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					   FEATURE                                                                                                                                                                  >>>

Technology and
product innovation:
opening up new opportunities
with FX options
                                                       complaints of Retail FX customers is
                                                       their only risk management tool is stop
                                                       orders and even when they are right
                                                       about the directional move of the market
                                                       they frequently lose money because
                                                       they keep getting stopped out. Retail
                                                       FX customers are now demanding the
                                                       same risk management tools and trading
                                                       strategies they have for equities and
                                                       futures: standardized put and call options.
                                                       He goes on, “Retail traders already
                                                       understand “exchange-style” vanilla options                                            Joe Cunningham
                                                       and they will know how to work with them                            “Retail traders already understand “exchange-style”
                                                       immediately in FX.”                                                   vanilla options and they will know how to work
                                                                                                                                       with them immediately in FX.”
                                                       FX Bridge has just released the
                                                       latest edition of its FX dealing
                                                       platform ProTrader Plus™ (PTP
                                                       5.0), which features a completely                                  due to demand coming from retail investors.
                    By Frances Maguire                                                                                    “There is no ECN for options for retail traders.
                                                       new graphical user interface
   While increasing use of electronically traded       (GUI) and other significant user                                    FX Bridge is probably one of the only options
   options is gradually redefining what is regarded     enhancements. Among other new                                      technology providers that works with the big
   vanilla and exotic, the move towards the            features, dealers get a customer                                   banks, the largest options liquidity providers, and
   development of an ECN for FX options, and           alerting, communication, and                                       we have plans for an ECN for options, offering
   the current regulatory debate around central        monitoring subsystem which allows                                 best bid, and smart routing, in the future.”
   clearing all point to one conclusion: watch this    them to track, communicate en mass,
                                                       and handle one-on-one contacts with                              “We see that the fiduciary requirement for best
   space. Where once, the more complex options’                                                                       execution will lead towards an ECN for options.
   structures seemed to be resigned to remain          their entire trader base in any language.
                                                       PTP 5.0 also includes multi-dimensional                       Although options are already completely transparent,
   either RFQ or voice-based, this mindset is slowly                                                                 a single dealer system that can offer transparency and
                                                       cross-asset margining, commission and rebate
   being eroded as technology advances and the         tracking, and managed group trading. PTP 5.0                  the best possible price is particularly important with
   ease of use of options’ systems increases.          is FX Bridge’s flagship product, which is licensed to          options where volatility makes up a sizable portion of
                                                       banks and forex dealers, for trading spot, CFDs, and          the premium.”
Retail FX option perspectives                                                                                        Cunningham does not believe that FX options, as they
Joe Cunningham, chairman of FX Bridge                  Over the last 18 months, Cunningham says demand               are provided today, will be part of the exchange model.
Technologies, provider of combined FX spot, CFDs,      for electronic trading in options has grown dramatically      He says they are more likely to remain bilaterally
and options trading software says “One of the big      due to the increased volatility in the market, particularly   traded. However, apart from the very complex

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                                                                                      extensive options pricing
                                                                                      and analytical tools for both
                                                                                      the dealers and the traders.

                                                                                      FX Bridge’s trading GUI
                                                                                      has a feature that enables
                                                                                      analytical tools, for
                                                                                      margin calculation for any
                                                                                      combination of long/short,
                                                                                      put/call spot positions, for
                                                                                      risk management, to evaluate
                                                                                      overall positions and any
                                                                                      combination of long/short
                                                                                      puts and calls and also to
                                                                                      stimulate trades individually
                                                                                      and as a combined position
                                                                                      across the portfolio.

                                    ProTrader Plus™                                      Algorithmic options trading
                                                                                         Just two years ago,
                                                                                         Cunningham says that there
products, Cunningham believes the days of trading           was little real interest in algorithmic options trading
FX options by voice are coming to an end but that the       for FX but today it is a very different picture. FX
more complex derivatives products will remain RFQ           Bridge is working with several algorithmic trading
for the foreseeable future. No matter how complex the       developers, who are modifying equity algorithmic
option is it is still based on a volatility curve and can   programmes for FX that will include spot and options
be expressed electronically.                                trading in one strategy. It is highly expected that
                                                            FX algorithmic trading will follow the same growth
FX Bridge recently introduced Strategy Optimizer on         curve as equities, in fact, as Cunningham points out,
its retail trading station. It enables traders to input     creating algorithms for FX is perhaps less complicated
an anticipated price move, a timeframe for that price       than equities because there is not the added
move to be achieved, and an amount they are willing         complication of corporate events to take into account.
to risk on the trade. From there, Strategy Optimizer
analyses every permutation of long and short calls          But most importantly of all, Cunningham predicts
and puts over every strike price and expiration to find      that a huge growth surge in trading options is very
the optimised combination of options that yields the        likely, in about six months, pending expected changes
highest return for the predetermined risk amount.           in regulatory requirements. The Commodities Futures
The trader can optimise for a specific strategy, say a       Trading Commission (CFTC) and the National
long call spread or a short put calendar spread, or for     Futures Association (NFA) are considering changing
any possible strategy.                                      leverage rules for forex dealers in the United States.
                                                            They have suggested reducing the leverage forex
Cunningham adds that FX Bridge is the only                  dealers make available to their trading customer
technology provider to offer cross-asset risk-based         from 100:1 or 200:1 down to as little as 10:1. Most
margining for spot and options. “FX Bridge’s                industry observers anticipate that the rule will
proprietary Volatility-based Margining™ system              probably settle somewhere around 20:1, putting
protects FX dealers from the ‘hundred-year flood’ worse      spot trading on leverage parity with currency futures
case market scenario, yet traders never tie-up a penny      contracts in the US. He says: “If this happens, options
more in margin than they are at risk for,” he says.         will be the only instrument available for US based
                                                            traders who want to utilise high-leverage strategies in
FX Bridge provides an STP facility to provide pricing       their FX trading.”
and analytical tools, not only for high volume/low
latency executions but also a variety of STP filters         Richard Brunt, head of GFI FENICS says that the
for executions going through forex dealers, as well as      diversification of risk away from traditional investor

