One sector that hasn’t suffered is forex trading, and that could bode well for the industry as it has already faced some added regulations.
“There have been two types of changes. The client facing changes have improved the reputation of the market, particularly in regards to margin restrictions,” says Betsy Waters, global director of dbFX. “The margin restrictions were geared to tiny micro accounts where investors were leveraging up to 400 times. These changes have helped to bring more credibility to the retail foreign exchange market.”
Waters adds that the capital requirements for the forex dealing firms has caused greater consolidation in the forex world and also has improved the space. “Investors don’t understand that they have counterparty risk. These capital requirements are making the counterparties more stable with less risk to the investors.Whether you can attribute the growth to new FX investors or simply market volatility, it certainly hasn’t hurt as forex is one sector that has done well in 2009. “Our business has been growing throughout this year,” Waters adds.
As we noted, the shift to cleared OTC offers opportunities to non-bank FCMs. Dan points out that firms that don’t do proprietary trading and have exotic products on their books are at an advantage. “We don’t directionally trade, we don’t compete with customers, we don’t have conflicts, and we try and be very transparent with what is on our balance sheet. The only level three assets (non liquid) we have are exchange memberships. That contrasts sharply with our bank competitors. Their level three assets as a percentage of their portfolio are 150%.”
Dan adds, “We don’t have any of that risk at MF Global. Our bank competitors have level three assets that could be commercial real-estate property, condominiums in Florida and all the things that have no liquidity. We want to be a compelling alternative to the banks.”
Although the move to cleared products could allow non-bank FCMs to better compete, Chocano says, “Major OTC dealers will most likely continue to be the dominating players in this space as clients will still want to face off to the largest liquidity providers with the largest balance sheets.”
Another move smaller FCMs or niche players are making is using their speed, not girth. Nagel points out that Dorman is the primary purveyor of a cleared hurricane product offered through Weather Risk Solutions on CME’s Clearport because after Lehman failed, another large bank needed 60 days to do its
“We made a deal within an hour and we are the primary purveyor of this hurricane product. It has not been terribly successful but you can come to us and get a decision.”
He adds that people like clarity, especially after the credit crisis where there were many failures from trading opaque products few understood.
“We are strictly a futures clearing firm. There is no complicated organizational chart,” Nagel says. “You can go to the CFTC’s Web site and see exactly what we have. All of our investments are at the CME clearinghouse or at Harris Trust in Treasury bills and cash, so there is a question of clarity here instead of size, which I think
That may be another seismic shift — when larger firms focus on institutional-only business while the smaller firms service the retail client.
The FCM world had been on a one-way track with continuous consolidation and the goal of acquiring scale as the clarion call. While having scale and a global reach are still important and everyone likes lower fees, it appears that there is room for the boutique firm in this new world. Bigger is not necessarily better.