(Corrects timeframe of CLSNow launch in paragraph 14)
By Helen Bartholomew
LONDON, Dec 11 (IFR) - Baton Systems, a two-year old fintech firm, is working with two of the largest banks in foreign exchange trading for the Q1 launch of a new payment system.
The system aims to deliver capital and efficiency savings by eliminating a traditional 48-hour pre-funding window and reducing settlement time to under three minutes.
The high-speed payment service, which is already being used by the two banks to settle live trades, recently partnered with NEX Optimisation, the post-trade arm of the former ICAP group, becoming the first third-party service to be incorporated into NEX Infinity platform.
According to Arjun Jayaram, CEO and founder of Baton Systems, banks are under pressure to cut a combined annual US$60bn-$70bn of technology and capital spend associated with post-trade services. And as banks play catch-up with an evolving regulatory landscape, which includes the implementation of MiFID II on January 3, that figure is set to increase unless hefty efficiency savings can be found.
“There are huge capital and operational inefficiencies in post-trade,” said Jayaram. “At the end of the trading day, you have to have cash or other assets move between participants. That movement is slow and expensive.”
That is because bank ledgers are not able to directly communicate with each other, requiring settlement providers to stand in the middle. But trades typically require pre-funding, forcing counterparties to tie up scarce capital up to 48 hours in advance.
Recent attempts to enhance settlement efficiency have tended to focus on blockchain to create a centralised ledger. Baton’s approach is different. Instead of creating a separate ledger, the system acts as a translation tool, enabling individual bank ledgers to communicate with each other directly, for real-time payments.
“A blockchain solution is to use a third ledger, which is changing the definition of money. We don’t think that’s the right way,” said Jayaram. “We integrate into the ledgers on both sides, which means we’re not changing the definition of money or the way that it moves.”
In order for counterparties to reap all the benefits of high-speed settlement, both need to be linked to Baton’s system. Unlike blockchain solutions, however, trades can still settle if only one side is linked to the platform, with both reaping some benefits, such as faster reconciliation.
According to Jayaram, another problem with blockchain is its inability to scale to meet capital markets needs. As such, the firm built its own distributed ledger from scratch.
“You need to be able to handle one billion events a day, but blockchain is two or three orders of magnitude away from that,” said Jayaram. The Baton system can handle 83,000 events per second - equivalent to over 7bn events in a 24-hour period.
According to Jayaram, the system already has buy-in from central banks and the firm has been in talks with regulators.
“They like the fact that we’re not changing the definition of money - we just make it faster and more transparent,” said Jayaram.
Incumbent provider, CLS, is not standing still, however. The FX settlement firm aims to improve efficiency and reduce counterparty risk with the launch of a same-day settlement service, CLSNow. The platform is set to go live in the fourth quarter of 2018, initially for US dollars, sterling, euros, Swiss francs and Canadian dollars.
Although it is not being built with blockchain, CLS is using the technology for its proposed bilateral payment netting service, CLSNet. The service aims to bring standardisation and post-trade efficiency to a broad range of FX trades - both spot and derivatives - in 140 currencies, which currently settle outside of the core CLSSettlement platform.
For Baton, while FX settlement is the focus of the initial launch, the firm is also working with a large broker-dealer and central counterparty clearinghouse on a system that has been shown to reduce post-trade clearing and settlement time, including reconciliation, from 16 hours to under four minutes. (Reporting by Helen Bartholomew)