presence in Grand Rapids came to an end subsequent to GAIN Capital’s acquisition of the firm, which has drawn the company closer to the Big Apple.
Looking further afield, the Asia Pacific region is of huge interest to most companies worldwide, driving Western companies to establish offices in Hong Kong, Singapore and Australia in order to access lucrative business in the area. With mainland China out of bounds, offices in the periphery are now commonplace in order to conduct business with Chinese clients.
Whilst this makes perfect sense, the cost of operating in Hong Kong, Singapore and the major cities of Australia such as Sydney where most of the FX firms are based, is several-fold higher than in other Asian regions, or indeed even other cities in Australia.
With global infrastructure improving all the time, Indonesia, South Korea and Malaysia would be options, however company directors would likely scorn at the notion of uprooting from Hong Kong to Kuala Lumpur, itself a modern environment. Latency of execution is still much higher in Asia than in Europe or America, therefore operating from different regions in the Asia Pacific region would likely have little effect on peformance and a huge effect on costs.
In Australia, a very popular region from which to access Asian clients, regulation from ASIC is highly respected, the economy stable and business easy to conduct due to its Anglophone nature, western business culture and proximity to Asia Pacific nations. However, office space in Sydney is often above $800 per square meter per month, whereas in Adelaide, for example, can be leased for $350 per square meter and provide traders with exactly the same trading experience as if the firm was in Sydney.
It could be a cultural matter which is keeping online trading companies located in the specific areas with which FX trading is currently associated, in that at the time when FX trading rose to popularity in the early 1990s, the transmission of data was less effective than today, and servers were physical, therefore had to be shared by market participants.
Nowadays, with cloud-hosted, outsourced solutions, a global network of very low latency connectivity which has truly broken down the borders between company and client, and the lack of requirement to harbor physical equipment within a company’s premisis, these concerns are no longer a burden.
Alluding to the cultural aspect further, is that Bitcoin infrastructure is now in its developmental stage, just as electronic FX trading was 20 years ago, and companies offering turnkey solutions for Bitcoin exchanges are looking toward all manner of global destinations to set up trading venues, such as Africa, South America and remote parts of the Far East, from their bases in western nations with totally different business ethos such as North America or Switzerland.
It could all be down to technological development, in that the Bitcoin infrastructure that has now come to fruition has done so post-physical infrastructure, whereas electronic FX trading rose to popularity many years beforehand.
Another explanation could be that technology-led retail FX companies had concentrated much effort and resources during recent years on attempting to emulate long established financial institutions such as global banks, with a notion that locating in the same region as them would bring kudos. The reality is that these are two completely different businesses altogether: Retail FX firms are nowadays technology-orientated companies which provide trading platforms and operate either as a white label provider to other satellite brokers, or take a white label solution from a technology provider and liquidity provider in order to generate order flow and revenue. The large financial institutions are far from this, instead being established, in the case of London’s financial center, several hundred years and hark back to the days of wood-paneled chambers and marine reinsurance. High tech, their origins are not.
Indeed, nowadays the banks have somewhat adapted their modus operandi, invested in vast infrastructure and moved from said wood-paneled chambers to the plate glass towers of Canary Wharf, but in total contrast to FX firms, the cost of this is totally irrelevent to them, whereas the location is. Banks are known internationally and recognized on their location, due to the antiquity of the organizations. Moving to a cheaper location would simpy tarnish their image and raise their tax bill. The cost of a vast office in Canary Wharf can easily be recouped by Barclays, Citi or HSBC by renting out space to other firms, and by losing the cost on the tax bill.
For FX firms, quite the opposite is the case. FX firms build their reputations on their technological prowess, trade execution, user experience, efficiency and product range. They are air-ware whereas banks are still regarded as physical. Thoughts of an FX firm conjure up images of a computer screen with the company’s complex and sophisticated product operating on it, whereas thoughts of a bank evoke images of its Wall Street or Canary Wharf head office.
Looking at the evolution that has taken place in many sectors, and the industrial wastelands, such as Detroit, that it has left behind, the physical business environment is rapidly giving way to the virtual one.