FX operations: the next frontier for mutualisation

Posted: 3 April 2017 | , | No comments yet

Demand for lower costs and better technology has reached a tipping point that is now driving the industry towards mutualisation in the foreign exchange (FX) market. A new whitepaper from Broadridge and GFT examines whether a ‘full-service’ managed service provider (MSP) will ease the burden of operational pressures and shrinking ROE in the $5 trillion a day market…

Read the full whitepaper from GFT and Broadridge here on FX-MM

Return on Equity (ROE) for banks’ FX business lines is decreasing at a time when many firms have already exhausted traditional routes of cost reduction. A recent report by analyst firm Coalition suggests that banks saw an ROE of just 6.7% in 2015, down from 9.2% the year before. This was below the businesses’ cost of capital of at least 10%, and the mid-teen percentage returns to which their investors aspire.

But IT initiatives designed to lower FX operational costs are nothing new. The migration of operational processing to lower-cost nearshore and offshore areas may have proven effective to some extent, but is unlikely to positively affect cost/ income ratios in the long term.

Banks cannot simply opt out of the FX market…

Unlike other markets – where the volume of sell-side liquidity provision across commodities, equities and fixed income markets has declined – banks cannot simply opt out of the FX market. Put simply, these institutions must continue to offer client access to global currency markets as a core part of their business. The challenge is clear – how do you operate a business that remains ‘mandatory’ for a bank whilst securing an acceptable cost base?

Mike Thrower, a Managing Director at Broadridge says: “The efficiency and cost changes that institutions have already made just to keep up have played out and the diminishing returns achieved by tactical change have resulted in organisations now looking towards mutualisation via a managed service provider as a realistic next step.”

This dilemma is forcing a fundamental, even structural shift in the search for solutions that will help move ROE back to levels above the cost of capital. With the middle- and back-office acting as a significant cost burn for these institutions, initiatives designed to develop common utilities for operational functions are becoming increasingly popular. The reasons behind this are clear, with a 2016 report by Boston Consultancy Group finding that this area accounted for about 30% of investment banks’ total costs.

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