Changes afoot for FX prime brokers

FX Week's best bank for banks, UBS, said conditions have evolved so much it has now become feasible to ask bank clients to post collateral. A year ago this was a near impossibility. Similarly, it's become clear from market-making banks that, while spreads will eventually come in, they are unlikely to tighten to previous levels.

This naturally presents an issue for some high-frequency traders, for whom transaction cost is business critical. However, one dealer who has been a market participant for the past 25 years said he found it difficult to generate sympathy for algorithmic models that built a business on the basis that liquidity was free, and are now upset they have to pay for it.

"Certainly, that change will destroy their models, but the real question is, which is the more normal state? The history of markets where there was always some cost to liquidity, or the short period of time in which technology changed and banks fought to win market share with ever tighter spreads?"

What came as a surprise, though it shouldn't, was that some banks are expecting a tightening up of the foreign exchange prime brokerage business line, where brokers will start charging for credit. In the recent past FX prime brokers have been raising margins, as is to be expected, but overall it seems charges for the services have only been marginally affected.

The dealer said that, in the current market turmoil, FX prime brokers and clients will cut both ways. He said on the one hand, there will clearly be less funds involved, which is going to hurt the marginal player; but on the other hand, the remaining funds will almost certainly be forced to become prime brokerage clients as credit issues continue to weigh on every market. "I think the top shops will wind up being winners, with fewer, larger and more profitable clients."

The future model of FX prime brokerage alongside a host of key issues will be discussed tomorrow at the FX Week Europe congress in London.

Saima Farooqi, Editor