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BidFX: Rolling Out the Adoption of FX Algo Wheels in Today’s Data-Fuelled Markets

An increasing number of foreign exchange (FX) traders are ‘spinning the wheel’ to execute the best trade outcome; the algo wheel that is. 

If you’re joining us from an equities market, you’re probably more than familiar with the turnings and tunings of algo wheels, but for others, and especially traders dealing in FX, this powerful workflow technology appears to be rolling ahead faster than ever before. 

FX Algo Wheels
David Catterick, sales director, BidFX Australia

Here taking algo wheels’ increasingly sought-after abilities in delivering results within the FX market for a spin is David Catterick.

Catterick is the sales director for BidFX Australia, an SGX Group company, and has 15-plus years of experience in the financial services industry, including prominent roles within JP Morgan and ITG. He has a strong technical background with experience in algo trading and execution management system (EMS) platforms.

With trading and workflow technology, BidFX supports an EMS for the FX market, including a suite of negotiation tools across FX products and a hub to all major banks’ algo suites.

In this latest op-ed for The Fintech Times, Catterick discusses the rise of FX algos, their increasing rate of application and the technical considerations behind their increased adoption:

Rolling out the adoption of FX Algo wheels in today’s data-fuelled markets

For lots of multi-asset dealing desks, the concept of an algo wheel isn’t especially uncommon, particularly in equities where it is already widely used. However, within the world of FX, the use of algo wheels is still relatively rare. But this year is set to prove formative in their adoption as today’s data-fuelled financial markets mean that more and more traders are looking for more sophisticated formulas to hone trading strategies.

Algo wheels refer to the tool used by dealing desks to automate the process of selecting and executing orders based on a pre-set criterion.

Algos randomly determine where to route the next trade based on varying rules, such as Round Robin (selecting one algo provider after another for each order) or Weighted Average (routing x per cent of the orders to y algo provider, often calculated from historical performance formed from transaction cost analysis (TCA)).

Algo wheels take a turn

The BIS survey on FX execution algorithms and market functioning estimates that FX algo trading now represents approximately 10 to 20 per cent of daily spot volume, or approximately $200 to $400billion in turnover a day.

These numbers are only going to increase as buyside firms become more comfortable and begin to reap the benefits of using algo suites. Increased adoption and development go hand in hand with advancements in the innovation and technology behind the workflow.

The drivers of increasing the adoption of the use of algos are numerous, and external factors, such as the coronavirus pandemic, have significantly changed the game for FX algo adoption. Clients and dealers have multiple interests, such as looking to offset risk, accessing fragmented liquidity and importantly improving operational risk.

Beyond that, the widespread adoption of algos is particularly suitable for the commoditised nature of FX spot trading – in contrast to other markets such as corporate bonds or even FX options, as they involve a greater diversity of products being traded. The return of volatility in the FX markets has only served to accelerate this trend.

These increasingly difficult market conditions mean that traders must not be swayed by previous events and need to interpret data objectively. Algo wheels facilitate this as they bring in an objective, efficient and automated broker selection process, removing trader biases in algos selection.

This systematic approach frees up the desk to concentrate on the more complex orders – which often require the expert knowledge and tenacity of the dealer – and it also contributes to a better overall outcome as it handles the smaller orders with consistency.

Rolling forward

Unsurprisingly, hedge funds have been ahead of the curve in embracing automation, API trading, vendor-based orders and LP algo wheel functionality.

Implementing FX workflow improvements and efficiencies, the asset management community is now driving what was previously a trend led by hedge funds. They’re then able to free their dealers from repetitive, lower value-add orders that take up valuable time yet add little to the outcome of the order execution.

The even better news is that improvements in vendor technology mean that setting up and maintaining conditions to route low-touch orders is now a simple enough task and doesn’t require a degree in coding to set up. The buyside dealer can handle most cases themselves through an intuitive graphical user interface (GUI).

Reinventing the wheel

The buyside’s embracing of workflow technology has now also led to many global institutions implementing an algo wheel and utilising TCA/liquidity provision analytics (LPA) to monitor and assess the liquidity provider’s (LP’s) algo performance.

We need to compare a significant number of ‘apples for apples’ criteria to maintain a continual feedback loop. This can include the time of day, the order size, the currency pair and the algo type selected, for example.

Once established, and enough data collated, TCA, the feedback loop continues and helps a buyside firm work with their LPs to improve algo efficiencies. It could also lead to other algo providers entering the wheel if performance is unsatisfactory. Each turn of the wheel brings more and more benefits.

Setting up an FX algo wheel is now no longer a heavy lift. Technology has evolved to the point where the benefits of implementing workflow improvements far exceed the initial planning effort. Now, the question is whether FX algo wheels are ready to take flight, considering the endless possibilities.

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