Currenex case may herald focus on e-FX’s ‘Wild West’ days

FX sources say “uncomfortable secrets” could emerge as attention turns to platform relationships

  • Currenex, its owner State Street and two liquidity providers are facing a potential US class action lawsuit accusing them of striking secret priority deals that harmed the venue’s users.
  • The deals allegedly allowed the LPs to jump the order queue without posting a better price, which the plaintiffs claim resulted in worse prices for users.
  • FX Markets sources have no evidence to support the claims against Currenex, but many believe this type of behaviour was seen across the e-FX industry as venues tried to attract LPs in the early 2000s.
  • “It was a little bit of a Wild West. And some of it was totally naive. And some of it was not right,” says a former FX trading executive.
  • While many believe the industry has cleaned up its act in recent years, some lawyers believe more copy-cat cases looking at venue-LP relationships in that period might follow.
  • That could prove tricky, given the existence of non-disclosure agreements and tight-knit nature of the FX community. As a result, some believe a separate industry code should be created for venues to ensure a level playing-field.

Currenex may be in the crosshairs of a new lawsuit in the US, alleging users of the platform were harmed by secret deals it agreed with some market-makers – but some believe it could be the start of a wider look at the behaviour of other venues and their liquidity providers (LPs) in the early days of electronic trading, and the years that have followed.

After initially focusing on trading behaviour in the FX markets, attention has gradually been turning to the trading venues and their relationships with LPs. It started back in 2017, when FXCM was banned from doing business in the US after being found guilty of misleading customers and having an undisclosed relationship with its largest LP.

Currenex is now in the spotlight, along with parent company State Street, Goldman Sachs and non-bank liquidity provider, HC Technologies. The firms face a potential class action suit claiming back-room deals gave the LPs the right to jump the queue on its order book, and offered special last-look rights, which were undisclosed and resulted in worse prices for users.

Some believe it could be the start of things to come.

“I think we’re looking at a larger trend, and the implication is we’re going to be looking much more closely at these platforms, who owns them, what’s actually going on with the liquidity, and a lot of the representations,” says Jack Drohan, president of the ACI Financial Markets Association for the Americas, and partner at law firm Drohan Lee in New York.

Risk.net’s sister publication FX Markets spoke with six industry sources who have worked at or with a variety of trading platforms. None had any evidence to support the claims made against Currenex, but most say the lawsuit essentially mirrors rumours about the behaviour of certain trading platforms in the early days of electronic trading – 15 to 20 years ago – when new platforms were desperate to secure market-maker support.

“It was a little bit of a Wild West. And some of it was totally naive. And some of it was not right,” says a former FX trading executive. “If you go back to 2005, say, it’s difficult to justify a lot of things. And some of these things I think we can forgive, sort of like teenagers – they’re just young and learning. But with some of these things, it’s like, if it’s really bad, then it’s really bad.”

While the specific Currenex case faces some legal hurdles of its own, sources say other venues and market-makers who were active at that time may be nervous about where it leads, and whether copy-cat cases could follow.

A former FX salesman at a large dealer predicts the claims will prompt widespread introspection, and could result in “uncomfortable secrets” being aired.

I think we’re looking at a larger trend, and the implication is we’re going to be looking much more closely at these platforms
Jack Drohan, ACI Financial Markets Association

While the lawsuit alleges Currenex was engaged in these practices until the present day, some market sources say the electronic market cleaned up as venues rapidly professionalised. They believe it is unlikely the activity described in the lawsuit continues anywhere in the market today.

Proving it one way or the other will be tricky, given the omerta that can come with a tight-knit industry and the proliferation of non-disclosure agreements.

“The whole industry knows this behaviour exists. But it’s certainly not something anyone in the banks are willing to talk about,” says a sales head at one FX platform.

As a result, many believe platforms should be subject to more oversight, for instance through a separate code of conduct, specific to venues.

Priority agreements

Filed on August 4 at the United States District Court for the Southern District of New York, the class action complaint sees two relative unknowns in the market – Edmar Financial Company LLC and Irish Blue & Gold Inc – accuse Currenex, State Street, Goldman Sachs, HC Tech and five as-yet-unknown defendants, of fraud, racketeering and conspiracy allegations. Both plaintiffs were users of Currenex.

While the 44-page complaint is at this stage seeking class action status and demanding a jury trial, the allegations alone have rocked the FX community.

The main thrust of the plaintiffs’ claims is that from the early 2000s, Currenex had in place secret priority agreements with Goldman Sachs, HC Tech and State Street – its eventual owner – that essentially allowed them to cut in line at its central limit order book.

state-street-canary-wharf
The filing claims State Street gave itself priority on smaller order sizes

The filing claims Currenex described its all-to-all Clob to users as a first-in, first-out (Fifo) venue, meaning the first participant to post the market’s best bid or offer would be matched off first. For example, if an LP says it is willing to sell at 1.50, and a second LP later matches that price, a user that hits that price will be matched with the first LP. In theory, the Fifo construct encourages liquidity providers to offer incrementally better prices – if you want to trade, you need to be at the front of the queue, and the only way to get there is by offering a better deal.

