Trent Beacroft
Trent Beacroft

The growing electronification of the NDF Market

By Trent Beacroft, CEO of Euronext Markets Singapore

As financial markets globally continue to develop their electronic trading capabilities it only makes sense that even the more illiquid and opaque instruments come under a similar focus.

The NDF market gathered steam in the 90’s taking its fundamentals from the early AUD Hedge market that existed prior to the float in December 1983. The need for NDF’s was a simple one. As economies developed so did their investment / commercial flows the problem was that many of these emerging countries did not have sufficiently developed economies or capital markets from which to launch an internationalized exchange rate.

So whilst these investment flows were welcomed, the same could not be said of the potential economic volatility that would accompany it. Even while EM regulators held firm on their pegged / managed exchange rate regime and limited trading to domestic entities they also recognized that foreign investors and non-resident firms needed the ability to manage their currency exposure. 

Having survived the Asian Financial Crisis of 97 and then the Global crisis of 08 the NDF product has continued to grow. In some jurisdictions it has been bemoaned as an additional tool for speculators and in others it has been embraced both onshore and offshore as a hedging tool with liquidity and pricing to curb unwanted volatility.

Reproduced from the BIS Quarterly Review, December 2019

So what does the future hold for the NDF Market?

There is no doubt that electronification is here to stay and its benefits will not only be for the privileged few. It will be encapsulated in all forms of execution and settlement and all parties will embrace it for better or worse. Yet whilst the technology continues to evolve and create opportunities, the question is whether the products are ready to be dragged into the new frontier.

Client demand has continued to evolve. Like Spot trading before it we are now seeing the advent of algorithms and greater transparency to match requirements. This demand has meant that Liquidity Providers have had to pass the role of execution to their E Traders and Quants even sooner than they had anticipated.  Whilst large Corporate & Institutional flow remains the core of client activity the increasing attraction of Retail and smaller regional players will be attractive to all. This activity will in itself increase the speed to market of the electronic NDF business across all client sectors.

As in the early days of the electronic Spot market we believe we will see a similar evolution of the NDF landscape. As clients requirements evolve so does the way that they execute. The CLOB (Central Limit Order Book) is the starting point for many markets and it allows participants to match bids and offers in a transparent system. Historically this has been the way that NDF’s have traded electronically. We are now seeing the next generation of execution ECN’s gaining a foothold in this space. The ECN allows for customized liquidity which we be an attraction for all participants both makers and takers.

Whilst OTC FX has been an accepted part of Finance for many years. Such derivative products like NDF’s have struggled to gain acceptance and understanding. This landscape is now changing. The introduction and growth of Central Clearing opens the playing field to numerous new participants. The capital usage of longer dated NDF’s will limit the growth of the product under the current settlement system. This means more entrants into the overall ecosystem.

At the moment we are witnessing a rush by numerous providers to bring additional products on line to differentiate themselves in an every increasing competitive market place. This should be seen as a positive as one of the big criticisms of the market is the current lack of electronic liquidity and how this is hindering the products growth.

The outlook for EMFX and the continued electronification of NDF’s looks positive. What the end product in years to come will look like is less convincing. The introduction of Uncleared Margin Rules  as well as the continued evolution of Clearing will define much of the direction going forward. All client groups will continue to gain greater and simpler access to data and execution via electronification this will then lead to increased engagement from users. Combine this with the desire of Exchanges to diversify their product and revenue suite, the NDF of the future may well be a Hybrid of what we know today.

In 2018 Euronext FX set about building up its presence in Asia. This included the creation of Euronext Markets in Singapore and the launch of our 4th (Tokyo, London, NY) matching engine in SG1. The reasons for this launch were simple; to give more efficient access and price discovery to our clients in the Asia region and also to act as a “beach head” from which to launch our NDF product. Given that 80-90% of Asian currency NDF’s are executed before the local close we believe as the only ECN with a matching engine in Singapore that we can offer real time advantages to our clients in the region. The growth of Singapore as an FX Hub continues with average daily trading in Singapore rising 24 per cent to US$639.9 billion in 2019 from 2016 (BIS). 

Coupled with this is the influx of global banks to the city to set up their eFX trading engines in recent months to leverage not only the increased demand for electronic Asian currency trading but also to act as a central point for payments etc in the fast growing SEA region. In June 2020 Euronext Markets Singapore received its Recognized Market Operator (RMO) license from the MAS and recently the US Commodities and Futures Trading Commission (CFTC) approved Euronext FX as a foreign swap trading facility exempt from SEF registration requirement. This is a unique acknowledgement of our presence in the region. We now operate under the regulation of the MAS in offering derivative products including NDF’s. We firmly believe that this regulatory oversight is an important piece in the growth of the financial markets. Future collaboration of supervisory bodies will allow licensed entities equivalence in foreign jurisdictions whilst upholding local /global regulations.