Investoren und Fonds zahlen beim Währungstausch oft viel zu hohe Kosten. Daher wurde im Mai 2017 der FX Global Code entwickelt und veröffentlicht. Dieser erfuhr im Juli 2021 ein Update, aber damit sind noch nicht alle Probleme vom Tisch.

… zum Artikel

Jasper Düx, CIO und Holger Bang, CFA, Head of Portfolio Management erklären, vor welche Herausforderungen Fremdwährungsrisiken Investoren EUR-denominierter Private Assets stellt, welche Besonderheiten beachtet werden müssen und inwieweit eine Währungssicherung Sinn macht.

Jasper Duex, CIO and Holger Bang, CFA, Head of Portfolio Management explain the challenges that foreign exchange risks pose to investors in EUR-denominated private assets. They also explain the particularities that need to be considered and the extent to which currency hedging makes sense. This video is available in German.

  • The COVID-19 crisis has prompted central banks to cut key interest rates
  • This has had an impact on interest rate spreads and cross-currency basis spreads
  • Lower currency hedging costs across all maturities
  • Recommendation: Review the hedging mix

Development of the 3-months interest rate spread

  • Due to the COVID-19 crisis, the central banks of the USA, Canada, the UK and Australia, among others, have lowered their key interest rates several times, in some cases significantly
  • Both the ECB and the Bank of Japan have started extensive QE measures, but have not lowered the key interest rate any further due to the already low interest rate levels
  • Result: significant narrowing of money market interest rate spreads between the Euro and other G7 currencies

EUR/USD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/CAD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

Changes in interest rate spreads, cross-currency basis spreads and implicit hedging costs (3-month basis)

  • The liquidity squeeze in the currency market was significantly reduced through swap lines between the major G7 central banks
  • As a result, cross-currency basis spreads have eased significantly in most cases, coming back from historically very low and thus expensive levels for European investors
  • In some currencies, such as EUR/USD, EUR/GBP and EUR/CAD, these basis spreads are currently even in positive territory.

EUR/USD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/CAD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

Development of FX hedging costs by maturity year on year

  • In tandem with the reduction of the interest rate spread, positive basis spreads, especially in EUR/USD, EUR/ GBP and EUR/CAD, lead to an additional reduction in the current FX hedging costs for European investors.
  • The lower hedging costs are evident in all maturity bands

EUR/USD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/CAD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Source: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

Recommended actions

Reallocation of the hedge composition

Investors who focus on minimising hedging costs in their currency hedging should review their current hedge situation. For example, the hedging returns from a EUR/CHF hedge have decreased, but the hedging costs of other currency pairs, as shown before, have become significantly cheaper.

Optimisation of the hedging term

The current development has a direct impact on the optimal choice of maturity for hedging instruments. A European investor was able to achieve a significant saving in hedging costs ex post when hedging his USD risk in the short maturity range of 2 weeks (vs. a 3-month rolling hedge). The more dynamic and volatile the prevailing FX market situation, the greater the importance of the optimal maturity determination and its performance contribution. It can be assumed that this environment also holds performance potential for positions taken today. However, a sound decision-making process to determine maturities is based on a multitude of influencing factors. That is why the 7orca Tenor Management takes on the task of managing and determining the optimal hedge maturities for its clients. In 2018 and 2019, we generated a performance contribution in EUR/USD hedging of over 50 bps p.a. on average. Since the beginning of 2020, an attractive performance contribution of 8 bps has been generated using the Tenor Management.

Evaluation of the chosen FX brokers

Especially in the current market environment, the quality of FX brokers takes on an important significance. In addition to the ongoing review of the counterparties’ creditworthiness, the continuous review of the execution quality is also essential. In particular, this concerns the transaction costs that arise when hedging transactions are concluded. In addition, it must be checked whether the optimal term of the hedging transactions can be presented. The prevailing market situation prompted a well-known counterparty not to conclude hedging transactions with maturities of more than 2 weeks despite collateralisation. Examples like this show that in addition to the selection of brokers, continuous communication with them is also crucial.

7orca is ready to advise you on all matters relating to the optimal hedging of your FX holdings, especially in challenging times.

