On Thursday, May 26, the Bank for International Settlements released the first phase of a global code of conduct (Global Code) for the institutional foreign exchange (FX) market. This long-awaited “principles-based code” “covers areas such as ethics, governance, information sharing, execution, risk management and compliance, and confirmation and settlement.” This alert provides initial suggestions on how the Global Code’s implementation might impact current operations and how to demonstrate compliance with the Global Code. While the following steps may directly assist with Global Code implementation, they are also considered a “best practice” to continuously review and revise, if necessary, existing workflows to ensure they are accurate and appropriate.
The Global Code is intended to “provide a common set of guidelines to promote the integrity and effective functioning of the wholesale [FX] market.” The Global Code is accompanied by an annex with examples “intended to help illustrate concepts drawn from the principles.” The Global Code “does not impose legal or regulatory obligations on Market Participants nor does it substitute for regulation.” However, “it may be relatively easy to incorporate aspects of the Global Code into an internal policy or process.” Since its release, “some of the larger institutions . . . are already moving toward adoption internally.”
The Global Code’s development began with the July 2015 establishment of the Foreign Exchange Working Group (FXWG), a committee composed of 21 central banks representing 15 currency areas. The central bank efforts were complemented by a Market Participants Group (MPG), which had 35 representatives from banks, buy side firms, trading platforms, market infrastructures, family offices, algorithmic trading firms, brokers and investment advisers, and other non-bank participants. Work has already begun on Phase 2 of the Global Code, focused on electronic trading. Final publication of the complete FX Global Code is targeted for May 2017.
Some of the areas covered by the Global Code are addressed at a very basic level, for example, instructing market participants to “behave in an ethical and professional manner.” However, the Global Code, designed to be “an essential reference,” may provide clarity and standardization in certain of the more complicated areas, such as transparency and transaction execution.
- Review and supplement internal policies and procedures.
Although the Global Code does not rise to the level of legislative, regulatory, or other legal authority, it provides a reference against which to review the adequacy and completeness of a firm’s current internal compliance materials related to the operation of its FX business. Compliance with the Global Code will be based on a firm’s ability to document a policy or procedure in furtherance of each of the Global Code’s principles.
For example, to ensure high ethical standards, a firm should clearly identify senior and front-line management designated to promote ethical values and provide advice when the firm faces ethical questions. Similarly, the Global Code recommends clearly delineated roles, obligations, and responsibilities among senior officials.
Similarly, the Global Code suggests that communication protocols provide clear guidance to employees about the permitted modes of external communications (recorded methods) and the scope of permissible dissemination of information (i.e., statements attributed to third parties, statements of opinion, commentary providing unattributed market color).
A firm will need comprehensive policies and procedures that clearly demonstrate compliance with the letter and the spirit of the Global Code.
- Develop and promote “best practices” to mitigate risk from post-trade processes.
The Global Code describes in detail the processes market participants should follow for proper confirmation and settlement of FX trades. In addition to assuring consistency among internal practices, documentation, and policies, a market participant should have a “robust framework” in place for both normal and peak conditions. These measures go to the Global Code’s purpose “to promote the integrity and effective functioning” of the FX marketplace.
The Global Code suggests that technology, such as straight-through processing, should be employed to reduce operational risk. Trades should be confirmed as soon as practicable, with block trades affirmed and allocated as soon as practicable as well. Confirmation, settlement, and processing features should be clearly documented and settlement discrepancies should be resolved pursuant to specified procedures.
For each of these principles, as well as others set forth in the Global Code, market participants should make sure that precise policies and procedures comport with best practices. It is expected that many firms will already have established protocols that satisfy the Global Code. However, while reviewing its current procedures, a firm can review, revise, and strengthen the documentation to ensure its accuracy before declaring itself “Global Code compliant.”
- Review, revise, publish, and comply with informative disclosures.
The Global Code specifies that a firm’s procedures should identify the disclosures that customers, counterparties, or other market participants should receive regarding their relationship with the firm and the protection of their information. For example, under the Global Code, a firm should make clear how confidential information is protected, when it is shared with regulatory authorities, and whether exceptions exist so that confidential information may be disclosed.
Similarly, the Global Code’s principles on trade execution and transparency cover such areas as how a firm intends to handle client orders, distinguish between firm and indicative prices, charge a commission or mark-up, and other important dynamics. The Global Code recognizes that such information can assist a client’s transactional decision-making.
As evidenced by recent enforcement actions, deficient, inaccurate, or misleading disclosures can be actionable. Each firm should review the information it makes publicly available to ensure that it is consistent with the objectives of the Global Code and accurately reflects the firm’s practices.
Publication of Phase 1 of the Global Code is a significant milestone. The first 30 pages reflect the work and input of dozens of central banks and thousands of market participants. Phase 2 will be equally challenging as policymakers address electronic execution.
Market participants should begin to review the Global Code now and incorporate its principles into their operation. Firms that work through Phase 1 of the Global Code now will be better prepared to implement Phase 2 in May 2017.