The Surprising Similarities Between Cash FX & Crypto Trading
Worlds apart ... or are they?
On the face of it, fiat currencies and crypto belong to two very different worlds.
Fiat currencies and, more specifically, foreign exchange serve the purpose of storing and exchanging value among centralised financial systems.
In contrast, crypto belongs to a seemingly ‘mysterious world’ that is characterised by decentralisation and underpinned by blockchain technology. Nonetheless, crypto provides a new way to transfer value in the eyes of those who deem it to have value, at least.
However, there are — perhaps surprisingly — more similarities between cash FX trading and crypto trading than meets the eye — namely, in the technology architecture that facilitates order execution.
The integration between the fiat and crypto worlds is seemingly unstoppable. Crypto adoption is stretching beyond only retail investors, who were responsible for the inception of crypto.
Now, institutional and even sovereign interest is generating much of the interest toward crypto, which is driving demand for specialised crypto trading technologies tailored to their needs.
However, despite being an entirely different class of currency-centric instruments — or perhaps an entirely new asset class altogether — crypto and crypto assets trading, at an institutional level at least, has encountered similar problems found in the trading of cash FX.
In particular, market fragmentation, whereby liquidity is scattered across several exchanges and makes the consolidation of prices and volumes difficult, is a feature of both asset classes. For example, according to Blockspot.io, there are roughly 1,500 crypto exchanges, and roughly 7,000 cash FX brokerage platforms globally. As such, it is essential that a set of technologies is present to manage liquidity fragmentation, provide market transparency and facilitate best execution.
One way in which this streamlining of liquidity aggregation can be achieved is through smart-order routing (SOR) technology.
SOR is an automated execution system that monitors all trading venues on which an asset is available to trade. The SOR system will scan each venue for the best possible execution. This technology has been prevalent in cash FX markets for years, and is therefore more advanced and mature than SOR systems found in the crypto space. Trading system vendor smartTrade Technologies is one example of a company that provides financial institutions with access to crypto liquidity through a SOR, as well as providing the same functionality for cash FX markets.
In fact, smartTrade’s SOR system is part of a typical use case for an investment bank seeking to gain exposure to crypto via an exchange:
The process is as follows:
An institution sources pricing information from several different exchanges (like Okcoin), other IB broker-dealers and from non-bank brokers;
The pricing is cleaned and aggregated into a central book;
Traders and internal systems can view pricing via aggregator GUIs and APIs; and then
The IB can then place orders and operate trading strategy algorithms directly against the market via direct market access (DMA) or by using a SOR to achieve best execution.
Familiarity in operational models could go a long way in increasing confidence toward crypto as an asset class.
In our August 23, 2023 article, we referenced the possibility of prime brokerage in helping to provide a bridge into the crypto world for financial institutions, purely because PB is built upon a tried and tested framework. PB is a bundled group of services that IBs can offer to hedge funds and other asset management or institutional investment clients, and PB services can also include add-ons such as trade execution, settlement and custody.
However, there is another crossover that is currently ongoing.
As FX-Markets points out, quote-driven dealer-to-client electronic communication networks (ECNs) — which are commonplace in cash FX trading — are also becoming part of the crypto trading landscape.
An ECN is a platform that facilitates the trading of securities outside traditional exchanges. ECNs enable access to more diverse liquidity pools, directly matching buy and sell orders without the intervention of a broker. Generally speaking, clients need a credit sponsor to trade on these new crypto, FX-styled ECNs.
Current providers of these crypto-centric ECNs include Cypator and Crossover Markets. In particular, Cypator uses PB for clearing, and it also has an interface that resembles the layout of a cash FX trading platform, again simplifying the adjustment to crypto. The company has 20 institutional clients signed onto its platform, and it has cleared over 100,000 trades to date.
Perhaps surprisingly, there are several architectures that are transferable between cash FX and crypto assets trading — even if, on the face of it, both asset classes seem worlds apart.
As a result, financial institutions seeking to delve into the crypto space can take confidence in the similarities between both asset classes as they are presented by electronic brokerage services providers, which are seemingly purposefully designed to help market participants to ‘realise’ that the barriers to adopting crypto alongside cash FX on a sort-of cross-asset e-trading business model basis may not be as high, or at least as confusing, as they first thought.