Taking Advantage of the Forex and Equities Market Convergence

Over the last ten years, the shifts in the flow Forex (FX) and equities market structures are driving a convergence of the two. Because of these shifts, participants in both asset classes tend to face similar methodologies and market structures, and both are spread across a varying set of trading venues. This is a situation that is ripe for leveraging benefits, specifically via the use of new technologies in trading.

Flow FX and equities markets at a glance

The flow FX market – which includes spot, listed FX forwards and futures and vanilla OTC – was structured as a multilayered market with a focus on dealer-to-client venue trading that is supported by dealer-to-dealer platforms used by banks for risk management and hedging until the early 2000s. This particular structure had fragmented liquidity, with buy-side firms using just a few broker-dealers for FX activities. In the beginning of the 2000s, the increase in liquidity aggregation in FX resulted in a system that more resembled a typical all-to-all structure of equities derivatives and cash equities markets.

At the same time, the equities derivatives markets started to fragment upon the introduction of 2006’s RegNMS from the US, followed by the European Union’s MiFID I just a year later. Today, equities liquidity spreads across many venues, including multilateral trading facilities, systematic internalizers and broker crossing networks. The venues use a wide array of matching methodologies, including auctions, central limit order books, and request-for-quotes. These create even more fragmentation because liquidity is not easily aggregated across multiple methodologies.

Due to this structure convergence, participants in both asset classes have to deal with multi-tiered and single-tiered market structures and an array of matching methodologies spread across trading venues. To get a handle on this emerging landscape, those in the markets are now adopting new trading solutions and behaviors, with functionality that was refined in one asset class being adapted to the new context.

This often means that the core capability of and requirements for flow FX and equities trading tools are also converging. Seeing the similarities between the two markets, which have been enabled by tech advancements similar to the FIX engine, broker-dealers are now starting to combine their once-departed equities and flow FX trading desks.

Tech to the rescue once again

Tech suppliers are responding to this trend by offering trading solutions that handle multiple classes and enable broker-dealers to refresh their stacks while lowering overhead costs. Firms that have chosen to combine these two desks now have the chance to use a range of tech trading tools that are able to serve the needs of both asset classes and accommodate their remaining marginal differences.

Firms should take a look at their own situations before deciding what approach to use to take advantage of this particular opportunity. Like with the introduction of the FIX engine, the adoption of new technology takes time, but it is ultimately worth the effort in many cases because of the increase in efficiency and reduction in cost it provides.