Does Pre-Trade Hedging Have a Place in a Modern Market?

Pre-trade hedging has no place in a modern marketplace, though this does not stop it from happening.

Welcome to the world of Jurassic FX. In this ancient land the new ruler is the Global Code of Conduct where the last 2 great beasts of a dying breed seek to preserve their territory. These 2 beasts go by the name of: Prehedgeosaurus – otherwise known as Principle 11, and Lastlookosaurus – otherwise known as Principle 17.

Let’s examine Prehedgeosurus first. He knows pre-hedging is it in itself a misnomer. But he must retain this legitimized front-running ability. Fast forward to Annex 1 with rose tinted examples of bygone days, when the hedge happens before the client trades and the client benefits.

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Not a cold hard 21st century example of the market becoming aware of an order before a trade is executed and hitting every bidder or offer in sight so that if the client has more to do he’s immediately off-side.

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Give me the full amount says Prehedgeosaurus – you’ll be ok…the problem with any good examples in Annex 1 is that the market that the code discusses does indeed move at a glacial pace, when the reality is that the pre-trade hedge has occurred in microseconds on one of the 50 something venues or streams available to Prehedgeosaurus.

To Prehedgeosaurus – ask your customer if they are ever happy with this behaviour and indeed whether they believe they are certain that no participant will trade against the principle of the code. I’ve asked them and they are happy that they can control their own trading and they don’t need the help of this tool so open to abuse.

So, it’s very simple – pre-trade hedging has no place in a modern, digital, electronic marketplace.

This article was written by David Mercer, CEO of LMAX Exchange.

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