The rebels and the FX dealers: How today’s social rebellion will make banks focus even more on trading

Interbank Tier 1 dealing and prime brokerage has been looked upon by many liquidity takers and most of the buy side as a retracting business in that overly conservative counterparty credit risk management has curtailed access to Tier 1 liquidity by OTC derivatives firms over recent years.

Whilst this appears to be the case when looking at contractual stipulations and Citigroup’s grave prediction in 2015 that the extension of counterparty credit to OTC firms could result in a 56% default rate, it really is only a perception from within our specific industry because we are all used to looking at the black and white figures.

When looking at it from a wider perspective, things are somewhat different and today’s occurrances at Barclays, the world’s fourth largest FX dealer by market share via its ubiquitous BARX single dealer platform, are a good indicator toward that.

Banks that are among the market share leaders in FX are faced with the reality that FX dealing is not only their core business activity, but is fast becoming a sole area of focus, as they move away from traditional corporate and retail branch banking.

Today, Barclays is the subject of a huge amount of derision, with discourse including calls for its CEO to be removed from his position, and as a batch of unwashed, absurd and ridiculous ‘climate change’ protesters cause the closure of a number of retail branches.

Barclays unofficially views branch banking as a millstone around its neck.

In 2016, Barclays’ initiative in this direction expanded further as the bank prepared to close the accounts of 7,000 low-return customers, or move them to another bank in what was being hawked under a politically correct description, that being that it was attempting to reshape its offering to keep pace with tighter capital rules.

More likely, Barclays began to view traditional banking as an expensive, resource-hungry exercise and was looking to remove as much of it as possible from the high streets of Britain and Europe.

This is a direction that Barclays has been taking for quite some time. FinanceFeeds was made aware in mid 2016 year by several senior executives of established small to medium enterprises in Britain whose business accounts had been run to perfection, simply finding that Barclays has terminated their accounts.

Barclays at that time was the world’s third largest Tier 1 FX dealer by volume, with 8.11% of the world’s order flow going through its books.

With new entrants now making the electronic banking sector – that being app based with no branches – more attractive to smaller retail clients despite its relative infancy and lack of capital security, the large banks are looking at cost and viability, and with today’s unruly behavior by Greenpeace ‘activists’ with lentils stuck in their beards, its not only the public image that becomes affected, but the balance sheet too, and let’s face it, the real estate-hungry, risk laden, staff and resource-heavy retail sector’s performance is easily affected by many factors, whereas Tier 1 dealing from one head office in a $5 trillion a day liquid market when you are the top level market maker is not!

The bank was unable to open almost a hundred branches across the UK yesterday, as a result of protests organised by environmental pressure group Greenpeace, which for the most part is the preserve of anarchistic law breaking hippies who really only object to living cleanly, obeying the law, being a decent citizen and working for a living.

Meanwhile, its biggest shareholder called on the bank’s board to not renominate Jes Staley due to his relationship with the late sex offender Jeffrey Epstein.

This type of adversity does not affect the plate glass dealing rooms of London, where the public domain and the high street are quite simply irrelevant.

Sherborne Investors, a New York-based investment firm run by Ed Bramson, says Mr Staley’s close ties with Epstein means his renomination would be ‘extremely ill-advised.’

They called on the board of Barclays to take ‘decisive action’ and vote at the bank’s annual shareholder meeting on 7 May to overturn their advice to re-elect Staley.

This, they write, would ‘draw a line under this destabilising situation, ‘allow the company to move forward and focus on more constructive activities.’

Sherborne’s statement comes as the financial services giant was hit by protests by Greenpeace, and as we all know, odious organizations such as Greenpeace really only serve to destroy the status quo rather than provide innovative and sustainable solutions, so therefore its not surprising that the bead-wearing, nose-ring toting soap dodgers are demonstrating against the bank’s financial support for fossil fuel projects, which they claim totalled $85 billion between 2016 and 2018.