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                                                                                        specific market risk, event
                                                                                        or currency flow while in
                                                                                        the other the options are
                                                                                        traded primarily by buy-
                                                                                        side market makers or
                                                                                        speculators,” he says.
                                                                                        FENICS Professional
                                                                                        is an FX options
                                                                                        middleware solution that
                                                                                        delivers huge efficiencies
                                                                                        to its clients, allowing
                                                                                        traders to deliver their
                                                                                        proprietary prices to their
                                                                                        sales teams around the
                                                                                        globe, and even direct to
                                                                                        their customer on internet
                                                                                        using the FENICS
                                                                                        Enterprise™ component.
                                                                                        Full STP as standard
                                                                                        to the banks back-end
                                                                                        system ensures that trades
                                                                                        flow seamlessly between
                                   FENICS Professional™                                 systems without the need
markets is driving both institutional and retail                                        for duplicate entry.
investors to the FX options market. He says that
increased volatility and number of players in the
underlying spot FX market also leads to a natural
progression of interest in FX options.

FENICS Professional™ a GFI FENICS platform for
pricing, trading and risk management of FX options
includes FENICS Trader™. FENICS Trader gives
customers access to a multiple bank liquidity pool.
FENICS Professional clients can use the FENICS
Trader component to price options from the liquidity
bank’s proprietary volatility surface.

Brunt says: “These prices can be firmed up via GFI
FENICS RFQ technology and the user can trade
directly from the FENICS Professional Application.
The system is fully audited and captures all trade
details via the GFI FX Blotter. This transparency
clearly helps meet the need to show best execution.”

Brunt believes that RFQ, either through voice or
electronically, is currently the only viable method for
offering prices on what is effectively an infinite number                        Richard Brunt
                                                                  “FENICS Professional has flourished in the
of available OTC FX options. “There is of course the
                                                              market segment through offering a platform that
more structured strike and fixed date approach that         not only prices and risk manages the banks FX options,
exchanges offer and this may be more appropriate for       but also gives them the tools to generate flow through
streaming live prices. The differences between the two        integrated sales applications, and retail products
approaches satisfy two very different customer bases.            such as DCIs (Dual Currency Investments).”
In one instance the option is created to hedge against a

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In Q3 2010, GFI FENICS will launch FENICS
Professional version 12.1, which will include new
functionality including: RFQ capabilities and auto
dealing between sales and trading, chat, volatility
spreading by counterparty and additional sales tools
such as termsheets, supporting local languages.

According to Brunt there is some demand for
algorithmic trading strategies in FX options, but
without the aggregation of prices in the OTC market
take up will always remain small compared to spot.

Brunt says that smaller banks are looking for
integrated platforms that deliver more than the ability
to price an option. These banks are inundated with
‘free’ pricing systems from proprietary e-commerce
platforms and the traditional vendor boxes.

He says: “FENICS Professional has flourished in the
market segment through offering a platform that not
only prices and risk manages the banks FX options,
but also gives them the tools to generate flow through
integrated sales applications, and retail products such                               Alfred Schorno
as DCIs (Dual Currency Investments).”                           “I guess that for the foreseeable future anything beyond
                                                                   second generation options will remain RFQ based,”
Clearing of FX options
Brunt believes that the likelihood is that at some point    options are increasingly perceived as vanilla structures
clearing of FX options will be mandatory, although it
                                                            nowadays. “Investments of the provider banks into
could be some time before the different regions can
                                                            their electronic pricing abilities are ongoing, but I guess
put this into practice, given the truly global nature
                                                            that for the foreseeable future anything beyond second
of the FX options market. That said, clearinghouses
are already saying that they will clear FX options and      generation options will remain RFQ based,” he says.
some clearinghouses are taking it on themselves to
start the build process.

Alfred Schorno, managing director of 360T Group,
says that options have always been a well-liked
instrument for users with real underlying hedging
exposure. “Based on the fact that market makers and
portals offer streaming electronic pricing for standard
options the interest from institutional traders has also
increased,” he says.

