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Building buy-side momentum in an evolving FX ecosystem
The FX ecosystem today
Today’s FX ecosystem is one marked by change and growth. From a post-trade perspective, the industry’s focus has been on mitigating settlement risk and increasing operational efficiency. The North American transition to a shorter T+1 settlement cycle for securities highlighted this issue earlier this year, at a time of heightened focus from policymakers and regulators regarding settlement risk mitigation.
In 2021, the Global FX Committee implemented changes to the FX Global Code (the Code) concerning the management of settlement risk. The changes placed greater emphasis on the use of payment-versus-payment (PvP) mechanisms where available, and on netting for FX transactions where it was not. The industry anticipates further updates to the Code in December 2024.
One segment of the industry increasingly prioritizing settlement risk and operational efficiency is the buy side. As the demand for delivering returns increases and foreign investments grow, the buy side faces growing requirements to demonstrate best practices in FX settlement risk mitigation and operational efficiency. CLS’s post-trade services play a pivotal role in this area of the FX ecosystem.
CLSSettlement simultaneously settles payments relating to FX trades through its unique PvP system. It is the global standard in FX settlement risk mitigation, and each day CLS settles over USD6.6 trillion of payments in 18 of the most actively traded currencies. Meanwhile, CLSNet – an automated bilateral netting calculation service for over 120 currencies – standardizes and automates post-trade matching and netting processes, delivering risk mitigation, liquidity optimization and operational efficiencies for currency flows outside of CLSSettlement, including emerging market currencies and same-day trades. CLSSettlement is the preferred choice for eligible currencies, while CLSNet has been referred to by market participants as the ‘next best thing’ for non-eligible currencies, namely emerging market currencies.
CLSNet is directly accessible to a broad range of market participants, including buy-side firms. This accessibility enables more market participants to benefit from the operational cost reduction and risk mitigation the service delivers while also supporting adherence to the FX Global Code.
For example, as all trades sent to CLSNet are validated and matched up to the predetermined cut-off times between counterparties for each currency, only confirmed trades are included in the automated net calculation. The service produces a single common record of the net payment obligations and reduces time consuming manual operations. Further, by automating the netting process via a centralized platform, users no longer need to dedicate resources to manually agree netting transactions with other market participants.
The true benefits of the bilateral netting calculation process can only be fully realized through an automated, centralized and standardized industry utility model supported by an underlying rulebook. These features are crucial as they create the conditions necessary for a network effect by enhancing interoperability and scalability. This is essential for optimizing the settlement and operational risk management benefits delivered to FX market participants.
The buy side, settlement risk and operational efficiencies
An industry-wide increase in awareness of settlement risk has helped increase adoption of CLSSettlement by third parties such as asset managers. Third-party participants access the service through custodian banks. For the buy side, one of the key drivers for adoption is the operational efficiencies that PvP delivers. The number of third parties using CLSSettlement increased by 6% in the last year and nearly 80%of the top tier investment managers are now using CLSSettlement.
It is not only CLSSettlement that has seen increased uptake. CLSNet experienced a record daily netted value of USD593 billion in June 2024, and the growing CLSNet community already includes eight of the top ten global banks. Extending the network to more banks, funds, corporates and non-bank financial institutions is a priority.
It is clear that for asset managers, CLS’s PvP settlement and bilateral netting calculation services allow them to demonstrate best practices in operations and risk management to end investors.
