Deutsche Asset Management’s global ‘hub and spoke’ model began development three years ago with the introduction of a trading desk in New York for the Americas. Last year a trading desk was added in the UK as an addition to the central Frankfurt hub, and this year a further desk was opened in Hong Kong. There are advantages to this ‘follow the sun’ trading approach. Prior to this, in Frankfurt we had to operate very early and very late hours which, from a coverage perspective and an investment technology angle, were difficult to manage through a centralised hub 24/5. In addition, the relationship between our traders and PMs as well as our brokers, was not as intense as it might have been with a live trading desk on the investment platform in the regions.
Regarding FX as an asset class in its own right has remained a clear industry trend after 2008 as well when we started working on a new execution concept by analysing the internal and external flows for the product across our various departments. Our goal was to centralise flows at a dedicated execution centre of excellence. Secondly we always wanted to leverage the rise of electronic trading in the industry enabling investors to access markets that were once the preserve of a few major banks. For FX, we applied an efficient approach to utilise and extract the most benefit from best-in-class execution systems, especially for the very liquid currencies inside the G10. This is also true for any additional ones with similar liquidity patterns outside the G10 such as Mexico e.g. which are traded around the clock. Our aim is to execute the majority of such trades, including up to bigger bulk ticket sizes mostly using via our automated tools built in Frankfurt instead of additionally transferring trades to the New York and Hong Kong desks. As a result, more than 85% of global foreign exchange business is executed through Frankfurt. So the focus of the regional trading desks in America and Asia is, first to securities but also to provide live execution, which is not covered by European working hours. By leveraging local expertise for our global PM platform, funds receive better access to liquidity, better market colour and trade idea generation.
Since initiation of our Frankfurt FX desk our execution volume has surged. It is now possible to absorb significantly increased ticket numbers, as recently experienced on a single Brexit event, via our continuously enhanced execution technology without adding additional trader headcount. The biggest improvement for the Deutsche Asset Management investment platform has been the global installation of a new order management system (OMS) which has enabled us to operate trading, settlement, and portfolio management functions on one unified data platform without any of the interface problems we used to experience when those departments all operated on different systems.
Now there is an OMS for the whole global platform of Deutsche Asset Management and there has been significant improvement, particularly in the handling of OTC products. On top of the OMS, there are different execution management systems which are applied. Deutsche Asset Management’s central trading hub in Frankfurt has always aimed to trade in as automated a fashion as possible. However, the majority of FX trading volumes in Europe are still executed with a manual touch of experienced traders’ expertise through competitive RFQ, RFS or via direct broker lines. Nevertheless almost 30-40% of the order business is already executed in an automated manner without human trader intervention. For such small- and mid-size ticket business we utilise traditional hourly fixings, such as the WMR, in addition to automated RFQ channels.
The fixings business has been in the spotlight over the past two years and new regulation has been successfully introduced to cover this area. As a result, the industry has experienced a stabilisation of the fixing offerings through new FSB regulation. If we examine volatility and liquidity profiles for those hourly fixings, there used to be unusual spikes so we decided to avoid certain fixings with irregular volatility profiles prior to the FSB modernisation. Since the new regulation, there have been almost no abnormal volatility patterns and the impression in major parts of the FX industry is that the new regulation has taken this product out of the spotlight and stabilised it with very solid results for our benchmark investors in need of a low-cost point-in-time execution.
Regulation and TCA Data
As trading in FX becomes more automated and fragmented across brokers and venues, the need for transactional data analysis is increasingly being fuelled by regulation and market structure complexity. Today, at Deutsche Asset Management our execution and brokerage governance process is extremely rigourous. Our governance committee meets monthly, it is made up of all member departments of our investment and support functions including portfolio management, risk, settlement, and compliance. They work to verify that the firm’s fiduciary policies and procedures framework are addressed appropriately whilst trying to achieve the best trading results for our investors.
Transaction cost analysis (TCA) needs to be seen within this context of optimal execution for the various investor groups across our main client pillars in Active, Passive, and Alternatives investment management. In addition to our internal TCA we constantly evaluate what independent TCA providers can do to support our pre- and post-trade analyses. Conceptually we try to approach TCA from two angles; in addition to measuring against indicative reference prices provided by Bloomberg and Reuters as a standard, we additionally modernised the framework for executable reference prices for the growing number of trades in competition. In this context we refer to performance analytics rather than TCA which implies a ‘cost’ and does not suggest any savings for buy-side traders. Everyone in the industry knows that there’s still much work to be done but we feel we are on the right path: striving for more transparency which will result in better conduct. Regulation is important because it ensures that all industry participants are in-line with certain fundamental standards.
When I started at Deutsche back in 2000, there was already a conduct framework of policies and procedures that we were required to follow on the sell-side – as well as on the buy-side where I moved in 2004. Such a framework was not in place industry-wide however, and a new Global Code of Conduct for the FX industry was just released in its first version by the BIS, supported by the major central bank’s FX working groups, covering both the buy- and the sell-side including best practices. Major input for the GCC was delivered through the ECB’s FX contact group here in Frankfurt where Deutsche Asset Management is a member. A significant code work exercise has been undertaken with a well acclaimed first result showing how serious the FX industry has been undertaken this opportunity to improve and change for the better.
Within the asset management industry, there are also some considerable changes taking place around the use of data. Under the new regulations the buy-side will be required to ensure that this data is available to clients as well. At Deutsche Asset Management, the data has always been available because we have always used it to see where we are profitable, where we can automate further, or where it makes more sense in an illiquid emerging market asset class to have an experienced trader executing our trade. That is why we try to attach experience and skilled traders to larger and more complex transactions on the one hand, and automate trades where there doesn’t need to be a human touch on the other.
Building on the model
Moving forward, the approach Deutsche Asset Management will continue to take in FX is to look at the different liquidity profiles of the underlying pairs and analyse how to handle each of them in the most efficient way. Then it is important to select the right business partners to support our efficiency in executing the bucket. We have seen various providers exit certain areas in the past few years because they were not relevant to their business model anymore. For example, instead of attracting massive volume, some banks only want to support the tier 1 real or fast money clients on their platforms. MiFID gave us a duty to change the picture to achieve the best execution framework of a competitive broker list and not only use internalised channels even through custodians. We now have a very competitive broker list where 90% of our FX business in Frankfurt is executed with the top 20 names on the Street. This is a very efficient way of using the top providers as the average execution cost is now only a third of what it used to before the initiation of our desk. In spite of liquidity fragmentation we are currently still in an environment where we can benefit from technology enhancements and the narrowing of spreads achieved through the major industry trend of digitalisation.