Efforts to tackle the risks associated with settlement in the vast foreign exchange markets took a step forward as Icap, the interdealer broker, agreed a joint venture with CLS Group to launch a new “trade aggregation” service for forex traders.
The system will streamline the daily flow of thousands of forex contracts into a form that will make it easier for post-trade processing. It is expected to start operating by the middle of the year.
Foreign exchange settlement risk, which is the chance that one party to a trade pays out the currency it has sold but does not receive the currency it has bought, has long been a concern of central bankers.
It has the potential to introduce systemic risk into the global financial system.
The Bank for International Settlements last year warned that more action was needed to reduce settlement risk in the foreign exchange market, which has an estimated daily turnover of $3,200bn, to avoid a serious meltdown in the global financial system.
Icap and CLS Group, which handles settlement for over half the forex carried out in the over-the-counter markets, said the service was designed to address a rapid increase in foreign exchange trading by a widening group of hedge funds, algorithmic traders, and retail and institutional market participants, which had brought “substantially higher volumes [of trading] to the foreign exchange industry”.
Many of these participants are prime brokerage clients of the banks.
An “initial group” of banks has committed support to the joint venture: Citigroup, Deutsche Bank, JPMorgan and Royal Bank of Scotland.
Other significant forex prime broking banks would be invited to become part of the founding group, Icap and CLS said. Participating banks that were not in the group would be able to participate in the service, subject to the same pricing schedule as the founding banks.
Mark Yallop, Icap’s chief operating officer, said: “By bringing together the leading players in the industry and a sound technology platform, we can reduce risk and increase industry capacity to create the opportunity for very material further growth in the market.”
For Icap, the move is another sign of its determination to expand into the provision of post-trade services. The company in 2007 bought Traiana, which connects up to 50 banks to allow them to reduce their post-trade processing costs in forex.
The joint venture will be a CLS subsidiary, 51 per cent owned by CLS Group and 49 per cent owned by Icap. Technology will be provided by Traiana.