  • Die COVID-19 Krise hat Zentralbanken zur Senkung der Leitzinsen veranlasst
  • Dies hat Auswirkungen auf die Zins-Spreads und die Cross-Currency Basis Spreads
  • Gesunkene Währungssicherungskosten über alle Laufzeiten
  • Empfehlung: Überprüfung des Sicherungsmixes

Entwicklung der 3-Monats-Zins-Spreads

  • Aufgrund der COVID-19 Krise haben unter anderem die Zentralbanken der USA, Kanadas, Großbritanniens sowie Australiens ihre Leitzinsen mehrfach und teils deutlich gesenkt
  • Sowohl die EZB als auch die Bank of Japan haben umfangreiche QE-Maßnahmen gestartet, den Leitzins jedoch aufgrund der bereits niedrigen Zinsniveaus nicht weiter gesenkt
  • Resultat: teilweise signifikante Verengung der Geldmarkt-Zins-Spreads zwischen Euro und anderen G7 Währungen

EUR/USD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020

EUR/CAD

Quelle: 7orca Asset Management AG. 01.01.2013 – 07.04.2020

EUR/AUD

Quelle: 7orca Asset Management AG. 01.01.2013 – 07.04.2020

Bewegungen der Zins-Spreads, Cross-Currency Basis Spreads und der impliziten Sicherungskosten (3-Monats-Basis)

  • Der Liquiditäts-Engpass im Währungsmarkt konnte durch Swap-Linien zwischen den großen G7-Zentralbanken deutlich reduziert werden
  • In der Folge haben sich die Cross-Currency Basis Spreads größtenteils deutlich entspannt und sind von den historisch gesehen sehr niedrigen und damit für Europäische Investoren teuren Niveaus zurückgekommen
  • In einigen Währungen, wie beispielsweise EUR/USD, EUR/GBP sowie EUR/CAD notieren diese Basis Spreads aktuell sogar in positivem Territorium

EUR/USD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/CAD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

Entwicklung der FX-Sicherungskosten nach Laufzeiten im Vorjahresvergleich

  • Neben der Reduktion des Zins-Spreads führen positive Basis Spreads insbesondere in EUR/USD, EUR/GBP sowie EUR/CAD zu einer zusätzlichen Verbilligung der aktuellen FX-Sicherungskosten für Europäische Investoren
  • Die geringeren Sicherungskosten zeigen sich in allen Laufzeitenbändern

EUR/USD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/GBP

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/CAD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

EUR/AUD

Quelle: 7orca Asset Management AG. (01.01.2013 – 07.04.2020)

Handlungsempfehlungen

Reallokation des Sicherungsmixes

Investoren, die im Rahmen ihrer Währungssicherung auf eine Minimierung der Sicherungskosten fokussieren, sollten ihre aktuelle Sicherungsallokation überprüfen. So haben sich die Sicherungserträge beispielsweise aus einer EUR/CHF-Sicherung verringert, die Sicherungskosten anderer Währungspaare, wie zuvor dargestellt, jedoch deutlich verbilligt.


Optimierung der Sicherungslaufzeit

Die aktuelle Entwicklung hat direkte Auswirkungen auf die optimale Laufzeitenwahl der Sicherungsinstrumente. Ein europäischer Investor konnte bei der Absicherung seines USD-Risikos im kurzen Laufzeitenbereich (2 Wochen) ex post eine deutliche Ersparnis bei den Sicherungskosten erzielen (vs. einer 3-monatigen rollierenden Sicherung).

Je dynamischer und volatiler die vorherrschende Währungsmarktsituation ist, desto größer sind die Bedeutung der optimalen Laufzeitenbestimmung und ihr Performance-Beitrag. Es ist davon auszugehen, dass dieses Umfeld auch für heute eingegangene Positionierungen ein Performance-Potential birgt. Eine fundierte Entscheidungsfindung zur Laufzeitenfestlegung ist jedoch in einer Vielzahl von Einflussfaktoren begründet. Darum übernimmt 7orca für seine Kunden die Steuerung und Bestimmung der optimalen Sicherungslaufzeiten mittels des 7orca Laufzeiten-Managements.


