Mind your liquidity distribution! Margin aggregation, infrastructure and provision of liquidity to white labels high on the agenda for 2016

By Natallia Hunik, Head of Institutional Sales, Advanced Markets & Fortex  2015 has now wrapped up, and it is time to reflect on the year passed. The year of 2015 will be remembered by the FX industry for so many different reasons. In the aftermath of the SNB rate decision, many brokerages had no option but […]

Margin aggregation, infrastructure and provision of liquidity to white labels high on the agenda for 2016

By Natallia Hunik, Head of Institutional Sales, Advanced Markets & Fortex 

2015 has now wrapped up, and it is time to reflect on the year passed.

The year of 2015 will be remembered by the FX industry for so many different reasons. In the aftermath of the SNB rate decision, many brokerages had no option but to re-evaluate their business models, their risk management practices and, to tighten their belts.

With cash on hand scarce and credit a luxury, many industry participants either went completely B book (believing the myth that all brokers running B book models profited greatly from SNB) or found creative ways to improve their profitability by outsourcing their exhaust B book flow to the counterparties that were giving them a revenue share from that exhaust flow.

This model, unfortunately, had some serious flaws, and as a result, another post-SNB aftershock covered the industry like a tsunami during the Christmas holidays.

What will 2016 will bring? It will be a time of market normalization.

FX Brokerages will review their risk management models once again.

Unfortunately, we may see some more businesses winding down at the start of 2016 as a result of the downfall of several fictitious prime of primes. These firms were offering lucrative profit sharing with no downside, choice spreads and generous credit lines effectively feeding the turmoil.

Ultimately, this model proved itself to be non-viable within a very short time. Falling for lure of easy money, industry participants were misled once again. Now, with this year-end fast approaching, retail traders are attempting to make withdrawals for the holidays only to find that many brokers face a difficult situation as their own troubled counterparties haven’t honored pending liabilities.

“In my opinion, 2016 will see brokers re-evaluating their business models once again and I would advise them to always keep the checklist for their liquidity partner due diligence handy” – Natallia Hunik

Liquidity Distribution to White Labels and other partners.

With Differentiation on brokers’ minds in 2016, many will be looking at ways to set themselves apart from the competition, whether by introducing new platforms, new promotional offerings, or by other innovative approaches.

Advanced Markets senior executives talk prime brokerage with Andrew Saks-McLeod in Boston, Massachusetts

Many brokers have regional expertise and they will be hoping to use this to their advantage by offering their liquidity distribution programs to their white label partners, such as regional banks and asset management companies.

To accomplish this ambitious goal, “bundled technology solutions” will be in demand. White label partners will need a FIX API to connect their own interfaces, an online back office to keep track of their client activity and omnibus account balance, risk management tools and much more.

Brokers will pay more attention to technology infrastructure.

In 2015, the FX industry faced an unprecedented number of cyber-attacks that took down broker’s trading servers, their websites, and, in turn, compromised the client’s personal information. As the industry continues to face these threats in 2016, many brokerages will be looking at ways to solidify their technology and network infrastructure in order to mitigate the risk of attacks, as well as improving and optimizing their service offerings to satisfy a growing, diversified global clientele.

For example, brokers will be rethinking the location of their data center(s) in order to deliver the best security and customer experience as possible, and, a result, colocation will play an even more important role in the days and months ahead.

Margin aggregation will be re-evaluated.

Margin aggregation became a popular notion in 2015, seemingly offering brokers (without access to Tier 1 Prime brokerage) the instant benefit of improved spreads and diversification. While one can find several pros with this model, there are also a significant number of cons that need to be realized.

While the improved spreads are great, paying double spreads at your counterparties isn’t great at all. When a trade is opened with one margin Liquidity Provider, and closed with another, you will need to close positions at both LPs in order to reconcile/match the trade, resulting in your paying the spread twice.

“Many brokers are attempting to solve this issue by configuring their systems to close the trade at the same LP it was opened with, but this solution leads to slippage and defeats the purpose of margin aggregation” – Natallia Hunik

Apart from this problem, you are also not taking a full benefit of reduced swaps on your corporate account and you may also be causing issues for your LPs such as double-hits for STP LPs and your market-makers not seeing both sides of the trade.

In addition, the extra technology costs associated with this model may also impact a broker’s bottom line. In the wake of increased attention to the profit margins, brokers will be taking a closer look at transaction cost analysis and re-evaluating margin aggregation in 2016.

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