The filing alleges the LPs had a different arrangement with Currenex, not disclosed to other users, which meant if they simply matched the hypothetical 1.50 price, they would go to the front of the queue anyway – they did not need to beat the best bid or offer, only equal it. As a result, the plaintiffs argue, price takers on the platform were unwittingly getting a worse deal than they would have done if Fifo was operating as advertised.

The filing claims the plaintiffs also lost out when acting as price makers – when they were posting bids or offers, they may have been shunted back in the queue, missing out on potentially profitable trades. And the plaintiffs allege the extra order flow that went the way of the preferred LPs also gave unfair informational advantages to those firms.

These activities defrauded all users of Currenex, the filing claims – hence the push for class-action status. It believes at least five other LPs may have had similar deals, and hopes to learn their identities during the discovery process if the lawsuit proceeds.

The filing also claims that State Street, as owner of Currenex, gave itself priority on smaller order sizes “even though State Street’s competing quote was at a worse price”. It also included claims around LPs’ use of last look (see box: The last look claims).

The defendants are expected to answer to the complaint or move to dismiss it by October 13, according to court documents. Goldman Sachs declined to comment. The other defendants or their lawyers did not respond to a request for comment, nor did the lawyers for the plaintiffs.

A step further

Special agreements between trading platforms and liquidity providers are nothing new. Platforms and their LPs have always had a co-dependent relationship – dealers need venues to distribute their prices, and platforms need the LPs to provide the liquidity.

Many platforms provide special fee deals to keep market-makers on board, or to attract new ones when a venue is new or launching new products.

“[Platforms] always make sure that they always have liquidity, because without a price you don’t have a market in the product, and you will attract zero clients. So, giving special deals to early adopters and movers on the LP side, I think that’s totally common,” says a second FX salesperson.

But these type of deals are seen as fairly acceptable – they don’t have an obvious potential impact on prices in the way a priority agreement might. However, plenty of market participants believe some venues went a step further, and that it’s possible lines were blurred and less acceptable arrangements were made.

Many interviewees pointed to the 2017 case against retail FX platform FXCM, as evidence that behaviours such as secret priority deals have existed in the past (see box: The FXCM case).

The former FX salesman at the large dealer says after news of the Currenex case came out, he phoned old contacts to find out how widespread the kind of actions alleged in the filing were across the FX industry.

“And, yeah, it looks like those types of deals have been around for some time as well, where it’s not a level playing field, not a level market. So, quite shocking, actually,” he says.

The sales head at the FX platform believes secret agreements, such as preferential treatment for LPs that hit volume targets, have been present across a number of platforms in the past.

“I saw the lawsuit as an attempt to flush out some kind of evidence across the industry as a whole rather than a targeted approach at Currenex,” he adds.

A learning curve

The former FX trading executive says it should all be seen in the context of what was going on in the market at the time. The FX market of the early 2000s, when electronic venues were just finding their feet, was fizzing with innovation and ideas. Like with the rush into crypto trading now, new people from outside the FX industry were trying new things, and business practices that may seem shady today were originally put in place for what he claims were the right reasons.

For instance, he says the controversial practice of last look was originally a way to get LPs comfortable with trading on a request-for-quote basis.

“Having said that, did people cross the line? Or did they do some bad stuff? I’m sure people did,” he says.

The former FX salesman agrees that back in the early to mid-2000s, perhaps market participants were less bothered by these types of issues.

“I guess the more diplomatic way of saying it, maybe, is that there were more flexible moral attitudes to these kinds of activities or arrangements,” he says.

But even if certain arrangements or protocols were put in place for what they felt were the right reasons, the former FX trading executive says it’s important any arrangements are disclosed to venue users.

If venues want to incentivise people to be on their platforms and they charge an LP less than they charge other people, that’s up to them, I guess
Former FX salesman

“Even if there’s no malice intended, when you’re operating a market infrastructure, confidential deals that people are not aware of and don’t understand is never a good thing,” he says.

The former FX salesman at the large dealer agrees that while commercially based priority agreements of the type alleged in the Currenex case may not be illegal per se, they should be disclosed to users.

“If venues want to incentivise people to be on their platforms and they charge an LP less than they charge other people, that’s up to them, I guess. And if the LP wanted to write in a ‘by the way I want priority’ clause, I guess from a commercial perspective, there’s nothing illegal – that’s just a commercial deal between them. If you’re going to do that, you would have maybe put it somewhere in the back of the Ts and Cs or something,” says the former FX salesman.

However, while the former FX salesman at the large dealer believes there was a point in time where some “nefarious” activity was happening, he thinks the system and culture is cleaner now, and is unlikely to still be happening.

“When new world tech meets old school culture, there’s always a few years in the meantime where people are still trying to do old-school voice-style deals in an electronic platform way, and the upshot is these kind of weird deals happen. But then generally over time, people come in who only know the new world and realise that the previous deals, that kind of world, doesn’t exist,” he says.

