Foreign exchange (FX) market participants remain unconvinced as to the merits of using tools that automate orders to access specific pools of liquidity for the foreign exchange markets.
Despite having seen significant traction in the equities markets as the use of algo trading has proliferated, panellists examining how to measure the performance of liquidity providers in order to establish the best possible partnerships were sceptical on the use of algo wheels.
“The most reliable and robust framework is for the buy-side themselves to assess the best algo providers; that can be done on the basis of the size and liquidity of the franchise, their ability to internalise risk, their performance versus their benchmark – that’s their chosen benchmark on average, not just on a single execution but many hundreds of executions over a long period and some of the post-trade TCA providers can help with assessing that,” said Ralf Donner, global head of client FX algo execution at Goldman Sachs.
“There are some sort of algo wheel-type tools making the rounds and I’m not quite convinced that this is the way forward.”
Of more concern to panellists was the quality of liquidity that these algo wheels are routing orders towards and if they are using the best venues possible for execution, according to Kevin Kimmel, global head of eFX at Citadel Securities.
“You can study the data to see where the lowest impact is among venues A, B and C, but if those venues are not optimal, i.e. they are just central and mid-order books, primary markets or an anonymous ECN with lots of different liquidity providers, it’s not even looking at the space where there could be better execution provided,” said Kimmel.
As such, the onus is on buy-side firms to keep in dialogue with their sell-side counterparts to examine the end points of liquidity that these algorithms are accessing in order to improve the efficiency of the algo wheel for execution quality.
What was more evident to the panel was the shifting relationships between the sell-side and the buy-side, whereby execution risk has moved back onto the buy-side in recent years, possibly as a result of historic regulatory infringements by banks in the FX space and the recent introduction of the FX Global Code of Conduct.
“That has been a pretty dramatic shift over the last few years and it’s very difficult to measure this accurately,” said Jeremy Smart, head of distribution at XTX Markets. “There is less risk taking and less appetite for risk among the sell-side.”
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