Three key FX trends facing fund managers in 2023

This article was first published in Global Investor Group.

After a period of relative calm in 2021, volatility dominated the foreign exchange (FX) market in 2022. Driven by high inflation, rising interest rates and geopolitical issues, the dollar soared to 20 year highs, while the pound and euro slumped to 37 and 20 year lows respectively only to then substantially bounce back in the last months of the year.

The pressure on many fund managers – a segment of the market that has historically struggled with its FX setup - intensified against the rising threat of currency movements negatively impacting their investment returns. This pressure has placed the importance of having an FX strategy firmly back in the spotlight, with 93% of asset managers believing that FX is significant to their business. Many are now reviewing their FX set up so that they can readily navigate this volatile climate.

As CFOs plan for the year ahead, here are three key FX trends that are likely to affect the way in which fund managers oversee their currency exposures in 2023.

1. Automation of FX operations

For many fund managers, FX processes can be manual, cumbersome and time-consuming.

FX price discovery can often involve multiple phone calls, emails or online platforms to log in to just to get comparative quotes from your counterparties. Because the market is constantly moving, price discovery requires a team of people calling, emailing and logging in simultaneously before they can collectively decide who offered the best quote. And this is just one stage in the long-winded process of booking and settling an FX trade.

All of this internal, manual and siloed communication can be extremely inefficient. Many organisations execute tens or hundreds of trades every month with different products and mechanics, which may make the entire process a huge drain on time and resources. Despite it taking fund managers on average nine months to set up their FX execution infrastructure, only 15% believe that their set up is best in class.

As a result of these challenges, many fund managers are increasingly exploring simple, tech enabled solutions that digitalise these processes, with 84% of senior finance decision makers surveyed looking into new technology and platforms to automate their FX operations.

With fund managers on the search for efficiency gains and cost-savings, moving away from traditional providers and legacy processes towards more automated digital infrastructure is likely to be a prominent trend in the coming year

2. Outsourcing - a continuing trend

Outsourcing has emerged as common practice across the financial services industry, and it is set to gain more traction in FX in the year ahead.

FX is one of the largest and most liquid markets in the world, but also one of the most complex. Setting up and onboarding new FX counterparties, centralising price discovery and navigating the post-execution phase often have their own complications and can be a huge administrative burden for fund managers, eating up time and resources.

Specialised external solutions can assist with these steps. Outsourcing can free up resources for more effective use elsewhere, enabling firms to dedicate more time to core business matters. Turning to a specialist often means that the end product is also more likely to be of higher quality, leading to improved execution, saving money in the long run.

There are still some barriers towards outsourcing, such as a perceived lack of transparency and the administrative burden of integration. However, the growing recognition that outsourcing – when done with the right partner – does not necessarily lead to a loss of quality or control means we can expect more firms to harness third-party services in 2023

3. The importance of ESG credentials

Environmental, Social and Governance (ESG) criteria has begun to play an increasingly important role in the FX industry. 58% of fund managers believe that their FX counterparties must have strong ESG credentials while 36% see it as an important consideration.

However, much of the emphasis to date has been on the first two letters of the acronym – ‘E’ (environmental) and ‘S’ (social), with ‘G’ (governance) often left lagging behind. There are several steps we can expect firms to take to improve governance. These include:

  1. Compare market prices and rates in order to demonstrate best execution.

  2. Implement ongoing, quarterly Transaction Cost Analysis (TCA) to highlight hidden costs – such as in the FX spread – and gain transparent cost oversight.

  3. Work with providers that adhere to the Global FX Code (GFXC) designed to enhance integrity and best practice across the wholesale FX market.

  4. Scrutinise the ESG credentials of partners and ensure that FX providers adhere to internationally recognised standards, such as the Principles for Responsible Investment (PRI).

As investors become increasingly driven by ESG criteria, more fund managers are likely to begin turning to providers that can demonstrate strong ESG credentials and are closely aligned to their own principles to meet this demand.

A crucial year ahead

Against a backdrop of persistent currency volatility and an ever-changing market, we believe FX is set to become an important priority for fund managers. Looking ahead, we believe fund managers should get the right processes in place now and seek alternative technology-driven solutions that can help manage FX operations more effectively and protect their returns during these turbulent times.

Fund manager statistical data used in this article refers to a survey conducted by Censuswide on MillTechFX’s behalf between June 2022 – July 2022, based on a survey of 250 CFOs, treasurers and senior finance decision-makers at asset management firms.

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