In what both companies describe as a “landmark agreement”, Reuters and the Chicago Mercantile Exchange (CME) have announced plans to provide access to the CME’s electronic foreign exchange (eFX) markets on the Reuters Dealing 3000 screen. Provision will be in a spot-equivalent format and a phased roll-out will begin in the fourth quarter in London and continue across Europe, Asia and north America thereafter. Take-up is expected to require only minor adjustments to Reuters workstations.
The agreement has been well received by market participants. Julian Knight, head of FX trading at Fimat UK, says: “I’m very enthused by this. I’ve been in currency futures for 10 years, and this is a really important punctuation mark to that decade. I’m really excited.”
Competitive edge
Mr Knight also suggests that Reuters has achieved a clear competitive advantage by linking with the CME. He says: “More or less, the battle’s won here. I’m lost to see how EBS and others can come back at this. It’s a clear run for Reuters.”
Rival EBS has responded by releasing a defensive statement: “EBS, as part of its research and strategy activity, keeps a close eye on FX industry developments. EBS has been talking to the CME, along with other potential competitors, seriously for some time. We remain confident, however, that the relationship-dealing model and our EBS Prime offering are far more aligned with customers’ needs and those of the markets as a whole.”
Responding to demand
The significance of the CME/Reuters agreement, however, goes beyond its immediate details. First, it is a direct response to customer demand and second, it is designed as potentially an initial step – signalling a more dramatic evolution of electronic FX trading. Rick Sears, head of the FX product group at CME, says: “This is absolutely demand-led. For quite some time, we have been asked by the banks to align our futures products more closely with the FX cash space. The agreement is driven by a greater demand to trade currencies generally, whether via futures or cash.”
Mark Robson, global head of treasury and fixed income at Reuters, says it is possibly the first of several developments: “The CME is obviously very successful at short-term interest-rate products too. In terms of the alliance, we are interested in taking it further. We are also very keen to make sure we just succeed with the first step.” He points out that the CME/Reuters agreement is not a completely new step for Reuters, and cites past initiatives such as those with ICOR and eMID. However, he says: “Doing this in our absolute core marketplace, FX, is certainly on a different scale.”
The way forward for Reuters, Mr Robson suggests, is to complete the roll-out process and then consider whether to add more products. “As we make a success of the initial objective, which is around FX, we’ll check with customers and I think we’ll find that customers in the short-term interest-rate space may well benefit similarly from accessing Eurodollar futures on Reuters’ platform. And the agreement is non-exclusive on both parties. So what’s Reuters’ vision? We see that we serve a valuable role in aggregating access to multiple execution venues,” he says.
This suggests that other execution venues might expect a call from Mr Robson. There is a further competitive point being scored here, with the mention of Eurodollar futures. Fimat’s Mr Knight says: “The agreement is going to bring liquidity to pairs where historically Reuters hasn’t been useful; Eurodollar is one. And Eurodollar liquidity on the Globex (CME) platform is as good as that on EBS, certainly in the middle of the day.” He also says that there is nothing to stop EBS linking up with, say, Eurex to offer a currency product. “Although that would be six months or more down the line.”
Potential catalyst?
While the CME/Reuters agreement may lend itself to an assessment on its competitive impact, it should also be viewed for its potential as a catalyst for change in FX trading overall.
For Reuters, it is explicitly a first step in an ongoing process of, as Mr Robson puts it, aggregating access to multiple execution venues. The key here is aggregated access, but there is also much to discuss on the subject of execution and, by extension, settlement – not least the significant detail that CME’s eFX prices will be delivered to the Reuters Dealing 3000 screen in spot-equivalent format (thus, in Mr Sears’ terms, aligned with cash). Taken with the further detail that straight-through-processing of eFX trades will be done using Reuters’ Ticket Output Standard (TOF) standard, this begins to look like an initiative to make FX trading both comprehensive and easy.
CME initiative
Mr Robson admits that, although both parties were thinking along similar lines even before they talked, the agreement was first suggested by the CME. “If you ask the CME, I think it would be fair to say they approached Reuters. However, for some years now, I have been keen to move down this path and enable our customers to access liquidity from other execution venues,” he says.
Before any discussion of Reuters’ aggregated-access model, therefore, the question is: what is the CME’s vision? And what impact might the combined vision have on FX markets?
For Terry Duffy, CME chairman, liquidity is key, in the specific sense that the agreement brings together the buy and sell sides and effectively breaks down barriers between market participants. Says Mr Duffy: “When you look at what the CME and Reuters have been able to achieve in marrying together the pools of liquidity from the buy side and the sell side, you understand that the agreement will be mutually beneficial to all parties that trade FX.”
It’s this marriage that counts. But these aren’t just two big, roughly equivalent pools of liquidity; Reuters brings to the altar a customer base derived from the mainstream interbank FX market, while the CME contributes a different group to the union. “Having the Reuters customers trade our markets will give the managed funds, the hedge funds and the commodity trading advisors (CTAs) a deeper pool of liquidity in which to participate,” says Mr Duffy. It’s a marriage between the mainstream banks on the one hand, and on the other, predominantly, the alternative investment community (the CME’s customer base is 50% hedge funds and CTAs).
There are issues here. Access might be eased, but what about credit and risk management? First, as Mr Sears points out, this partnership is demand-led, with much of that demand coming from banks wanting to bring futures into their FX cash space.
He says: “People see an increasing importance of the buy side to the trading dynamic. It used to be the case that the majority of positions were run by the banks. Now, clearly, the power in the market is coming from the buy side. Our natural customers are the CTAs and the hedge funds, so we have that.”
Two related factors are that FX is now widely regarded as an asset class rather than a risk factor and, as assets under management by the fund industry expand (according to Mr Sears it has risen from $600bn to $1000bn in the past three years), there is an increased appetite for currency hedging among the asset managers.
Question of constraints
But the big banks typically have systems and procedures to stop their FX traders over-committing to poor credit trades. If this vast marriage is going to work, the implication is that a lot of the parties to it are going to have to relax their credit riskconstraints.
In fact, the solution to that potential problem is the key to the whole thing. The combined CME/Reuters vision is effectively that, while Reuters provides easier access to the wider range of trading opportunities, the CME enables that trading to happen by offsetting the credit issue. It does this by virtue of its ability to offer credit intermediation. Mr Sears says: “Discussions always seem to morph into discussions about a central counterparty. Going to an exchange model entirely for FX trading may be very much open to question, but there is little doubt we’re moving towards a central counterparty.”
Lifting barriers
In effect, the agreement offers a method of removing credit as an obstacle to the search for fresh liquidity. Volumes are also upwardly mobile (the CME’s eFX volumes are up 150% over the last year; the CME currently trades around $25bn per day), but the final point in favour of the agreement is that it brings a regulated product to a market with an appetite for regulation.
Mr Knight says: “This gives us a fully regulated product that is transparent, open to all, accessible to all, and extremely liquid. And the timing is very canny. The FX market was rocked by a couple of scandals late last year, in short-dated forex, so coming in now, this satisfies all the regulatory potential issues in one fell swoop.”
So it’s an agreement that introduces an easy but well-regulated trading opportunity at the broadly unregulated end of a very large market with an appetite for regulation.
It’s accessible, it’s liquid and it offers a hedging opportunity while substantially answering the range of credit-related questions that might otherwise hinder its take-up for that and other purposes. It is explicitly a first step in a process being carried forward by parties whose alliance does not preclude other alliances and other initiatives. Does it represent a precedent that other FX participants might follow? Watch that screen.
