Blades International’s very own Bob Blades and Jack Borland share their thoughts on Day 1 of the AFP 2021 Conference hosted in Washington, D.C.
Blades International was proud to have participated in the AFP 2020 Conference as speakers. You can view an eBook based on our presentation last year titled, The Future of Integrity and Data Analytics in Foreign Exchange, here: https://www.bladesintl.com/fx-future/
For more information, visit our website: https://www.bladesintl.com/
As inflation rates soar higher than they have been in the past 40 years, it raises the question of how financial institutions are affected and are navigating these challenging times.
Some of the top banks in the world are reporting lower profits in investment banking, where fees have fallen 46% compared to last year. Investment banking revenue has fallen between 40%-55% at certain major banks just in the second quarter of this year (The Wall Street Journal, July 2022).
However, despite the turbulence in investment banking, the Fixed Income Instruments, Currencies, and Commodities (FICC) sector of investment banking flourishes. The same banks referenced above reported an increase in total trading revenue between 11% – 32% due to a rise in FICC. One major bank has reported a 46% rise in net profit for the quarter to 1.21 billion—a higher result than the average analyst consensus. This global institution’s investment banking business performed better than its U.S. peers overall because it relies more on trading currencies and bonds instead of fees from activities such as mergers and initial public offerings. We often see the FICC sector boom under volatility while the latter (activities related to mergers and IPOs) can slow during times of uncertainty (The Wall Street Journal, July 2022).
In the last eight months, financial institutions have had lower investment banking-related fees. However, some of the top financial institutions are benefiting from volatility in their FICC sector despite the reduction of banking fees globally.
The stark difference between the two investment banking sectors and their current revenue stream can lead market participants to question just how much they are paying in service fees or markups. The Foreign Exchange market is the largest in the world and is often a financial service overlooked in identifying the actual costs (fees + markups) associated with trading.
Depending on their market knowledge, FX volume, and relationship with their FX provider, some corporate FX market participants are paying markups as high as 3% (300 BPs). This is why corporates need to identify their true FX costs and negotiate a better arrangement based on their activity. Transaction cost analysis services, like Foreign Exchange Rate Integrity®, equip corporate clients with the knowledge and market data to understand their FX costs and negotiate a better arrangement for their FX flows.
The Crypto Market has been experiencing seemingly un-ending turbulence over the past week and a half. With the most significant cryptocurrencies (Bitcoin, Ethereum, Luna) falling more than 50%, we’re beginning to see more of the “true costs” of crypto and how falling markets impact those costs.
Earlier this week, Bill Gates (who knows a bit about wealth) was quoted describing the Cryptocurrency & NFT markets as “based on the Greater Fool Theory” (Axios, 2022). In short, the “Greater Fool Theory” suggests that buying an overpriced asset can still generate a profit as there will always be someone else (i.e., the “Greater Fool”) willing to pay more for said asset in the future. Gates’ comments make sense as we often see Crypto enthusiasts either boast about getting into the market “early” or express their regrets of not getting in “early enough”—you’ve more than likely had a conversation with someone who heard of a guy who got into Bitcoin in 2016 and is now “set for life”. With crypto markets crashing as of recent, we now see some of those enthusiasts holding on to their assets with the confidence that the markets will bounce back up just enough for them to make their initial investment somewhat worth it. In light of this crypto crash, we are beginning to learn more about the “true costs” of crypto transactions—meaning, the transaction cost placed on buyers of crypto as well as crypto currency brokers themselves.
To better understand the “True Costs” of crypto, its important to define the difference between transaction fees incurred by consumers/buyers and transaction costs incurred by those who either mine or pay miners.
Costs Incurred by Crypto Market Participants: Transaction Fees
A Transaction Fee is defined as a fee that is “paid when a certain amount of cryptocurrency is transferred from one wallet to another” (Alexandria, 2022).
According to blockchain.com, your wallet “automatically calculates the appropriate fee for sending your chosen cryptocurrency”. Different currencies have different fees. For example, Ether’s fees are “static”, meaning there is typically a set fee for this coin that you can see when trading Ether. Bitcoin, on the other hand, uses a dynamic pricing system meaning fees are calculated by your wallet based on the amount of Bitcoin you want to trade.
There are additional, customizable transaction fees that can be applied when trading crypto. These “customizable” transaction fees vary based on how busy the blockchain is. Alexandria gives the example of how some cryptocurrencies, like Bitcoin, sort their transactions in a queue known as the “Mempool” (or, memory pool). When a transaction goes through Bitcoin’s blockchain, it gets sorted into the mempool; your “place” in the mempool determines how quickly your transaction is verified. Traders can pay a fee to expedite their transaction, essentially moving them up in the queue. Miners choose which transactions to verify first, prioritizing those that have higher fees.
However, information regarding true transaction fees is still limited, making the topic of crypto-related transaction costs an unclear conversation full of “I think” rather than “I know”.
