The shifts over the past decade in the structure of the flow FX and equities markets have driven a convergence of the two markets. As a result of these shifts, participants across both asset classes often face similar market structures and matching methodologies, in both cases spread across a diverse set of trading venues. It’s a situation that’s ripe for leveraging business benefits – particularly through the use of new trading technologies.
The flow FX market – comprising spot as well as vanilla OTC and listed FX futures and forwards – was until the early 2000s structured as a multi-tiered market with a strong focus on dealer-to-client (D2C) venue trading supported by dealer-to-dealer (D2D) platforms used by investment banks for hedging and risk management. This structure was characterized by fragmented liquidity, with buy-side firms using only a small number of broker-dealers for their FX activities.
In the early 2000s, the proliferation of liquidity aggregation in FX created a structure that resembled the traditional all-to-all (A2A) structure of the cash equities and equities derivatives markets. Meanwhile, the equities derivatives markets – in which liquidity in any given instrument historically centered on a single exchange – began to fragment with the introduction of the US RegNMS in 2006 and the EU’s Markets in Financial Instruments Directive (MiFID I) in 2007. Today, equities liquidity is spread across a range of venues, including broker crossing networks (BCNs), multilateral trading facilities (MTFs) and systematic internalisers (SIs). These venues use a range of matching methodologies, ranging from central limit order books (CLOBs), to request-for-quote (RFQ) and auctions, some of which are structured as multi-tiered D2C markets. This creates more fragmentation as liquidity cannot be easily aggregated across different methodologies.
As a result of this convergence in structure, participants across the two asset classes face both single-tiered and multi-tiered market structures and a range of matching methodologies across multiple diverse trading venues. To address this emerging landscape, market participants are adopting new behaviors and trading solutions, with functionality that has been refined in one asset class adapted for the new context. Often that means that the core requirements and capabilities of trading tools for flow FX and equities are also converging. Recognizing the similarities between the markets – and enabled by changes in the technology function set – broker-dealers are beginning to consolidate their previously separate FX and equities trading desks.
Technology suppliers, in turn, are responding by offering multi-asset trading solutions that allow broker-dealers to refresh their legacy trading technology stacks while reducing cost overheads. Those firms that have opted to combine their flow FX and equities desks now have a unique opportunity to utilize a range of trading technology toolkits that are capable of servicing the needs of both asset classes while also accommodating their remaining, marginal differences. Firms need to assess their own situations before deciding which approach to take in order to exploit this opportunity.
Vendor solutions tend to fall into one of three categories of approach, each with its own pros and cons: Packaged software; development frameworks; and so-called ‘Buy & Build’ systems. Market practitioners need to decide how best to take advantage of the ongoing convergence in the flow FX and equities markets, so as to rapidly deploy a fully functional solution from Day 1, while retaining the ability to customize the software to meet its needs and establish competitive advantage.