Activists blocked the doors to bank branches, preventing staff from entering the branch and holding up signs with slogans such as ‘Barclays: Stop Funding the Climate Emergency’ and ‘Barclays: Climate Criminals’

It calls on supporters to send a letter to Jes Staley urging the bank to end its involvement in supporting oil, gas and coal companies.

Banks rely on having a cut-glass, clean image, and even more so these days after various scandals such as the FX benchmark rigging cases four years ago, and the mis-selling of PPI, along with various ill-judged deals which have cost many banks dearly, hence the need to maintain a very highbrow public image is paramount these days, and clashes with swamp-dwelling anarchists is not the stuff of good PR.

The letter from Greenpeace states: ‘Barclays is the 6th biggest funder of fossil fuels among banks globally and the biggest in Europe.

‘In the context of the climate crisis, it’s critical that banks like yours stop funding fossil fuels and align themselves and their portfolios with the 1.5C target.

‘Over the years, Barclays has provided hundreds of billions of dollars to fossil fuel companies, supporting the expansion of some of the dirtiest fuels on the planet.

‘Now is the time for strong, principled action. We ask you to take a stand – immediately end the expansion of fossil fuels and publicly commit to align your portfolios with the Paris Climate Agreement target – to stop funding companies driving the climate crisis.’

Barclays was challenged at the start of 2020 by shareholders organised by the ShareAction organisation to phase out its support for fossil fuel enterprises.

It is clear that economies of scale are vital for large financial institutions, however Barclays is conducting its dominance by focusing on FX and other interbank derivatives asset classes rather than its traditional business, as just three years ago the British company completed its complete exit from the European market’s traditional banking sector, culminating in the sale of the final remaining 74 branches in France to private equity firm AnaCap Financial Partners, meaning that it now can concentrate its efforts solely on being at the very forefront of London’s global electronic trading epicenter.

Structural changes to the markets, management upheaval among many big banks, new non-bank entrants and lack of volumes and volatility have seemingly levelled the playing field among the industry’s biggest firms.

The biggest change in the rankings this year is the decline of the combined market share of the top five global banks. Their market share peaked in 2009 at 61.5% and was still above 60% as recently as 2014.

By 2015, the top five banks accounted for just 44.7% of total volume, however Barclays battles it out in the race for supremecy with Citi and Deutsche Bank, both of which also conduct their entire business from London.

So, the latter part of the last decade was the end of Barclays’ operation of branch banking across European high streets, a direction that concluded the Bank’s offloading of its entire Barclaycard credit card operations in Spain and Portugal to Bancopopular-e, a total divestment of its stake in Barclays Africa, a complete dispensement of its Egyptian operations and the sale of its wealth and investment management business in Singapore and Hong Kong.

Meanwhile, on home territory, Barclays continues to stand out in terms of procedure and its domination of market practice with regard to electronic trading with its BARX single-dealer platform.

Barclays is one of the world’s most prominent proponents of the last look execution procedure, its BARX platform which provides FX liquidity by streaming indicative prices on an in house and third party platform basis.

Barclays’ corporate standpoint on the reasons why it uses last look methodology is that being one of the world’s largest interbank FX dealers, it does not generally seek to reject trade requests. However, electronic spot FX market-making is a highly competitive industry and for the reasons set out above it necessarily exposes the liquidity provider to the risk of trading on incorrect pricing.

Barclays maintains that last look functionality is used to protect against these risks and allows liquidity providers to show considerably tighter electronically streamed prices than they otherwise could – something that the bank considers beneficial to every user of electronic FX trading platforms and is very hard line with regard to this.

The bank has long been aiming to get at least a 10 per cent return on capital from its markets clients and has recently launched a computer system called Flight Deck to help rank customers based on their returns levels and identify those who are currently not making the grade.

In an interview with Bloomberg three years ago, Kashif Zafar, co-head of global distribution and co-head of macro products at Barclays said

“We have the returns figures, so we can go and have those tough conversations with clients that don’t meet our hurdle rates. We’re not in the old-school business of doing big revenue with poor returns. That’s a failing strategy.”

