Technology in the FX clearing process: Perspectives from the buyside

May 2023 in Supplements

As firms pay increasing attention to mitigating client portfolio cost impact, FX clearing and the advances that technology brings to the process are becoming important and generating interest amongst more buyside firms than ever before. But what efficiencies can technology actually deliver?

While no regulatory mandates regarding central clearing exist, new regulations are making it an efficient solution for a portion of buy-side portfolios. These changes have been a while in coming.

Kah Yang Chong, Acting Head of State Street TradeNeXus, GlobalLink’s Post-Trade platform explains, “The 2008 financial crisis highlighted the need for greater transparency within the OTC derivatives ecosystem. Since then, significant scrutiny has been placed on financial participants’ operational processes to increase the accuracy, timeliness, and transparency of transactions and their statuses. State Street TradeNeXus supports a scalable workflow solution that provides efficient and transparent post-trade confirmations and matching processes for both cleared and bilateral transactions.”

Efficiency is the key word here. Evaluating transaction risk between participants involves optimising IM and directing trades to the most risk-efficient places possible.

Improving efficiency and overcoming traditional hurdles

While the need for technology that automates more portions of the clearing process has been apparent for a while, a few hurdles have prevented adoption. Specifically, automating asset managers’ requirements while integrating processes into their complex workflows has been challenging.

Chong points to ease of onboarding as a critical factor any service provider must offer. He explains the approach State Street TradeNeXus has adopted. “As part of our technology implementation, we built the clearing workflow to be compatible with the client’s existing integration into State Street TradeNeXus, whether through our scalable integration solutions or directly via client’s OMS,” he says.

While onboarding is a major pillar in easing adoption, reducing client risk that results from having positions in multiple places is another critical concern. For instance, the CCP and the uncleared space have different margin rules. Specifically, determining the most efficient way of holding those positions given varied margin rules is a significant value-add.

“In addition to trade-level clearing determination,” he continues, “clients can utilise our TradeNeXusproprietary rules engine which allows clients to make a determination on whether to clear or not based on their settings at fund, currency, or counterparty level.” This provides flexibility for clients to deliver on different ways to hold positions given their portfolio exposures and margin rules.

While TradeNeXus’ solutions are multilateral and offer a streamlined process for all market participants, the buyside’s needs tend to be more acute. From an operational standpoint, meeting these needs aren’t materially different from those on the sell side. Analysing data and transferring it to clients, communication, and seamlessly executing trades in an automated workflow are critical. APIs offer a great solution in this regard, linking systems and offering clients insights into their risk and the ability to download data for further analysis.

Chong highlights these features when asked for examples of technology powering TradeNeXus’ ability to boost operational efficiency. “As part of the clearing process, clearing-eligible FX derivatives undergo real-time eligibility, margin, and risk checks,” he says. “Through the use of newer technologies, this allows us to send requests for clearing to the CCP, who then undertake risk checks and provide clearing statuses, all in real-time.”

He goes on to explain that once the trade is cleared all parties are notified, and relevant books and records are automatically updated, including custodial messaging. “For any trades that are rejected, full transparency on the rejection reason is provided,” he says. “This eliminates the need to communicate with the counterparty to identify the reason and improves the speed at which issues are identified and resolved.”

Scaling to achieve cost savings

Initial funding costs, specifically initial margins, determine the returns on a trade. Reducing or optimising the amount of IM clients have to post is a key part of the broader push to increase clearing efficiency. As such, scaling is the best solution to reducing costs in these processes.

Chong explains that State Street TradeNeXus’ technology is built with scale in mind. “The underlying technology that supports our application has been built to process scale and complex workflows,” he says, “which has allowed clients to partner with us to manage their post-trade activities front to back.”

What do these partnerships look like? Chong lists a few use cases. “Rather than building their proprietary system, clients can partner with us to utilise our exceptions-based matching platform. Clients who wish to utilise further post-trade optimization tools can use the partnership products State Street TradeNeXus has built with CLS and Capitolis. The CLS partnership provides clients with CLSSettlement monitoring capabilities within our application and the Capitolis partnership allows clients to undertake compression and novation post-trade seamlessly within our application.”

Further evolution

What other developments can we expect to see in the clearing space? Desktop interoperability will likely improve and firms will undoubtedly rely on technology even more moving forward.

Chong believes increasing transparency between back and front office teams will continue to grow in importance, something State Street TradeNeXus is trying to solve. “They may be looking at different datasets whilst solving a common problem, which may include FX clearing workflows,” he says. “Our GlobalLink Digital (GLD) platform provides a single front-end for our clients to interact with multiple applications. This allows their data from different applications to work together to provide better decision-making, all within a single dashboard.”

Clearing has always been a central topic in FX, and thanks to technological advances, it seems set to continue to occupy the spotlight.