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Biodiversity And The FX Ecosystem

A recurring topic at the FX Week USA Conference recently was the proliferation of new FX trading platforms. At least eight new venues have been announced in the past couple of months (cf article on Tabb forum "Is FX Hot? The Marketplace Says Yes"). Is this a good thing? Opinions differ.

In a panel discussion ("The Changing Frontier in FX Trading") some of the participants said the proliferation is unsustainable and will have a negative or dilutive effect on liquidity. Others felt that each venue offers a specialized value proposition that can attract new players to the market, which would result in an increase in overall liquidity. One of the speakers mentioned concern about how the proliferation of venues might make liquidity harder to find in a market that lacks a central order book. Some of the venues seem to be specializing to attract a specific group of players.

I like to think of the FX market "pool" as an ecosystem teeming with life - like the Great Barrier Reef. When I was diving at the Great Barrier Reef what struck me was the diversity of all the various forms of life, coexisting yet each dedicated to the task assigned it by nature. The power of such biodiversity has made the Great Barrier Reef the world's largest structure built by living organisms.

The FX market is also a complex structure built by living organisms (us); from single bank platforms to ECNs to client-customized trading platforms, it too is teeming with activity. This is evolution at its best, with different organisms (trading venues) exploiting toe-holds on the reef. Now the question is: will they survive? As in life, not all of them will.

For the venues to thrive, they must have customers. For customers variety is a beautiful thing; but access to all sources of liquidity is vital. Thus the ability to connect to these sources becomes an issue. Banks and other market participants have to connect with more liquidity sources than ever before, and the cycles of market fragmentation and consolidation create more work for the already overstretched on-boarding teams or IT integration teams. By the time on-boarding clients and banks has taken place momentum is often lost and this has to hurt the bottom line of many new venues.

Strangely it is not technology that holds up the integration pipeline. Most of the venues use the FIX protocol, and integrating to FIX is easy. But there are a number of difficulties associated with actually on-boarding new venues. There are queues in IT, every change requires changes to the related workflows, and inertia can often stymie change. Traders might be sold on a venue, but if they can't get IT resources, they won't be able use the venue. Regardless, with most organizations, on-boarding takes time. This begs the question: Is there a better way to industrialise the on-boarding pipeline?

Some banks are beginning to look for ways to outsource their on-boarding functions. FX SpotStream is one example of how banks approach this - providing a spot aggregation and access via a single API for customers to access multiple liquidity providers. smartTrade's LiquidityFX is another example, providing packaged aggregation and smart routing to any combination of single dealer platforms and ECNs. By letting vendors like smartTrade handle the connectivity and workflow, market participants can get connected to new venues more quickly and reliably.

Only time will tell who survives in the FX ecosystem. Many types of FX venues can coexist successfully in the pool if they have sustenance - customers.

See also "Opportunity Amid the Storm: Mid-Tier Banks and FX" on smart-trade blog.