Benchmark rigging scandal: a remake in the making

Bar a few notable exceptions, sequels are never as good as the originals. Character development is often exhausted in the first instalment and the ending is usually just a more grandiose version of the first one. After all, there are only so many times one can jump in a silver DeLorean and go back to the future without looking repetitive. 

Some fear the foreign exchange market is heading straight into the sequel to its lousy B-movie ‘The Fix’ which hit the courts in 2013. The plot hasn’t changed much: a small handful of banks eager to win business slash their fees for trading the WM/Reuters 4pm reference rate. They win market share and take more risk, but they make less revenue – creating incentives to look for other ways to claw back profits, especially if markets move against them.

Back then, these incentives were a driver behind the market manipulation that led to global banks facing more than $11 billion in fines or settlements. Authorities reformed the WM/R benchmark’s methodology in 2015 and drafted a formal code of conduct for FX market participants two years later. 

With benchmark trading costs falling once again to as low as mid plus $10 per million, a global head of trading at one large bank senses that history is repeating itself.

“You can argue some banks have short-term memory. They seem to forget how much they lost because the risk they took was greater than it should have been versus what they were charging clients,” he says.

There are, of course, some differences compared to 10 years ago – for instance, part of the reason for the fall in costs is better use of technology, rather than a grab for market share. 

But in the aftermath of the fix scandal, regulators urged dealers to properly charge for the risk of providing prices for fixing transactions to reduce incentives to manipulate markets.

To their credit, regulators have been keeping a close eye on the situation. Both the FX committee at the Federal Reserve Bank of New York and the Global Foreign Exchange Committee, the industry body tasked to oversee currency markets, discussed the declining costs charged to clients for executing orders at the fix. In June, the GFXC cautioned market participants that there would be a limit to how far those costs could decline.

With the FX Global Code currently going through its three-year review, it might be a good opportunity to address the matter with the seriousness it deserves.