By Mike Robertson, CEO of AbbeyCross
Over the past decade, cross-border payments have grown significantly, seeing increased innovations within international payments and foreign exchange (FX). However, many of these innovations have only affected major currencies and developed markets, leaving emerging market (EM) currencies struggling to gain access to fair and on-market exchange (FX) rates. At the heart of this is a structural deficiency in the way large banks manage EM payments. Simply described, there is a significant imbalance between demand (the banks making payments) and supply (the vendors fulfilling these payments for banks) and this creates a slower and more expensive payments system for all stakeholders involved: banks, businesses, charities, and individuals who send remittances; All suffer the consequences of this lack of regulation and transparency.
Enter AbbeyCross, whose mission is to create a new solution, and, by bringing together all stakeholders in EM currency exchange more effectively, rectify this imbalance.
When dealing with international cross-currency payments, banks can provide coverage from five to eighty currencies depending on their size and reach. Banks are highly regulated institutions requiring external vendor relationships to complete their EM needs due to the extensive resources and time-consuming nature involved with these currencies. Typically, banks will work with just one specialist vendor who can provide valuable expertise regarding local EM regulations and requirements, helping to reduce the cost of this process. The use of specialist vendors has helped reach more international clients and improve service levels for their customers but does not resolve the issues at hand entirely as this leaves vulnerabilities both on transparency and regulations when looking for a fair market price and also trying to cover more or all EM currencies.
Large payment banks typically manage cross-currency payments internally, through correspondence, or by outsourcing. With global banks, the first two sources have been largely used, with the third being left behind. Many banks have integrated with one specialist who will assist in managing the payment, therefore outsourcing is no longer thought about, often with a ‘set and forget mentality. Fintechs using outsourced payments have been doing so the same way for the last twenty years, often without any challenging or monitoring of the specialist used. With the pace that technology has evolved over the last twenty years, it should be expected that the way cross-currency payments are made has evolved too.
The importance of outsourced payments has often been forgotten about, as the value it adds to the cross-currency payment system is one that exists in the background for most banks. Specialist vendors have been able to add real value, continuing to do the work without needing much supervision from the banks themselves. Likewise, evolving this process involves a long and costly process of integrating and trading with a new vendor, so many banks stick with what they know – even if that agreement no longer benefits them in today’s market.
The structural problem with outsourced payments methods is just now being addressed in the market. The lack of attention to the structure of the method has created a significant problem that needs to be addressed. Applicable market data is missing from the reasoning that Outsourced Payments have been left behind, making it difficult for banks’ traders and supervisory teams to monitor the pricing and service provided by the single specialist vendor.
To solve this structural problem, a new market infrastructure must be put in place that is supported and used by the banks. Once the new infrastructure is put in place, banks can start looking at their relationships with the specialists and how the Outsourced Payment systems work internally.
The current EM infrastructure has resulted from several issues including the reliance on one single specialist vendor for FX and the inability to compare pricing caused by the lack of reliable market data that can provide a benchmark.
Exploring what is ‘broken’:
No price competition
Banks most commonly deal with the currencies of developed markets such as USD, EUR, and GBP, where there is a developed FX market, meaning the access to price competition and market transparency has made trade between these currencies effortless. In contrast, EM currency markets, are a loss leader for many banks due to limitations associated with banks relying on one specialist vendor:
Imbalance of pricing and service quality; and
No one specialist vendor can offer the best price and service in every region, let alone country.
No reliable benchmark or market data
Market transparency is key in providing the highest quality service and without a recognised trading venue, banks lack access to dependable market data. Without access to high-quality market data, banks struggle to provide their clients with a reliable benchmark for FX rates in EM currencies.
Bundled pricing conventions
When pricing outsourced settlement currencies, specialist vendors typically absorb the payment fee into the FX margin. This added cost results in specialist vendors’ FX rates being difficult to compare to pure interbank FX rates from data venues like Bloomberg, who don’t add this additional fee to their data. The difference in price in these data sources has led to a divide, where price comparison can’t occur.
No redundancy or backup provider
With banks referring to one specialist vendor for all their EM currency needs, they carry the risk of supplier redundancy. If a vendor suffers from a system failure or their onshore banking relationship fails, this will directly affect the services banks offer to their customers. If the vendor fails in their role, the bank would be unable to offer an FX price or settlement, damaging its reputation.
No allowance for differentiation in settlement type
Over the past decade, banking has become more accessible and convenient due to the abundance of alternative options; From real-time settlements (faster payments) to wire settlements to cross-border automated clearing house payments and now digital wallets, there are more options than ever for banking customers to move their funds around. Banks are expected nowadays to provide this wide variety of settlement options, contrasting current specialist vendors who generally only enable wire settlement.
The current FX market infrastructure is flawed and in desperate need of a change to provide all parties with the opportunity to access the best service and prices. EM currencies have been left behind in the innovations made within the FX market, creating a rift in those wanting to move between currencies from developed and emerging market countries. Collaboration between banks and specialist vendors is needed to create a competitive marketplace that offers only the best price and service leveraging existing tools, and technology to create solutions.