So generierten wir in den Jahren 2018 und 2019 einen Performance-Beitrag in der EUR/USD-Absicherung von durchschnittlich über 50 bps p.a. Seit Jahresbeginn 2020 wurde hier mit dem Tenor Management ein attraktiver Wertentwicklungsbeitrag von 8 bps erwirtschaftet.


Evaluation der eingesetzen FX-Broker

Insbesondere im aktuellen Marktumfeld nimmt die Güte der FX-Broker einen wichtigen Stellenwert ein. Neben der laufenden Überprüfung der Kreditwürdigkeit der Kontrahenten ist auch die kontinuierliche Überprüfung der Ausführungsqualität erforderlich. Hier geht es im Speziellen um die Transaktionskosten, welche bei Abschluss der Sicherungsgeschäfte entstehen. Zudem muss geprüft werden, ob die optimale Laufzeit der Sicherungsgeschäfte darstellbar ist. Die vorherrschende Marktsituation veranlasste einen namhaften Kontrahenten, trotz Besicherung, keine Sicherungsgeschäfte mit Laufzeiten von mehr als 2 Wochen abzuschließen. Beispiele wie dieses zeigen, dass neben der Auswahl der Broker auch eine kontinuierliche Kommunikation mit ihnen entscheidend ist.

7orca steht Ihnen zu allen Fragen zu der optimalen Sicherung Ihrer Fremdwährungsbestände, insbesondere in herausfordernden Zeiten, beratend zur Seite.

Management des Rendite-Risiko-Profils von Fremdwährungs-Exposures

Institutionelle Investoren mit Fremdwährungsrisiken in ihrem Anlageportfolio werden regelmäßig mit der Frage konfrontiert, wie sie am besten mit dem Rendite-Risiko-Profil ihres Fremdwährungs-Exposures umgehen sollen.

7orca ist der Auffassung, dass ein zentraler Währungs-Overlay-Manager der ideale Sparringspartner für diese Entscheidung sein kann, indem er berät, welches Währungspaar am besten gemanagt wird durch

  • ein passives Währungs-Overlay-Programm, das eine im Voraus vereinbarte, statische Absicherung über die gesamte Hedging-Periode implementiert
  • ein aktives Währungs-Overlay-Programm, das es ermöglicht, an Fremdwährungsaufwertungen zu partizipieren und bei adversen Kursentwicklungen abgesichert zu sein

Aus verschiedenen Gründen sind manche institutionelle Anleger skeptisch gegenüber passiven FX Overlay-Ansätzen. Einerseits, da sie diese für einen naiven und statischen Ansatz halten, andererseits wegen der Kostenbelastung durch eine Fremdwährungsabsicherung (insbesondere für Währungspaare mit hohem Carry). Ein effizient umgesetztes passives Currency Overlay-Programm bietet Investoren eine Vielzahl von Vorteilen. 7orca hat mehrere Whitepaper zu Themen wie Transaktionskosten, Wahl der Instrumente (FX-Forwards vs. FX-Futures) und anderen Fragen veröffentlicht, die sich mit den zusätzlichen Fragestellungen bei passiven Währungs-Overlays befassen.

Der Fokus dieses INSIGHTs liegt auf der Vorstellung einer weiteren Komponente des passiven FX-Managements, die institutionellen Anlegern helfen kann, ihre Hedging-Kosten zu verringern oder ein zusätzliches Alpha bei der Absicherung ihres Fremdwährungsrisikos zu generieren. Diese Komponente – das Laufzeiten-Management – führt aus der Notwendigkeit einer Laufzeitenwahl der eingesetzten Sicherungsinstrumente und kann unkorreliert zu den Schwankungen der zugrundeliegenden Währungspaare sein.

In den folgenden Abschnitten stellen wir das Grundprinzip des Laufzeiten-Managements und seine verschiedenen Aspekte vor.

Laufzeiten-Management: Worum geht es und wie verbessert es das Currency Overlay?

