EBS’s Gil Mandelzis Talks Liquidity, Institutional FX, and the Coming ‘Decade of Aggregation’

Yesterday evening, Fintech Meetup Israel held a networking event with the focus on the Forex industry. Keynoting the evening was

Yesterday evening, Fintech Meetup Israel held a networking event with the focus on the Forex industry. The event brought together around 80 professionals in the Israel financial space, including members from Forex Magnates, to hear speakers from the Forex industry explain opportunities in the sector. Keynoting the evening was EBS CEO and Traiana Co-Founder Gil Mandelzis who spoke on ‘Current Trends in Institutional FX Trading’.

Gil Mandelzis, CEO, EBS
Gil Mandelzis, CEO, EBS

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Mandelzis centered on the emergence of algorithmic trading and how it’s shaped the direction of the industry over the decade and its results. He explained that FX was a late entrant to electronic trading, with key players only coming on board after 2000. Before that time, the vast majority of trading was interbank, with volumes dominated by fewer, but larger sized orders. As the electrification of the FX market ensued, it led to a breakup of the existing system and the arrival of multi-dealer liquidity venues. The arrival of algo traders on these venues then led to an increase of overall volumes as spreads and ticket sizes decreased, but transactions rising. The affects were similar to other asset classes where algo trading was a driver of lower spreads, primarily based on the increased benefits it offers to these types of traders.

Mandelzis explained that after 10 years of electronic trading, the results on the FX market are mixed, as he stated “Spreads are lower, but firms need to make huge investments to stay ahead. If you don’t, you can’t compete in the market.” He added that it also led to a decrease of real liquidity with “algos chasing other algos.” As a result, Mandelzis explained that the increase of algo traders made it more difficult for large orders to be filled on multi-dealer platforms, as liquidity would move away when these orders hit the books. This in turn led to a return to the single dealer platform relationship based trading systems. According to Mandelzis, some of the effects of aglo trading on the market were so negative, that he related that in a recent trip to Japan, clients explained that they were going back to trading the old fashioned way, even as technology has advanced, as he said “Japanese clients told us that they were returning to voice trading. This is in 2013 that this is happening.”

As an outcome of the mixed results, Mandelzis explained that electronic FX venues are looking at ways to improve the trading conditions for real liquidity, and this has led to a “revolution of dynamics between real and algo trading liquidity.” In regards to EBS, the trading platform embarked on moving away from decimalization last year, which according to Mandelzis led to higher top the book market depth, and “for the first time in six years, natural liquidity is increasing at EBS.” He added that implementing randomized execution (more on that here) was the next step in increasing real liquidity and driving algo trading volumes lower.

Moving towards the future, Mandelzis explained that the current dynamics of the FX markets are changing, with a commoditization of trading taking place, and liquidity being sold from bank to bank. As opposed to in the past, where trading was a key driver of banks profits, we are moving towards a period where revenues are sales driven, as he said “trading and risk is being offloaded to other players, with sales and markups the main revenues. This is leading to a fierce completion between clients.” He added that in the past, a platform provider could be looking to gain between $20-30 per million (p/m), while a bank could net $100p/m. However, the competition has come to where platforms will receive $1-2p/m, and bank margins falling to $10p/m. Mandelzis explained that “scale is more important than ever”, and cited Thomson Reuters acquisition of FXall as an example. He also explained that as banks offload risk to each other, we are going to see only a small number banks and non-bank dealers that will become the sources of liquidity for the entire market.

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On the point of reduced fees and consolidation, Forex Magnates asked Mandelzis of whether he believed we would see further consolidation and the exit of weaker players from the industry. Mandelzis responded that the “fee structure doesn’t make sense for many firms at $10p/m and below.” He added that “we won’t necessarily see firms die out but there will be a move from one or two firms dominating pockets of the industry to four or five main companies involved in all areas of the business.” He cited how in the past EBS and Thomson Reuters were the main leaders in institutional FX, FXall and Currenex having a hold among corporates, and State Street’s FX Connect dominance with asset managers. But as we go forward, he believed the lines between sectors will come down with four or five main players serving the entire industry, and smaller firms targeting specific niches. (In addition to EBS, he named Thomson Reuters and Bloomberg, among the firms he expects to ultimately be the main large multi-sector players in the FX industry)

Decade of the Aggregators

As the dynamics in FX change, Mandelzis stated that he believed that aggregators will become more important in the future and coined the next decade as the ‘Decade of the Aggregators’. This belief is part of EBS’s role out of its EBS Direct relationship based platform as well as recently announcing the release of proposals for best aggregation practices and the launch of a Certified Aggregation Partner Program. Mandelzis explained that this trend is going to primarily benefit the likes of third tier banks, which he called ‘losers’ of the past decade that was dominated by the uptake of electronic trading.

During the past decade, third-tier banks were at a disadvantage due to the rising investment needs to keep up to date with electronic trading. As a result, firms that wanted to offer eFX to their clients relied on third-party platforms from leading banks. While providing them FX coverage, it cut them out of the profits. However, with aggregation costs declining, third-tier banks now have access to more cost efficient platforms to offer their clients. Mandelzis explained that in the world of sales driven profits, the dynamics fit well for third-tier banks, as they already have in place an established client base as well as sales and support staffs to provide customers added value for their FX offerings.

Areas of Growth

Moving away from discussing solely the institutional FX sector, Mandelzis provided opinion on three areas of growth in the market. First, he noted that retail will become a greater player in the FX market, and volumes could reach 50% of totals in 10 years. This is well above the current estimates of around 10-25% of the market. Mandelzis explained that retail FX still has very low penetrations in much of the world and is poised to keep growing.

A second area of growth was in emerging markets. He explained that India, Russia, Brazil, and China represent growing opportunities, and cited EBS Market India as one of their initiatives to take advantage of this trend. In regards to Russia, Mandelzis mentioned that with the ruble expected to be included soon under the list of currencies covered by CLS, it was poised to lead to increases of FX trading in the country. Last, Mandelzis explained that regulation, and specifically providing services to help firms deal with changes in regulation was an area of growth. He cited the demand Traiana was seeing in regards to Dodd-Frank compliance.

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