The Last Look…

The closure of EBS forwards by CME Group feels like a big issue, but probably isn’t, mainly because the conditions required for a successful continuation of the business don’t exist at this time.

It remains one of the mysteries of the FX market to me how FX swaps have not, to the degree I expected, been electronified. B2C flows have definitely moved more online, and frankly have been for several years, but the low hanging fruit, the dealer-to-dealer flow, remains somewhat elusive.

LSEG FX does not provide sufficient granularity in its volume reporting for a factual assessment of the situation, but luckily a lack of hard facts has rarely stopped me, so anecdotally it is fair to say that the vast majority of the flow on Matching for Forwards is in the very short-end. More to the point, even here, the volumes haven’t exactly soared, for in 2023 the non-spot average daily volume was just under $347 billion per day. Then-Thomson Reuters experienced a jump in 2018 turnover in non-spot, but since then the average has been around the $344 billion per day.

The other platform to publish data is 360T and using a flat exchange rate and taking out NDFs, which are reported by the platform separately (yes please LSEG!), that venue has experienced growth over the past five years of some $30 billion per day in FX forwards and swaps.

EBS was no doubt seeing some FX swaps volume, but the sense is it wasn’t enough – more importantly, CME did not see it growing any time soon. And this too, is something of a mystery, because there is no doubt that over the past five years, FX swaps volumes (and outright forwards for that matter) have grown substantially.

Just taking the BIS Triennial surveys as the source (and the indication from the local FXC semi-annual surveys is that volumes since are broadly similar), FX swaps turnover between April 2019 and 2022 rose by some $600 billion per day. In addition, outright forwards rose by another $165 billion.

There are a lot of moving parts in trading FX swaps, and CME’s decision is just the latest example of how technology has not yet managed to credibly incorporate them

That is over three-quarters of a trillion dollars being executed away from the dealer-to-dealer venues and the obvious inference is the growth is client-related and unlikely to go through the dealer-to-dealer platforms, but that would be wrong. The BIS data indicates that the vast majority of that growth (more than $500 billion) was in the Reporting Dealer segment. It should be noted that several ‘reporting dealers” in the BIS survey are in reality clients of the top tier banks, but even so, that is a serious amount of volume going through where?

The question is reinforced when looking at the CLS data. We do not yet have the December data so cannot assess it on a full year basis, but even taking into account a 10% drop from November, CLS will have handled almost $240 billion per day more in FX swaps in 2023 than it did in 2020. The data is just as stark in the outright forward segment, where CLS will have seen an almost doubling of activity, some $100 billion per day, over the same period.

Against this backdrop where no-one in the platform world, with the exception of 360T to a degree, is picking up even a reasonable chunk of this growth, CME’s decision looks a sound one. The technology on EBS Direct, the main platform for forwards, was seen as in need of an upgrade, which it recently received, and the functionality seemed quite popular as well, the likelihood is it was just not required by enough customers.

If you throw in the cost of regulatory maintenance, there are SEF, MTF (in Europe and the UK) and other rules that need adhering to, the only way the project could feasibly continue was if it managed to either hit volume levels in the hundreds of yards per day area, or it could attract longer dated trades. Neither seems likely in the near future at least – and that is potentially a warning to other would-be providers looking at the space.

Sources at CME suggest that exiting the forward market allows EBS to focus on its core products, spot and NDFs, both of which are in the midst of change in terms of business structure and product offering. CME is also about to launch its FX Spot+ platform, which utilises FX Link, and therefore may have a role to play in grabbing any additional forwards flow that is electronified.

In FX swaps at least, the power still lies with the brokers – do they have it in them to change?

Effectively, CME – and this is something the Merc has never been afraid to do over its history – is exiting a low margin business that probably could have continued to earn revenues, but not to the degree that it provides any real difference to the bottom line. As noted in our report on the closure, the forwards platform was maintained by a third-party, that would have involved cost for CME. It also goes against what CME has been trying to do since buying EBS and BrokerTec, bring the tech to Globex. The cost of transitioning the forwards from an external source to internal would have been significant and, more pertinently perhaps, provided more stress for over-worked tech teams at the clients if yet-another transition project had to be undertaken.

So for CME at least, this move makes all the sense in the world, but the big question is what does this tell us about the evolution of the FX swaps market?

Actually, in the big scheme of things I am not sure it changes much. I remain confident that more FX swaps volume will go online, and that there is existing room at the other providers to accommodate it. The major players in the market like fragmentation, it provides an advantage to those with the connectivity resources, but in something like swaps, two venues would probably suffice (and others have capabilities if required) – and there would still be the leverage over the platforms if, for example, brokerage soared.

There is one other factor of course, that is playing a big role in the relative lack of electronification, and it is one that, to an old market salt like me is great – the voice brokers. At the end of the day, I think what we are seeing is a glaring gap in the technology that would give FX swaps dealers at the banks, the confidence to trade online in real size. They want to trade at or close to mid with each other (on a spread with the clients of course) and they want a trusted middle-party to help establish the amount to be done.

The bottom line remains there are a lot of moving parts in trading FX swaps, and CME’s decision is just the latest example of how technology has not yet managed to credibly incorporate them. This means some very tech-savvy firms have tried, and thus far not succeeded (which is different to failure), to bridge the gap to an electronic market.

The really intriguing question here is what would happen when, or more likely if, an inter-dealer broker convinces its brokers and clients that a fully-electronic world is viable and not threat to them? In FX swaps at least, the power still lies with the brokers – do they have it in them to change?

colin@thefullfx.com