The Last Look…
Posted by Colin Lambert. Last updated: January 30, 2024
SEC chair Gary Gensler is not, in my view, a particularly markets-friendly administrator, which made me nervous when I heard, for the first time in a while thankfully, that he had dipped his toes back into the FX pond.
In a speech last week, Gensler stated, “I think it’s appropriate for regulators and market participants around the globe to start to consider the possibility of shortening the settlement cycle for currency trading. Currency markets worldwide currently settle T+2. Particularly if Europe and the UK were to join the major markets of North America and Asia in moving to T+1, we should start to engage now in conversations, along with central banks, about the possibility of shortening the currency trading settlement cycle.”
Previously I have been responsible for a magazine cover that asked the question, alongside a picture of Mr Gensler, “Is this the most dangerous man in FX?” My concerns were driven by what I perceived to be a rather one-eyed approach to markets on his behalf at that time, in that everything should be futurised and cleared.
The lack of a US Treasury mandate for FX meant that while inevitably futures and clearing have played – and will continue to play – a bigger role in FX markets, the core rationale for FX, hedging for real economy players, has largely been unaffected. I was nervous therefore to hear Gensler target FX once again.
I was wrong, however.
In a remarkable turn of events, I find myself actually agreeing with him – although in reality I actually think his idea is already being fairly widely discussed in FX circles anyway – I myself raised it as a question at The Full FX London conference and also commented on it in the latest 360T podcast with my friend and ex-colleague Galen Stops (listen here).
So how easy, or otherwise, would it be for the FX market to go to T+1 globally?
From a trading perspective I have yet to find anyone who thinks it is a problem, there are technology tweaks that would need to be made, but otherwise it seems a fairly easy change. The challenge will come in the workflow – as we are seeing with the US change to T+1 – but even there, a successful transition in the Americas should provide lessons for the same change in other markets.
The key is, naturally, faster payments, but even here solutions exist to allow settlement quicker than T+1, so again the problem is not one of technology, it is more one of process. It could be argued that a globaltransition to T+1 would be easier than the mess some firms are facing with half of their markets on that timeframe and the rest on T+2.
In terms of market participants, I can’t see such a change affecting prop traders or hedge funds, and the asset managers will already be settling T+1 in some markets as noted; the interesting question will be the corporates. Their demand for FX is largely based upon cashflow, so if the broader payments system is also at T+1, and the invoicing and cash management solutions are adequate, even here it shouldn’t be an issue. A lot of corporates trade outright forwards anyway, so changing the spot date will only really lead to higher (or lower) costs of hedging due to a day’s more, or less, carry.
Where the pain points will come, however, is likely to be the use of third-party solutions by the customers. Are these providers able to change their technology platforms to support quicker processing?
Looking at the American switch in May, the chief concern is not about trading, it is about taking counterparty risk or settlement risk. There will inevitably be some problems for those firms who don’t have the internal systems to actually tell them what their cash balances are, but even here a lot of banks have solutions that provide just that service – the problem is it often comes with “tied” execution, which then throws the best execution policy out of the window.
The FX industry’s representative bodies need to be on the ball and engaging with regulators on this subject now
If these cash flow imbalances disappear then hopefully the customer will have a good handle on their FX needs, but if they don’t then they probably have to swallow hard and use a different execution methodology.
It will be interesting to see where the lead for this change comes from – the sense is the buy side are not really focused at the moment, but maybe will be more so after the end of May when the T+1 change occurs and they realise that a global T+1 currency (and securities) market is a good thing.
The sell side are normally sensitive to their customers’ needs, so they may not lead the change either, because their business model is often reactive rather than proactive when it comes to building new processes.
This means the lead may come from the authorities, in spite of the FX industry’s long and proud record as a self-regulating market that responds in a timely fashion to changing technology trends. That is fine, but we do need to remember that those in authority, such as Gary Gensler, have, in the past, shown their relative ignorance of how the currency market is different to domestic securities markets. This means the FX industry’s representative bodies need to be on the ball and engaging with regulators on this subject now.
A regulator-imposed solution is rarely the best outcome for anyone – this is acknowledged by a lot of good regulators around the world – therefore the FX industry needs to make sure that amidst all the other challenges it faces, it is helping steer those in control of the move, in the right direction.
A global T+1 currency market makes perfect sense and really only reflects the advances in technology we have seen over the past decade. Transitioning to this world, however, needs to be done carefully, and with the people on the front line actually behind the wheel, rather than a regulator who only has half an eye on the issue at the best of times.