Is the FX Settlement Needle Moving?

In 2019, the Bank for International Settlements (BIS) flagged what was clearly seen by the authorities as a growing problem in FX – settlement risk. Accompanying the BIS Triennial Survey of that year was a report that a majority of FX payment obligations was being handled in a non-PvP (payment-versus-payment) environment, the BIS even put a number on it – $8.9 trillion.

At the time the BIS data was taken with a pinch of salt by many in the industry, largely because this was a grossed-up number that did not take a lot of other risk mitigation features into account – for example, internal trades, netted payments and “on-us” arrangements.

Nonetheless, what the BIS was highlighting was the existence of a settlement black hole at the heart of the FX market, which had, perhaps, become blasé to the problem thanks to the success of CLS. The problem, as has been noted several times since, is that CLS only covers a relatively few currencies and participants in the FX market, albeit, those responsible for the highest proportion of turnover.

Since the BIS raised the issue, several private sector initiatives have been launched; the BIS’ Committee for Payments, Markets and Infrastructure (CPMI) has continued to push for greater adoption of PvP; the European Central Bank has also highlighted the issue, and GFMA’s FX Division has published a guidance paper.

So, with all the continued noise around settlement risk, is the needle moving on reducing it?

The answer is not exactly clear, although it has to be stressed that the latest insight is based upon a very limited data set. In 2019, it was estimated, after all the risk mitigation measures had been taken into account, that $1.9 trillion per day of FX trades were being settled outside of PvP mechanisms (this number also includes “same clearer” and “on-us” volumes). In 2022, according to analysis from the BIS, this number had risen to $2.2 trillion per day. While the amounts at risk had risen – and this is the “hard” number at the end of the day, as a proportion of FX trading, the percentage was relatively stable. In 2019, the non-PvP amount represented just over 29% of turnover, in 2022 it was just below. In a paper looking at the issue in the BIS’ end of 2022 Quarterly Report, the actual percentage across all counterparties was put at 31% of volume.

New insight on what is, or is not, changing, can be found in two of the recent regional FX committee surveys, which have started including data on settlement risk. The Australian FX Committee report offers data for the second time, therefore a year-on-year analysis is unavailable, while the Tokyo FX Committee started providing data in April 2022 to coincide with the BIS Triennial Survey. Other FX committees also collate this data, and The Full FX understands that at least two are currently considering whether to add the data to their semi-annual surveys.

In the latest survey for April 2023, the share of Japanese transactions by settlement method indicates that 29.1% of trades are settled outside of PvP. It should be noted this is the percentage of payments, thus is not directly comparable to the BIS data, however in April 2022, the percentage was 30% – therefore a small decline is noticeable.

In the AFXC survey, just over 36.2% of the gross value of settlement obligations was non-PvP in April 2023 (some $61 billion per day). As noted, no annual comparison is available, but this is significantly below the percentage in October 2022, which was just over 43.3% (or $62.4 billion per day).

As a point of comparison, in Japan, the percentage of payments in October 2022 not subject to PvP was 34.2%, therefore it could be there are seasonal variations in play for the Australian data, however the depth of decline from October 2022 to April 2023 is largely similar in both centres.

Hopefully some of the larger FX centres will also start publishing data on what remains an important issue for the FX industry, but if and when they do, it is important to note that whatever changes in the settlement space, it will happen slowly. For now though, anecdotal evidence suggests that the needle is moving in the right direction – something that is only likely to accelerate if more PvP-type mechanisms are adopted by the wider FX industry.