Die oberste Priorität jeder passiven Währungs-Overlay-Lösung ist, jederzeit analog des im Voraus festgelegten Niveaus abgesichert zu sein. Die Festlegung der Laufzeit, auch Tenor genannt, des Sicherungsgeschäfts wird meist dem Currency Overlay Manager oder aber den einzelnen Managern der Basis-Investments überlassen. Jedoch handelt es sich hierbei um eine nicht zu vernachlässigende Input-Variable, die für den Erfolg eines passiven Overlays eine entscheidende Rolle spielen kann.

Es mag verlockend sein, diese Entscheidung zu vereinfachen, indem International Money Market (IMM) Dates, Standard-Tenors oder Liquidität als isolierte Argumente für die Laufzeitenwahl der Absicherung herangezogen werden. Das gleiche trifft auf Forward-Kurven zu, die im Vergleich zu anderen Kurven am Rolltermin günstig erscheinen und zur Bestimmung der Sicherungslaufzeit genutzt werden.

Unsere Analysen haben mehrere Vorteile bei der Anwendung eines quantitativen Verfahrens zur Bestimmung der optimalen Laufzeit identifiziert. Diese Vorteile für den Kunden beschränken sich nicht nur auf Kosteneinsparungen.

Als Currency Overlay Manager, der ein breites Spektrum von G10- und Emerging Markets-Währungen managt, hat 7orca einen transparenten und quantitativen Prozess zur Bestimmung der optimalen Laufzeit entwickelt. Dabei werden auch die verschiedenen Input-Faktoren überwacht. Die Laufzeit des Devisenterminkontrakts wird mittels des Laufzeiten-Managements-Prozesses dynamisch ausgewählt beziehungsweise angepasst. Grundsätzlich ist das Kundenportfolio weiterhin vollständig und zu jeder Zeit analog der im Voraus festgelegten Hedge Ratio abgesichert.

Im Allgemeinen wählt dieser quantitative Prozess Devisentermingeschäfte mit Laufzeiten zwischen zwei Wochen und zwölf Monaten. Je nach Kundenpräferenz oder Cashflow-Anforderungen können auch kürzere Laufzeiten für den Tenor Management-Prozess verwendet werden. Die Mehrzahl der Kunden von 7orca verwendet standardmäßig eine rollierende Dreimonats-Benchmark für die Performance-Messung, jedoch können auch andere Laufzeiten als Benchmark dienen.

Die zentralen Bestimmungsfaktoren der optimalen Laufzeit

Die Erträge bzw. die Kosten einer Fremdwährungsabsicherung belaufen sich im Wesentlichen darauf, die Forward-Punkte für die Laufzeit des betreffenden Währungspaares zu erhalten oder zu zahlen. Ziel des Laufzeiten-Management-Prozesses von 7orca ist es, diese Kostenkomponente der Absicherung zu minimieren, beziehungsweise die Erträge zu maximieren.

Hierzu werden entweder Trends in der Laufzeitstruktur oder eine günstige Kurvendrehung im Vergleich zur Benchmark-Kurve ermittelt.

Die aktuelle makroökonomische Stimmung und die Geldpolitik der jeweiligen Länder sind wichtige Faktoren, welche die Forward-Kurve beeinflussen und anhand der Zinsdifferenzkurven beobachtbar sind. Eine Parallelverschiebung (d.h. eine Erhöhung der Steigung oder Abflachung aller Kurven) mit einem unterschiedlichen Grad der Verschiebung in den einzelnen Laufzeiten kann eine bestimmte Laufzeit im Hinblick auf die erwarteten Kosteneinsparungen attraktiver machen. Dies funktioniert in beide Richtungen:

  • Wahl einer günstigeren Kostenbasis im Vergleich zu einer längeren Sicherungslaufzeit. Realisierung von Kosteneinsparung relativ zur Benchmark-Absicherung, welche die Terminkurve nach oben rollt.
  • Die Terminkurve mit kürzeren Laufzeiten nach unten rollen. Realisierung von Kosteneinsparung relativ zur Benchmark-Absicherung, die die höhere Kostenbasis über eine längere Laufzeit festschreibt.

Allerdings unterliegen die Terminkurven und ihre relative Attraktivität im Vergleich zueinander auch während der
Sicherungslaufzeit Veränderungen. Daher könnte eine naive „Do-and-forget“-Strategie darunter leiden, dass auf Änderungen des Zinsregimes gar nicht oder aber zu schnell auf vorübergehende Situationen reagiert wird.

