(FX volume, comment from FX analysis executive in 5th-6th grafs)
By Tim McLaughlin
BOSTON, Sept 19 (Reuters) - A growing number of big investors are analyzing and cutting down on their foreign currency trading costs, a development that could put further pressure on the profit margins of what has been a lucrative franchise for banks.
Greenwich Associates said Wednesday it found that a surprising number of large institutions are using transaction cost analysis (TCA) on FX trades.
Among the world’s largest institutions - those managing more than $20 billion in assets - 41 percent of them that employ TCA use it in their FX investment process, according to Greenwich’s poll of 232 buyside traders.
“We anticipate that the use of (this analysis) on FX trading desks will soon evolve into standard practice among this influential group,” said Jennifer Litwin, a senior director and relationship manager at Greenwich Associates.
Pension funds and other big institutions need to trade currencies in large amounts when they buy foreign securities or collect non-dollar dividends or interest payments. It’s a huge market. FX daily average turnover may have reached $5 trillion in September 2011, according to the Bank for International Settlements in Basel, Switzerland.
“We’ve seen a strong interest (in FX TCA) not just in the United States, but also in Europe, Canada and Asia Pacific,” said John Galanek, chief operating officer of FX Transparency LLC, which analyzes trades for investors. “We expect this to continue given the increase in asset allocations away from investors’ domestic currency.”
While analysis of stock trading costs is standard operating procedure for many large investors, it is less prevalent for FX. But that is changing, thanks in part to a number of lawsuits contesting FX trading fees.
FX data analysis partly gained broader acceptance after several pension funds and U.S. authorities accused custody banks BNY Mellon and State Street Corp of overcharging clients on currency trades. While they steadfastly deny any wrongdoing, the banks have acknowledged a change in marketplace behavior has occurred.
One reason is that state pension funds used outside firms to analyze trades executed by the custody banks.
An independent analysis of FX trades for the $49 billion Massachusetts public employee pension fund, for example, found an estimated $30.5 million of overcharges since 2000.
The analysis by Galanek’s firm in suburban Boston bolstered the administrative complaint of William Galvin, Massachusetts’ top securities regulator, against BNY Mellon last year. BNY has denied overcharging the fund.
As a result, pension funds and large institutional investors are doing fewer so-called standing instruction trades. These trades, which are the subject of various lawsuits, give the banks some discretion on how to execute them.
Standing instruction trades, as data analysis has shown, are more expensive than trades that are negotiated by investors. Those trades, however, can be more expensive because they involve small amounts and feature restricted currencies.
During the first half of 2012, State Street’s revenue from standing instruction trades declined 18 percent to $141 million from year-ago levels. Some of State Street’s clients who relied on standing instruction, or indirect trades, used other methods, the bank said in its latest quarterly report to investors.
“A growing number of buyside firms are paying heed to client requests to install transaction cost analysis platforms in their foreign exchange trading businesses,” Greenwich Associates said. (Reporting by Tim McLaughlin, Editing by Gary Crosse & Theodore d‘Afflisio) (firstname.lastname@example.org; +1-617-856-4409)