When the clock starts ticking

Nevertheless, that period of time is still of interest to lawyers. The statutes of limitations for the alleged offences in the Currenex case only goes back six years at most, but the plaintiffs’ attorneys argue in the complaint that the clock should only start ticking when the alleged offences were discovered, not when they were done.

Following the FXCM and Currenex cases, Jack Drohan of law firm Drohan Lee says it’s clear that activities around trading platforms will be in the legal spotlight for some time.

“There’s a flashlight being turned on the ownership of these platforms and the affiliations of these platforms, and whether there are arm’s length market practices in place between the owners,” says Drohan.

“I think the market is going to be looking more closely at the platforms, and they’re not going to be tolerating these age-old well-understood practices.”

But while rumours swirl about activities in the platform space, proving them is another matter. For one thing, non-disclosure agreements are rife in the industry, preventing people from blowing the whistle on many matters.

“They are often linked to other monetary or career-impacting penalties that penalise them for disclosure outside of the process of law,” says Drohan.

The clubby nature of the FX market is another thing that can hold back would-be whistleblowers.

“For all the sales guys in the market, why would you want to sink one of your potential employers? The number of platforms is getting reduced by the month, with some either merging or the exchanges coming in and steamrolling everybody and buying everybody. So why would you?” says the second FX salesperson.

Tag lines

Given the increased focus, many market participants think there’s a greater role to be played by the FX global code. While the code is more aimed at liquidity providers and consumers, one area of focus of its three-year review has been on standardising how venues disclose their user tagging practices.

The move came after concerns were raised about the potential for tags to be misused, for instance to front-run trades.

The former FX trading executive however suggests more needs to be done, and that a specific code should be created just for platforms.

“The industry spent over a billion dollars on writing the code. But the code focuses on trading firms. There is no code for platforms, and there should be,” he says.

The GFXC declined to comment for this article. In the meantime, though, the former FX salesman at the large dealer says platforms should expect more difficult questions from potential new users.

“If I was a real money customer or a big hedge fund, I don’t know if I would sign up with an ECN. I’d really want to know a little bit more about how it works. How do you actually do it? How can you prove to me that this was best execution?” he says.

The FXCM case

When speaking to FX sources about the Currenex allegations, many said it was reminiscent of the 2017 regulatory case against retail FX platform FXCM, which included the existence of secret priority dealing agreements.

That case saw the US Commodity Futures Trading Commission find the platform had misled customers by claiming its so-called “no dealing desk” platform traded on an agency basis, however FXCM had created an algo desk that made markets directly on the venue.

When compliance raised concerns, the algo trader left to form his own company, later named as Effex Capital, but FXCM retained a stake in its profits. The algo trader’s firm became the largest LP on the platform, at one point winning 80% of daily order flow according to the National Futures Association regulatory action, with the help of a special deal struck between the two. In exchange for payments from the algo firm to FXCM, the market-maker was allowed to win all “ties” with other LPs, and received a real-time view of price quotations.

It was also allowed to apply an asymmetric last look process to the trades it was matched on, and added a smaller mark-up to its trades compared with competitors.

Finally, FXCM shared the prices that would trigger the execution of a customer’s order, known as the tagged price. So when that customer asked for a quote, Effex could use this data to decide whether to execute at its previously quoted offer, or at the tagged price, whatever was more favourable. None of these arrangements were disclosed to other users.

The last look claims

Another eye-catching claim in the Currenex case is that these firms were also granted rights to apply a so-called last look to the trades in a way that was not disclosed to other users.

Last look is a controversial practice that refers to the period of time after an order is received, but before it is executed. During this period, which can be zero to 50 milliseconds, an LP does its credit and price validity checks. Depending on the dealer’s policies, it can then decide to reject an order if it moves too far from an agreed price. 

The second element is a so-called hold time, sometimes referred to as a ‘speed bump’, which can be up to 300ms. Some LPs apply these on top of the last look check to see whether a client’s behaviour leads to market movements against the LP, making it harder to lock in a profit.

Depending on the LP, the checks can be applied symmetrically or asymmetrically – the latter being if the price moves in the LP’s favour, it accepts the trade, but if it moves against them by a certain amount, it gets rejected. The Currenex filing claims the LPs used their priority agreements to jump the queue, and then used last look to consistently reject trades that did not go in their favour in the observation period.

The filing claims the existence of these last look rights was hidden until 2015. But even when it was revealed, it was acknowledged it applied generally, not to any specific firms. Clients were also allegedly misled about how often their trades would be cancelled as a result of last look.

Last look itself is not a banned practice, though the additional hold times were effectively outlawed by the GFXC in comments made in September.

Disclosure around LP practices in this area were extremely patchy until the GFXC cajoled firms to improve their statements over the past three years. Platforms though have generally not been particularly forthcoming with disclosures around which of their LPs apply last look and how.

Editing by Lukas Becker

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