The Last Look…
Posted by Colin Lambert. Last updated: February 8, 2022
I have been thinking about last look, zero hold times and the FX Global Code over the past week. I will keep my promise to myself as much as anybody, not to write about LPs’ disclosures until all have had a chance to both update them, and in some cases their technology, but my ruminations did produce something I wanted to share – namely that the issue may not be solved with the new disclosures anyway.
Basically, the liquidity consumer will still be bereft of the sort of information they require to make an informed decision about how their LPs are handling their orders. I absolutely believe in the zero additional hold time, but does that hide a multitude of what might be seen as sins by some in the industry?
The fact is, for certain counterparties, there are natural latencies – a trade by, for example, an Australian counterparty trading on a London, New York or Singapore matching engine will encounter delays, it’s a physical fact. This naturally means that some counterparties will have longer round-trip times than others.
Two or three LPs I have spoken with have said how they are grappling with the problem, and one, who I would suggest is on the margins of the truly top group of LPs, believes there is an imbalance developing between those who can, or are willing to, invest in the latest (expensive) technology to shave milliseconds off round-trip times between, for example, London and Singapore, and those still relying upon the “old” technology, with what is probably a 20ms latency.
The problem is, for LPs, without sustained volatility – and the past three-four weeks have been good for that – the return on investment in uber-fast connectivity is unlikely to be sufficient to make the investment worthwhile. As one LP argued recently, the industry has existed with the “fast enough is good enough” mantra for a long while now, why can’t it continue?
Looking at US equity markets in particular, I don’t see the vast investment in the fastest technology benefiting the market. There was an interesting report in the Financial Times this week about liquidity gaps in equity markets (you can read it here but may need a subscription), which begs the question, is this the result of the HFT market makers that dominate the market using their speed to protect themselves rather than provide liquidity to the market? The claim that faster technology makes the market more robust because these players can price better looks a little thin at the moment.
So maybe the FX industry needs to nuance its approach to last look disclosures in a fashion that will make it fairer for those less willing, or able, to invest in the latest technology but who continue to play an important role in providing liquidity to the market. Rather than the “maximum/minimum” hold times that the Global Foreign Exchange Committee guidance recommends, perhaps LPs should publish their average round-trip time – along, of course, with the commitment to no additional hold time.
If LPs publish an average round-trip time, then every consumer would be able to judge whether their round-trip times are suitable.
This would provide the consumer with a better picture of what could be expected – they could take distance into account – and for the LP provide them with “average” protection. I have spoken to consumers who believe, rightly or wrongly, it’s impossible to know, that some LPs are hiding behind a 25-5ms maximum/minimum for example, but that they are at the top end of town in terms of length of trip, even though they are tantamount to co-located.
If the LP published an average round-trip time – some already do – in the above theoretical example it could be 14ms, then every consumer would be able to judge whether their round-trip times are suitable.
This would have the further benefit of rewarding those LPs who do invest in the uber-fast connectivity, but also allow those further down the chain to provide liquidity without having to invest, or combat accusations of latency buffering – the knowledge and understanding will be there that trading with said LP may take 15ms longer.
In some ways the commitment to zero additional hold time has limited value – if an LP is already taking 25ms to check the order, what benefit does no AHT have other than to re-assure counterparties that it is not going to blow out to 100ms? Likewise, if another LP is handling orders at 0-5ms with no AHT, are they getting the benefit of being seen to be faster? At the moment, they are merely just another LP claiming no AHT.
It is probably too much work, but I would go even further and say it would help to provide averages for example trips, i.e. Singapore to New York and London to New York, so that a consumer, knowing where they (hopefully!) and their LP(s) are located, can more accurately judge whether their round trip times are fair or whether an LP is, surreptitiously adding a few milliseconds to their feed?
I have had conversations with clients of LPs who are yet to adjust their disclosures or who, in the case of one, have publicly stated there is an additional hold time still, who believe that the LPs are playing games. I would suggest in the current climate, where conduct is everything, they are not – they are merely poor at either changing internal processes and getting documentation out, or their messaging is wrong (it could be both).
The fact is a great deal of flow in the FX market is subject to last look, and too many consumers are overlooking the critical word “additional” in the updated disclosures. Orders are still subject to latency and I am fine with that, as should consumers be, but it would be more than helpful if people had a clearer idea of how their round-trip times compare to their peers in similar locations.
We have the data and the technology to deliver this, so maybe the industry could get ahead of the Code and create a de facto standard for last look disclosures that provides both a true, and granular picture?