Remember the FX Global Code of Conduct? – Yes, the document which got published almost two years ago by the Bank of International Settlements. It was supposed to usher a new era for global foreign exchange trading after the FX fixing scandals tarnished the reputation of the industry.
It actually does already serve its purpose, primarily with an additional regulation layer in the relationships between the buy and the sell side of the FX industry. The institutional side of foreign exchange with all major prime brokers and electronic trading platforms conforming to the standard.
While retail clients are not covered by the code, retail brokers are. A key aspect of the document, however, is that participation is voluntary. The idea behind the construction of the FX Global Code of Conduct was that as sign up, so will commercial banks, followed by the prime of primes and ultimately retail brokers.
The adoption among central banks globally has been widely spread out. Commercial banks which are constantly dealing with FX followed through and are largely committed to the document. Electronic trading platforms and have been actively engaged too.
Once we get to the prime of the prime of prime section of the retail FX industry things are becoming different. To date only three non-bank prime of prime brokers have signed up to the code. Granted, there are those which are themselves bank subsidiaries, and this number excludes them, but the number is still too low.
Coverage of Retail Brokers
Buy-side firms on the institutional side of the industry started choosing their partners based on their adherence to the code about a year ago. The structure of the FX Global Code of Conduct was designed to eventually trickle down to all participants.
That said progress has been slow since the adoption of the Code in 2017. The trickle-down effect across the valley chain of the industry which is integrated into the code is slowly accelerating the more participants sign up to it.
Currently, 830 financial institutions have committed to the code. These numbers include central banks, commercial banks, non-bank liquidity providers, brokers and investment advisors, technology and infrastructure providers and others.
The speed of the adoption is rising sharply in recent months and in order to avoid being ill-prepared, prime of primes, retail brokers and technology providers to the retail industry might need to look into signing up.
The code is not complex and it’s very proportional in terms of its application. The expectation is that the company will follow basic ethical principles within the organization.
Risks to FX Industry
In the midst of the ESMA regulations cascading through the industry and forcing many players to rethink their approach to the market, those firms that sign up to the code can actually gain a significant advantage among those lucrative clients that can reclassify to professionals.
Two particular points are important – firms that sign up to the Code can not behave in a way that causes the triggering of a client’s stop-loss order. Also, they can not execute in an environment which can cause market disruption.
Only these two basic principles are already having a big effect on the trading experience of retail clients which according to a recent Greenwich survey constitute about a third of global FX trading volumes in spot FX.
The risk warehouse which retail FX has become a fundamental part of the foreign exchange market. Right now the FX industry can not afford to be seen by regulators are a sector of the market which exacerbated flash crashes to the extent that complex multiyear derivatives may be triggered.
If the markets overreact in times of illiquid conditions, the retail FX industry can become a scapegoat which is the last thing it needs during this difficult transition period due to new regulations.
Adhering to the FX Global Code of Conduct is ultimately beneficial for all market participants. While there is a controversy as to how far it should have gone on some measures, the current document is the best we have and avoiding it for too long can only lead to more scrutiny.
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