BNP’s new macro trading unit to make greater use of FX algos

French bank plans to bring FX algos to US Treasuries for combined currencies and rates trading unit

BNPP-rates-profile
jyhem/Flickr/Risk.net montage

As inflation surged in emerging market economies last year, prompting a round of central bank rate hikes, it became increasingly clear that something similar lay in store for the developed world.

Like everyone else, BNP Paribas started to work through the implications. That led ultimately to a rejig of the bank’s trading desks, creating a new ‘global macro’ division that its Americas co-head, Heather Orrico, says has given the French dealer a surer footing in this newly rocky market.

“The early warning signs came from the emerging market central banks. That’s where you started to see that regime shift,” says Orrico. “Now fast forward to the first quarter of 2022. We were all sitting there thinking, ‘Well, the developed markets need to do something, right? The central banks need to do something.’”

BNP Paribas decided it needed to do something, too. In March, the bank took the commodities and foreign exchange businesses Orrico had been co-leading for the Americas and combined them with their rates trading counterparts, creating a team of 165 people in six countries across North America and Latin America.

The new unit has had to find its feet in a radically different world – one in which years of stifling policy uniformity had suddenly splintered. Central banks are now moving at different speeds, with larger interest rate differentials opening up between nations, foreign exchange rates shifting in response, and everything coloured by new uncertainty about how far and how fast the hiking cycle will go.

In this environment it makes sense for a market-making business to think and act on a cross-asset basis, Orrico argues.

That’s easier said than done. Orrico notes that bank trading floors have traditionally been dominated by competing teams of mono-asset specialists, rather than cross-product generalists – it requires a shift in both culture and capabilities.

Heather Orrico
Photo: Alex Towle
Heather Orrico

“We have to change the DNA and thinking so we can actually cover multiple asset classes properly,” says Orrico.

This is a work in progress, she acknowledges – training in cross-asset sales is underway.

It doesn’t mean everyone on the team becomes a jack-of-all-trades. While some clients will now be covered by a single, macro salesperson, others continue to demand – and will get – asset class specialists.

Macro thinking

But the new approach has already demonstrated its worth, Orrico says, pointing to the US Consumer Price Index (CPI) print on August 10, when markets were surprised by a slight drop in the rate of inflation, resulting in a big move in US Treasury yields.

Orrico says BNP Paribas guessed correctly that the rate of inflation would dip. But in trading, making the right call is only half the battle – when there is a shortage of liquidity, it can be tricky for dealers and their clients to act. Around the time of the CPI surprise, the rates volatility market was tight, but the macro group identified better opportunities for clients to trade elsewhere.

“We talk about liquidity and I would say – arguably – from where I sit, liquidity in the FX market in vol was better than the liquidity in the rates market,” she says. “Coming off the CPI print, we had a risk call in the morning. We were thankfully right on the print and then were able to follow up after, provide liquidity and have that more macro thought process.”

Another change now in train is to harmonise capabilities across the asset classes. In at least two cases, this means copying ideas from the FX business across to rates.

As macro markets became more complex in the years after the global financial crisis – with trading venues and protocols proliferating alongside the arrival of clearing houses, trade repositories, new discounting practices, and layers of regulation – some banks split their sales teams in two. One group continued in the traditional role of bank sales, sharing market colour and trade ideas, while the second, new group was responsible for helping clients identify and tap liquidity effectively – some banks call it ‘execution services’.

At BNP Paribas, the FX business had one of these teams already, but rates did not. In the new macro structure, the model will be applied across both asset classes.

We’re really focused on how we build a strong e-book for rates
Heather Orrico

A second idea – still in its infancy – is to offer FX-style execution algorithms in the US Treasury market. In currency trading, these algos slice client orders up into dozens of smaller ‘child’ orders, executing them in line with a particular strategy and against selected types of liquidity, often third-party liquidity. Algo volumes now make up around 20% of all spot FX trading.

“We’ve been a leader in our algo strategy for FX and now we are looking at how to expand beyond the FX products,” says Orrico.

But it could be controversial. One common explanation for the lack of algo usage in rates markets to date has been resistance on the trading floor and among management. Why would a bank want to become an agent for its clients’ trades – collecting a fee by renting out an algorithm and sending orders to other market participants – when it could be principal, and keep the bid-offer spread for itself?

Only two or three dealers are known to have explored this ground in rates markets, but BNP Paribas is apparently ready to grasp the nettle. Orrico says the bank’s traders have been testing demand with clients. Responses have been “positive”, she says.

The bank will also be focusing on its broader electronic trading capabilities for rates products.

“We’ve built strong e-books in spot FX, obviously, and cross-currency swaps. We’re building it in FX options. So we’re really focused on how we build a strong e-book for rates”.

Orrico describes herself as a “big believer in the electronification of markets… It’s not going to go away. It’s likely going to intensify.”

It’s not clear what contribution the new Americas macro group made to BNP Paribas’ second-quarter earnings, but the bank’s overall global markets revenue grew 34% to €5 billion ($5 billion) in the first half of 2022, compared to the same period last year. Revenues for fixed income, currencies and commodities specifically were up 31% to €3 billion, “driven by a very strong increase in demand, particularly in reallocation and hedging on fixed income, currency, emerging markets and commodity derivative products,” the bank noted in a July 29 earnings statement.

In July, BNP Paribas hired Kunal Maini from Morgan Stanley, to join Orrico as co-head of global macro for the Americas. He had been global head of government bond, inflation and e-trading at Morgan Stanley and was previously head of US rates trading at Credit Suisse. Morgan Stanley and Credit Suisse are among the handful of banks to have offered agency algos for US Treasury securities.

Volatility here to stay

From a rates perspective, Orrico views central bank tightening in the US and UK as a return to normal, following the anomalous post-financial crisis era of loose monetary policy.

What was “quite unprecedented”, she argues, was the involvement of central banks in the sanctions regime that swiftly followed the Russian invasion of Ukraine. Europe, the UK and the US swiftly froze billions of dollars of Russian currency reserves held in foreign banks. The implications of that move could be felt for years to come, Orrico argues.

Heather Orrico
Photo: Alex Towle
Heather Orrico

“We talk about the weaponisation of the dollar and the freezing of central bank reserves and this whole new notion of unreliability in having holdings in euro, in sterling and in the dollar, and that this is contingent on your foreign policy stance,” says Orrico.

She warns: “We haven’t necessarily seen the effects of this. I do think this is going to be a new paradigm over the next three to five years.”

One thesis is that flows of capital and trade will become more fractured.

“To me that is going to create, most likely, a less stable system, which means more volatility,” she says.

That kind of environment could be good news for the big, global banks.

“Global firms like ourselves are well positioned, because we have boots on the ground in all three regions,” she argues. That allows BNP Paribas to stand out when compared to regional and domestic market-makers, but also to non-bank liquidity providers, which tend to be relatively lightly staffed and lack a local presence in many markets.

It’s not always an advantage to be big, of course. Putting boots on the ground adds costs, compliance burdens and risks to any organisation – particularly the heavily regulated banking sector. In 2015, BNP Paribas was fined $9 billion by the US Department of Justice for trading with the enemy in allowing Cuba, Iran and Sudan access to US financial markets.

The bank has had a presence in China since 1860, and owns a subsidiary in Russia called BNP Paribas ZAO. On March 22, the bank said it would stop doing new business in Russia – Reuters has reported that earlier that month Russian-based staff of the bank lost access to internal systems over cyber-attack fears.

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