On 2013-11-07, at 11:16 PM, Chuck Grimes quoted Taibbi:
> Now, a month later, yet another bank has been forced to cough up a billion
> dollars for Libor manipulation...Not only that, many of those same banks are being sucked into
> what potentially is an even uglier scandal involving currency manipulation.
More below on the latest FX scandal. You can pass lightly over Jenkins' call on regulators to implement "radical rules" to change the structure and incentives which encourage market manipulation.
The forex market is designed to encourage crime By Patrick Jenkins Lax structure supplies the opportunity, big bonuses create the motive Financial Times November 6 2013
It is notoriously idiotic to leave the purchase of holiday currency until arriving at the airport – as I learnt to my cost (yet again) last week. With a choice of two currency outlets, both run by the same operator, there was one dreadful rate on offer: £1 would net me €1.05. Buying back £1 would cost €1.35.
Outrageous as that near 30 per cent spread was, it looks like modest abuse compared with the alleged manipulation that was emerging at the same time, as regulators deepened their probes into the $5.3tn a day foreign exchange market.
In the past fortnight, seven of the world’s leading banks have confirmed they are being investigated as part of the affair.
To many in the profession, this is the latest example of vindictive regulators hounding a sector in belated retribution for boom-time excesses. To critics of the finance industry, it is further proof that banks remain rife with corruption.
Bold reform would settle the score. By ditching anachronistic market mechanisms, creating transparent exchanges for forex transactions and cutting bonuses that encourage egregious behaviour by traders, banks could restore trust and help bring an end to the scandals. Chances are they will need the continued pressure of regulatory investigation to force change.
The probes, initiated barely four months ago by the UK’s Financial Conduct Authority and now under way in Switzerland and the US, too, are at an early stage. But there are clear suspicions that traders at different banks systematically colluded, with the aim of artificially raising or suppressing rates throughout the day – an unwelcome echo of the Libor benchmark interest rate manipulation that has already cost five banks and brokers $3.5bn in fines between them.
This was possible only because of the way so-called foreign exchange “fixes” have been calculated. Fixes – intermediated by an eclectic array of third parties, from Bloomberg and Thomson Reuters to the European Central Bank – are set by pooling the prices at which different banks are buying and selling each currency at a certain point in time.
Only a fraction of daily trades, estimated at less than 10 per cent, appear to be carried out at these rates, with the rest undertaken at rates set on a bilateral basis between banks and their clients. But the fixes are still seen as crucial reference rates at critical points in the day. The 4pm London fix, in particular, is taken as the gospel exchange rate for a wide array of currencies.
But as the Libor scandal revealed, at great expense to the banks caught cheating, any benchmark that relies on prices from market participants is open to abuse if traders are sharp, greedy and clubby enough. Forex fixes are at least based on real trades rather than dreamt-up price estimates; but, like the Libor market, the forex scene seems to have had more than its fair share of sharp, greedy, clubby types.
The mildest allegation is that some banks routinely pushed clients to use one reference rate when a better deal was available privately, leaving the bank with a potentially bigger profit margin. The most serious is that chummy traders in the City of London and other financial centres would engineer deals, particularly in the run-up to the all-important 4pm fix, to pre-empt client transactions and any subsequent shift in rates.
Whatever regulators find by way of evidence, the truth is that the nature of the forex market invites criminal abuse. Any market does, whether it be in debt, gold or energy, if it relies on such cosy pricing mechanisms. So the lax market structure supplies the opportunity for the crime. And the incentive to maximise bonuses creates the motive.
There are two simple solutions. First, change the structure. It is an anachronism that, in such a technologically sophisticated world, a large chunk of forex trading still takes place on the phone. A fully electronic market is essential and initiatives by aggregators – such as Thomson Reuters’ FXall or FTSE Cürex – to bring together data from rival fixing platforms are a useful first step. But why not go the whole hog and force forex trading on to an exchange where it is policed as closely as the equities market?
Second, get rid of the bonuses. This should be a dull utility banking service, facilitating a client’s basic need for a foreign currency. Yet in recent years the top forex traders have been among the best paid in the industry, taking home £5m or more a year in bonuses. As in so many other areas, from punting subprime mortgages to brokering payment protection insurance, abuse was encouraged because bankers were excessively motivated to sell.
Even if such radical reforms were adopted – either voluntarily or through new global rules – the biggest banks face another humbling scandal, as regulators unearth the detail of past forex abuses and potentially impose another round of costly penalties. It will be painful for the banks but the clean-up is vital.
With any luck, the authorities might even get around to tackling those airport currency outlets and their 30 per cent spreads.