Schorno says that FX options can already be traded
on several single bank trading channels and also multi
bank portals, like 360T, which offer features to execute
different types and structures of options. He adds that
while MiFID best price execution is still not a hot topic
for FX and FX option business, nevertheless some of the
market participants are already putting a big emphasis
on this requirement, which will certainly come soon.

According to Schorno the definition of ‘vanilla’ is
evolving quite a bit as first and second generation

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  FEATURE                                                               Technology and product innovation: opening up new opportunities with FX options

options and Jawitz believes that with CCP                                                                         market has been the relationship between the bank
clearing, there will be much more interest                                                                        and the customer. This is deeply embedded in the
in these sorts of venues. However, he adds,                                                                       psyche of everyone in FX. It might have been true,
until there is sufficient volume on these                                                                          at some point, in all asset classes, but a lot of other
platforms, trading on the new ECNs will not                                                                       products have shifted away from this and I think FX
be sufficient to prove best execution.                                                                             will be a product that will follow this route.”

Likewise, he believes that, if the platform is                                                                    He believes this will happen as the FX market
right, increasing use of real-time pricing for                                                                    evolves and gets more different types of traders into
more complex options’ structures will become                                                                      the market, such as algorithmic traders, proprietary
possible. He says: “FX options market makers                                                                      traders, hedge funds looking to make markets,
use real-time pricing models to determine                                                                         this relationship will start to dissipate. This is why
the prices they are willing to trade at. If the                                                                   Rosenberg has been trying to find a way to put this
proper venue is created, we may see real-time                                                                     dealing capability on to a platform. This is available
bid/offer prices posted for more complicated,                                                                     for spot FX, but most of the options trading models
but common, FX option structures.”                                                                                tend to be RFQ still.

Calypso has invested heavily in FX options’                                                                       Says Rosenberg: “At some point I think it would be
functionality and released many new features                                                                      interesting to be able to match up any two traders in
this year. Says Jawitz: “With our FX options                                                                      options.”
pricing sheet, you can easily create new
multi-leg structures, define formulas linking                                                                      Conclusion
the fields together, and add the completely                                   Glen Rosenberg                       In terms of the complexity of some options,
configured structure to the system for use by               “At some point I think it would be interesting to be   Rosenberg says it is only time before more and more
anyone in the firm. This makes it much easier                 able to match up any two traders in options.”
                                                                                                                  can be traded electronically. “A fair amount of options
to enter a trade and greatly reduces potential                                                                    can be commoditised, and that includes exotic options
trade-entry errors.”                                                                                              as well. Once you can commoditise something, and
                                                    are traded. Currently they need to make three to four         put in a standardised input for matching, it can be
A powerful new solver can solve for strike,         phone calls to get prices, and if spot rates are moving       done, but you always need the human touch to help
vol, notional and other fields including             they may have to make the phone calls again. Jawitz           solve more complex problems,” he says. It has been a
solving for zero cost structures (see picture for   believes they would be happier using an ECN for               slow process, but he thinks, traders are ready to make
calculation of Strike for a Zero Cost Collar).      automated execution. In addition, this may help them          the leap to electronic trading for options.
                                                    further with more liquidity and better execution.
Multi-leg structures can be set up to generate      “Another great benefit of an ECN is a direct feed to           There is a growing demand from smaller institutions
one confirmation. Modifications, expirations          the back office. This reduces the demand on the back           and retail institutions for the same benefits of
or triggering of barriers also generate messages    office,” he adds.                                              electronic ECN and Calypso’s Jawitz believes it is
on the structure level as well.                                                                                   only a matter of time until we see FX options trading
                                                    Glenn Rosenberg, managing partner, of Bridgetrade             on ECNs and clearing through CCPs. He says: “The
This makes life much easier for the back            strongly believes a better options’ trading platform is       market will grow and spreads will decrease. The only
office. Additionally, sophisticated option           needed and is developing an FX options’ ECN, that             losers from this change may be the top-tier banks,
expiry and barrier triggering greatly reduce        includes a innovative clearing solution that ultimately       which will no longer control the major trading.
the complexity of one of the most error-prone       goes to central clearing but would have to be in stages,      However, even these banks may profit from the
FX option activities.                               starting with bi-lateral trading.                             increase in volume.”

“As always, the integrated front-to-back            He says: “One of the things we had to do was come             Regardless of whether clearing becomes mandatory
multi-asset design of Calypso, along with           up with a solution to trade complex over the counter          for FX options – LCH-Clearnet has already begun
a real-time feed of market rates, increases         products and engineer an intuitive front end GUI,             building an FX options clearing system, which is
efficiency and reduces costs for all asset           which we have created and which I think will be very          expected to go live early next year – the debate about
classes,” he says. Traders from banks, hedge        attractive for this market place. Also, it will facilitate    whether more complex structures can be traded
funds, asset management and corporations are        the ability for people to trade directly with one             electronically and whether an FX options ECN would
looking for a change in the way FX options          another, because currently the central part of this           gain traction will continue.

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