In January 2016, the Foreign Exchange Professionals Association (FXPA), held a webinar on examining the implications of last look for the FX markets. Attorneys with Steptoe & Johnson on the ‘last look’ webinar, advised market makers to be more transparent about how their last look systems operate.

“Regulators take a very dim view of institutional practices that emphasize a lack of transparency and that encourage employees to give either misdirection or less than complete information to counterparties when direct questions are asked,” said Mike Miller, litigation partner at Steptoe & Johnson, who spoke during the webinar.

In one high-profile case, a global bank used its spot FX trading platform to reject unprofitable trades. When customers asked why the trades were rejected, the bank reportedly gave “vague or misleading answers,” said Steptoe partner Jason Weinstein who analyzed the case during the webinar.

After a regulatory settlement, the bank posted detailed disclosures on its web site and also paid a steep fine, setting a precedent that could impact other banks, brokers and market-making firms.

FinanceFeeds has spoken at length with a number of senior executives within the institutional and prime brokerage sector several times about this over the past 5 years, many of which have openly stated that many institutional participants do not like firms that offer ‘no last look’ execution, despite the regulatory and government derision aimed at the practice, yet Barclays continues to focus on this via its BARX platform which is now becoming a mainstay of the bank’s business.

Brett Tejpaul, another co-head of global distribution for credit and equities at Barclays once stated “The onset of capital rules changed the business – more now isn’t necessarily better and we need to be a lot more selective. In the past we all had a rather one dimensional view through the revenue metric.”

The decision has hardly been made overnight. The banking giant has been working towards a more focussed offering which prioritises returns over revenues for around the last four and a half years, and the lender has already dropped 17,000 clients – some of which Mr Tejpaul described as “essentially inactive” despite the bank shelling out to maintain the relationships – from its books.

After offloading these plus the 7,000 clients in 2016, the firm was left with approximately 8,000 customers on its markets side. Barclays with its 8.1% global market share of the global FX market, then was well poised to become the second largest dealer in the world, however since then challenges from the non-bank world in the form of companies like XTX Markets have risen up and made it more of a struggle for the traditional BARX system.

If you are the head of PB relationships at a large brokerage, you are likely to be butting heads with the risk management teams to get orders processed. Derivative asset exposures at Barclays in 2015 were £295 billion, which was lower than reported if netting was permitted for assets and liabilities with the same counterparty, or for which Barclays holds cash collateral.

Similarly, derivative liabilities for 2015 stood at £295 billion. In addition, non-cash collateral of £7 billion was held in respect of derivative assets. Barclays also received collateral from clients in support of over the counter derivative transactions.

In September 2016, the Massachusetts Institute of Technology issued a report, authored by Alex Lipton, David Shrier and Alex Pentland, called “Digital Banking Manifesto: The End of Banks?” citing the lack of innovation in the banking sector and how it compares to other industries.

The academics rightly say that banking has hit a brick wall in innovation, concurring with FinanceFeeds’ conclusion when investigating the methodology of mainstream banks in their retail and corporate operations outside of the provision of FX liquidity – ironically some of them being the very same companies that power the global financial markets.

Indeed, there is clearly far more profit in operating one central office in which the global markets are traded to the tune of trillions per day in notional volume, by comparison to having the real estate, human resources, logistics and overheads of running retail branches that deal with small-money current account holders and borrowers, but this dichotomy is far too great to be sensibly sustainable.

One specific finding by MIT was that the academics consider by way of diagnosis of the situation, suggesting that the lack of innovation is a result of “weak competition” between banks, which subsequently leads to other problems, such as less-than-satisfactory customer service and so on, yet these institutions continue operating despite these flaws, as customers do not seem to have any viable alternatives.

This rings absolutely equal to our findings, which are very relevent to the FX industry.

A notable ‘dinosaur effect’ is that it is becoming increasingly difficult for new FX brokerages, and FX service providers wishing to diversify into the brokerage sector to be able to establish bank accounts with mainstream financial institutions. Perhaps banks just want the order flow and not accounts – of any type, from retail high street to prime brokerage.