The FX Global Code aims to cover the regulatory gaps. It was published in May 2017 after a two-year dialogue between central banks and FX market participants led by the Bank for International Settlements (BIS) Foreign Exchange Working Group, chaired by Guy Debelle, Deputy Governor of the Reserve Bank of Australia. He also participated in a panel discussion on the FX Global Code at SWIFT’s Sibos in Sydney last year. As the Sibos panel discussion made plain, the aim of the principles is ambitious but clear. It is to ensure the FX markets as a whole keep up with modern standards of fairness, openness and transparency. Market participants involved in creating the Code include buy-side firms and corporates as well as banks. This reflected the fact that the goal is to have informed market participants in all parts of the FX business adhering to the Code, proportionate to their role, size and influence.
Since publication, 612 banks, non-bank liquidity providers (NBLPs), brokers, trading platforms, central banks and trade associations have committed themselves to abide by the 55 principles - covering the entire FX value chain from initial order to final settlement - laid down by the Code.
To that extent, the Code is an example of how market participants can change their behaviour and market practices voluntarily. In fact, sell-side support is now almost complete. The next challenge is to build on the momentum created by the 39 buy-side firms that have committed to the Code already, because it is ultimately the buy-side that drives a large proportion of activity and behaviour in the FX markets.
Without wider adherence by buy-side firms, the framers of the Code cannot yet claim to have fulfilled its mission that all market participants are fully informed about how FX trades are executed, confirmed, settled and charged for, and the risks taking those steps incurs.
So far, the majority of buy-side firms do not regard themselves as directly responsible for ensuring the FX markets work fairly, efficiently and openly. Understandably, the sell-side is reluctant to insist that its buy-side clients sign up to the 55 principles, since their relationship is a valuable one – and, unsurprisingly, no sell-side firm has done so. Yet the Code does encourage participants to deal only with those counterparts which support its principles and, as this becomes a reality on the sell-side, it makes good commercial sense for buy-side firms to follow the sell-side example.
In line with the provisions of the Code, FX platforms are already monitoring sell-side liquidity providers (LPs) on a range of criteria, and report that hold times and rejection rates are falling, and spreads are tightening. This is clear evidence that the Code is working.
However, platforms are not yet applying the Code to buy-side firms at all, and nor has any platform yet refused buy-side business because the counterpart does not support the Code. Recent interviews conducted by SWIFT with FX platforms confirm that asset managers are worried about the implications of the Code for their business, and uncertain about where they should place it on their list of priorities.
At some point, the heavily regulated sell-side participants may come under regulatory pressure to limit, or even refuse, to execute trades on behalf of buy-side clients that violate the letter and the spirit of the Code – especially since regulators have noticed the relatively slow take-up by the buy-side.
SWIFT hosted a session at Sibos to help promote the Code, and because use of their services can help firms align to the 55 principles. With more than 2,000 asset managers and corporates using the SWIFT network already to confirm FX trades with and through banks, FX platforms and non-bank liquidity providers, SWIFT users can adopt and implement the principles of the Code in their day-to-day business without incurring significant costs. An asset manager’s use of SWIFT can help align with up to 14 of the 55 principles of the FX Global Code. For example, Principle 46 states that: “Market Participants should also implement operating practices that segregate responsibility for trade confirmation from trade execution. Confirmations should be transmitted in a secure manner whenever possible, and electronic and automated confirmations are encouraged. When available, standardised message types and industry-agreed templates should be used to confirm FX products.”
Encouraging universal adoption
This is why the Global Foreign Exchange Committee (GFXC) of central banks and market participants that oversees the adoption, implementation and development of the Code, has set up a Buy Side Outreach working group. Led by the European Central Bank, the group aims to promote the Code to the buy-side and improve its understanding of why buy-side firms have not endorsed the Code more enthusiastically.
In reality, buy-side firms have a material interest in becoming informed market participants of the kind the Code envisages.
- higher ethical standards (Principles 1-2 of the Code)
- better in-house governance structures to ensure their trades are handled fairly (Principles 4-7)
- a clear understanding of how orders are actually executed, ‘obliging asset managers to live up to their own responsibility to inform their clients about the methods and risks of execution and to agree not to trade in ways that disrupt the market’ (Principles 8-18).
The Code also looks to the buy-side to make sure they are not disadvantaged by disclosure of confidential information (Principles 19-23); that their systems and internal controls and those of their counterparts identify and manage the FX profits they make and the FX risks they incur on behalf of clients (Principles 24-41); and to deal only with counterparts that are obliged to follow detailed practices that minimise the operational risks they incur when confirming and settling trades (Principles 42-55).
The buy-side also has a wider interest in advertising to its FX counterparts the standards to which it expects them to adhere. The fact that the Global Code is seeking formal recognition by regulators also suggests that the senior management of asset management firms will be expected by regulators to demonstrate commitment to it.
Reasons why they have not done so already include lack of awareness, regulatory fatigue, and a mistaken conviction that the 55 principles apply to the sell-side only, not least because asset managers believe the sell-side is the target of the framers of the Code.