e-Forex-May-23

Institutional digital assets: What are the evolutionary lessons from e-FX?
DIGITAL CURRENCIES
“I think we could see huge growth in institutional activity
over the next three years, because everybody wants a new
asset class to be exposed to...”
intermediaries. “In the OTC FX market,
intermediaries like banks and brokers
play a critical role of enabling their
customers to achieve their business
goals – hedging, risk management,
or speculation. As these customers
enter the digital asset class, banks and
brokers need battle-tested workflow
automation technology to continue
to serve them; this evolution is the
driver behind the tremendous demand
we are seeing for Integral Digital
technology,” says Sanjay Madgavkar,
CSO of Integral. A further factor
shaping the market is regulation.
“Governments and regulators around
the world are becoming more focused
on developing rules and guidelines
to govern digital asset trading,” says
Vinay Trivedi, COO of MaxxTrader. “We
expect to see increased oversight in
areas such as AML/KYC compliance
and fraud prevention.”
This regulatory influence will probably
also favour the use of standardised
derivative products, such as futures,
but given their proven utility with
hard to settle assets, non-deliverable
forwards (NDFs) also look likely to
play a part. Some institutions are
also trying to create baskets of digital
assets that can be traded as an asset
class in their own right.
Sanjay Madgavkar
Elsewhere, institutions are already
looking for the same sort of full suite
prime brokerage services they currently
have for FX. Apart from robust
clearing infrastructure, significant
balance sheet will also be required to
support serious institutional volume.
RIGHT PLATFORM, RIGHT
SPEED
Digital assets are effectively following
the inverse of FX’s timeline. In the
early days of FX, commercial demand
from corporates and asset managers
meant that institutional FX activity led
the way, with retail activity following
later. In the case of digital assets, retail
has been the first mover, so as yet
there are none of the institutionalgrade
trading venues found in FX.
While there are listed futures contracts
available for a few cryptos, institutions
are ultimately looking for a far
broader range of digital assets with
appropriate liquidity and infrastructure
resilience.
In the short term, this means that
latency is not much of an issue, given
the fragmented and retail nature
of the industry. However, once
institutional traders start moving large
volume this will change and (as for
FX) the emergence of low-latency
connectivity services is likely to have
a transformational impact on market
access.
DATA, ANALYTICS AND
LIQUIDITY MANAGEMENT
The institutional trading of digital
assets will inevitably drive demand
for associated data and analytics.
As in FX, quants will require data for
model building and calibration, risk/
compliance functions will need it to
monitor exposures, while regulators
will want it for monitoring capital
ratios. In anticipation of this demand,
companies such as GCEX, MaxxTrader
and Integral already include
comprehensive data and analytics for
digital assets in their product offerings.
Analytics and associated technology
also have an important role to play
if enhanced liquidity management
of digital assets is to emulate the
efficiencies achieved through flow
aggregation in FX. Again, entities
servicing this space are already using
similar or identical FX technology to
achieve this. “Obviously there are
some tweaks but it is essentially the
same,” says Lars Holst. “Dealing with
things such as airdrops makes it a
little more complex as they don’t have
an exact counterpart in conventional
assets.”
Ultimately, proven FX technology -
such smart order routing - will provide
access to a larger pool of digital asset
liquidity, which will make trading more
efficient and reduce transaction costs.
Coupling this with institutional-grade
Vinay Trivedi
“Regulators may impose stricter rules on HFT, and market
participants will need to adapt their strategies to new
liquidity pools and market structures,”
60 MAY 2023 e-FOREX