As the crypto market crashes, we are beginning to see more of the true costs (and its consequences) associated with mining for crypto. The Financial Times reported how declining crypto prices and rising energy costs are causing miners to slow down. “[Miners] are feeling the pressure from two different directions: high energy costs coupled with lower revenue per [crypto coin] generated”, writes Eva Szalay of the Financial Times. According to Blockchain.com data, the total value of revenue paid to Bitcoin miners is at its lowest in over a year. Miners are less incentivized to mine for crypto (specifically Bitcoin) resulting in a lower hash rate. In fact, Bitcoin’s hash rate “has fallen 4% since the start of the week”. So why does this matter? Well, hash rate refers to the amount of computing power being used to mine for crypto. So, the more mining, the higher the hash rate within that network. Additionally, a higher hash rate increases the mining difficulty therefore increasing security (if it’s harder to mine for Bitcoin, it’s harder for “bad actors” to get into and control Bitcoin’s network). Because of this, Bitcoin wants to have a high hash rate. It’s a classic Catch-22: with crypto prices going down and miners getting paid less to mine, the amount of power (or hash rate) going into mining decreases, making Crypto networks more “vulnerable” and mining easier/cheaper. No one wants to invest in a “vulnerable” network, keeping prices low and keeping miners away. However, even with all this coming to light, there is still a lot of unclarity and opaqueness associated with exactly how much miners get paid and how much brokers take—all we know is the former is not enough and the latter is currently too much to incentivize miners.
The turbulence we’ve seen with the crypto market is hardly surprising and more so disappointing to those who viewed crypto trading as a low-cost transaction with high return. The reality of it is, regardless of the market, a cost invisible to the client is exactly that: invisible, but still present. In the case of crypto, we’re now learning that the cost goes way beyond just a fee tacked on to a transaction, showing us that if crypto looks too good to be true, it probably is. However, a positive takeaway from what we’re currently seeing happen to crypto is the importance of knowing the true costs associated with making transactions. Transparency in any market is crucial to making sure participants are holding their brokers accountable. What’s currently going on in the crypto market only further emphasizes the need for transparency, which is a good thing. For now, participants of the largest market in the world—the FX market—are wise to use FX Transaction Cost Analysis services, like Foreign Exchange Rate Integrity®, to learn more about (and monitor) their true FX costs. Most corporate clients focus on major currencies and don’t accept crypto, resulting in a higher corporate focus on FX costs. As a result of FX market participants seeing more, and gaining more insights, as to their true costs, transaction fees and markups will come down.
Learn more about Foreign Exchange Rate Integrity, visit our site.
-Paola Gasca, Assistant VP
This post references an article published by the Wall Street Journal on December 29, 2021.
A bank that focuses on corporate banking and investment services has been found guilty once more in 2021. Going back a few years to 2015, an allegation was delayed because the bank would not cooperate with government officials. After the court was delayed a year, the case was closed and was found guilty in 2015. Paying a whopping $2.5 billion, the highest anyone has paid for a penalty, but the bank did not seem to make enough changes as they were fined for the same thing in 2021.
On December 29th, 2021, the bank reported that it would not contest the fine given by BaFin for $10 million on the basis of weak controls on data submissions that aid in the European interest-rate benchmark. While they claimed there was no incorrect data inputted, the control that they have on the inputs is far weaker than it should be. This fine brings back memories from a gloomier time in Germany with their banks, as in the last decade they were fined $2.5 billion to settle allegations set by the U.S. and U.K. that traders from inside the company were manipulating global interest-rate benchmarks. This was partially because rates were given orally and not through actual transaction statements. While this new case brings back darker memories of the past with this bank, it sheds more light on how bank manipulation on rates can affect other sectors, such as foreign exchange. Financial institutions that manipulate interest rates can just as easily manipulate FX rates by agreeing to give a certain rate to a business, but every so often have extreme outliers or gradually raise the rate or markup over time. Unintentional manipulation can also occur in the form of taking advantage of indifference or opaque pricing; in other words, when financial institutions don’t disclose their pricing algorithms to clients. Corporate clients are susceptible to such manipulation and indifference as many businesses do not have the time, knowledge, or resources to check and compare their rates to the real time interbank market rate. It takes a lot of time and effort to go through which is not the focus of most treasury teams, who are already overwhelmed. That is why Foreign Exchange Rate Integrity® is so important, to give businesses the best FX rate possible.
-Zach Bucher, Analyst
Breaking in the news, from the Financial Times and Bloomberg, are reports that have renewed past concerns of alleged forex manipulation within global banks. Headlining is one of Europe’s largest banks, which is responsible for handling enormous amounts of forex transactions between Europe and Asia. With more and more clients reacting over the discovery of excessive markups on their FX transactions, the traders at global banks are being called out for their repetitive FX actions/manipulations.
In a recent article by the Financial Times, attention has been brought to the FX trading desk of a global bank due to their recent court trial that was brought by just a single client of theirs, alleging them of “fraud and misconduct relating to 52 forex trades”. The lawsuit includes allegations of “front-running — trading using confidential knowledge of an upcoming client order”. It also alleges that their private bank, engaged in “pip theft” where it added secret “pips” or mark-ups to execution prices reported to their client so as to secure an unlawful profit”.
Additionally, Bloomberg reported on the same story of how “traders used confidential information to make a profit” and “manipulated rates between 2004 and 2006 that affected billions of dollars of orders”. Since there is no fiduciary owed relationship, the FX traders got lured into placing excessive markups on orders.
While this specific case only covers 2 years of allegations with one particular client, forex manipulations have been an ongoing concern for the past 2 decades. The issue at large has gained major legal ramifications, like that we’ve seen in the Foreign Exchange Antitrust Litigation. This settlement punished numerous large banks and placed heavy fines on them for conspiring in price manipulation, resulting in compensation to the thousands of clients whose pricing was affected.
From this, it is evident “the case threatens to reopen old wounds in the $6.6tn-a-day foreign exchange market, which was rocked by allegations in 2013 that several global banks had manipulated currency prices systematically for years.” It is often that cases like this one go unnoticed, recalling why the use of Foreign Exchange Rate Integrity® is essential to protect your business from Excessive FX markups. From the articles we’ve highlighted, it recalls that FX traders sometimes engage in excessive markup transactions, without performing in the best interests of their clients. If your business is involved in the use of foreign currency, our Foreign Exchange Rate Integrity® service offers you a chance to review costs placed on your FX transactions by your banks and identify opportunities to save.
– Megan Valdez-Crader, Associate
The SEC’s 2021 regulatory agenda suggests there are no plans to regulate cryptocurrencies, at least for now. News of the SEC’s omission of crypto regulation reminds us of an article published by The Wall Street Journal recently which suggested cryptocurrency regulation could be created by using existing rules. The article addresses key questions surrounding crypto regulation that can be answered by looking at currency market manipulation history and set precedents.
The absence of a cryptocurrency market regulator means there is “no protection around fraud or manipulation”, (Wall Street Journal, June 2021). We’ve seen how manipulation in the FX market has led to market intervention, resulting in stricter regulation and increased transparency. When we refer to the Currency Market, we refer to both foreign exchange and crypto. We see the crypto market trying to make inroads in the established, global FX market. While the allure of cryptocurrencies appears to be its anonymity and decentralization, it’s important we take off the rose-colored glasses and take a critical look at Foreign Exchange and Currency Market history to find how to best handle emerging currencies (i.e., cryptocurrencies, stable coins, central bank digital currencies) and the innovation that comes along with them.
“The thirst for innovation and profit can never be quenched” (Wall Street Journal, June 2021) and we see that reflected in market changes whether it’s new digital currencies, Reddit influenced stock market activity, the growing number of digital payment platforms, etc. In the past year, we’ve seen more innovation and push for profit in areas with limited regulation. As the Wall Street Journal writes, regulation efforts must address a few questions. We highlight two of these questions as they recall arguments we have made in the case for FX market transparency.
WSJ: “Which regulators will regulate which types of digital assets and financial technologies? Clarity would make the market more efficient.”
As with foreign exchange, more clarity would make currency markets more efficient and importantly less expensive. We are constantly hearing about the lack of transparency and lack of clarity in Foreign Exchange processes resulting in inexperienced or indifferent FX market participants paying Excess Markups. The lack of a common regulator in a global market indicates a lack of clarity, which is where it becomes easy to take advantage of inexperienced market participants.
WSJ: “What requirements must digital asset or technology meet to operate legally in the U.S.? We should use digitalization, including audit and tracing capabilities to reduce these risks.”
Again, we advocate for FX “best practices” being applied to the crypto market. By auditing their FX activity and using data analytics to their advantage, FX Market Participants can correct any inefficiencies in their FX market activities. Inefficiencies and lack of understanding of the market and associated fees often leads to paying too much for foreign exchange transactions. Similar threats appear in the cryptocurrency market, which can be avoided through the use of similar practices.
The fascination with the cryptocurrency market and the use of digital coins is rapidly growing; this interest is not surprising, as the dollar is mainly digital today with the use of credit cards and digital wallets (i.e., bank accounts). It will be interesting to see how the SEC decides to handle this market, as we believe calls for regulation will continue to grow. It is difficult to imagine a completely unregulated currency market operating without risk of exploitation or manipulation.
As we’ve seen with the FX market, the temptation to take advantage exists. It appears those temptations are rampant in the frenzy of the crypto market; we are seeing a new indifference to the real cost of cryptocurrencies. It’s only a matter of time before someone’s “thirst for profit” leads them to “drink too much”. This further highlights the need for resolving governance, regulation, and transparency in all currency markets achievable via “best practices”. Currently, Foreign Exchange Rate Integrity® applies those “best practices” to Foreign Exchange Currency Market activity to achieve significant savings in FX transaction costs.
-Paola Gasca, Assistant VP