Zusätzlich zu den oben genannten Faktoren können andere Größen erhebliche, wenn auch keine nachhaltigen Auswirkungen auf die Hedging-Kosten haben, die für die Dauer der gewählten Laufzeit festgeschrieben werden. In einem volatilen Marktumfeld begrenzen Liquiditätsbeschränkungen an den Devisenmärkten die Möglichkeiten, die sich für eine Absicherung bieten. Liquiditätsbeschränkungen bestehen in Form von breiteren Spreads als normal für bestimmte Laufzeiten, was die Laufzeiten unattraktiv macht.

Der Vergleich der Spreads über die einzelnen Laufzeiten hinweg sollte auch dahingehend normalisiert werden, wie oft der Tenor gerollt werden muss. Eine Absicherung von zwei Wochen bedeutet auf Jahressicht, dass der – jeweils potenziell unterschiedliche – Spread für diese Absicherung 26-mal bezahlt werden muss. Wird die gleiche Absicherung direkt für das ganze Jahr implementiert, wird der Spread einmalig gezahlt.

Abb. 1: Kosten der EUR/USD Forward-Kurve1 Quelle: Bloomberg, 7orca Asset Management (01.01.2018 – 01.10.2020)

Abbildung 1 illustriert einen repräsentativen Zeitraum einer passiven EUR/USD-Absicherung und zeigt die Entwicklung der drei Forward-Kurven von 2 Wochen, 3 Monaten und 12 Monaten. Die Ausreißer der 2-Wochen Forward-Punkte zeigen die impliziten Kosten des Basis Swaps auf, was in einem späteren Abschnitt behandelt wird. Ignoriert man diesen Effekt, ist immer noch ersichtlich, dass sich die relativen Kosten der Forward-Kurven erheblich verändert haben.

In diesem Zeitraum hätte das Fixieren des günstigsten Sicherungsgeschäfts am Rolltag die Möglichkeit erheblicher Kosteneinsparungsmöglichkeiten vergeben. Ein Blick auf die laufende Entwicklung der Terminkurven wäre über den gesamten Absicherungszeitraum vorteilhafter gewesen, um die Absicherungskosten bei steiler werdenden Kurven zu fixieren oder niedrigere Hedging-Kosten bei flacher werdenden Kurven zu realisieren.

Das Grundprinzip des Laufzeiten-Managements von 7orca

Der Prozess des Laufzeiten-Managements von 7orca leitet die erwarteten impliziten Absicherungskosten nach einem proprietären Algorithmus über alle Laufzeiten hinweg ab, der die folgenden Eingabegrößen berücksichtigt (ebenfalls in Abbildung 2 zusammengefasst).

Abb. 2: Faktoren zur Bestimmung der optimalen Laufzeit

Entwicklung der Zinsdifferenz

Im Rahmen des Laufzeiten-Management-Prozesses werden die aktuellen Kosten der Absicherung über alle Laufzeiten hinweg verglichen und eine Präferenzreihenfolge der einzelnen Laufzeiten festgelegt. Wie zu Beginn dieses Artikels erwähnt, ist eine solche „Point-in-time“- Analyse jedoch nicht ausreichend.

Es wird keine Aussage über die zu erwartenden Absicherungskosten getroffen, falls die kürzer gewählte Laufzeit in Richtung der Benchmark-Fälligkeit gerollt werden muss oder falls die Benchmark-Fälligkeit auf die länger gewählte Laufzeit gerollt werden muss. Der betrachtete Zeitraum an dieser Stelle der Analyse ist der jeweils längere der beiden Laufzeiten von Sicherungsinstrument oder Benchmark. Dies wird in Abbildung 3 dargestellt.

Abb. 3: Vergleich der FX Sicherungsalternativen im Vergleich zu einer Benchmark-analogen Sicherung

Um beispielsweise zu beurteilen, ob eine 1-Monats-Absicherung einer dreimonatigen Absicherung (analog der Benchmark) vorzuziehen ist, umfasst der Untersuchungszeitraum die gesamten drei Monate, während die Beurteilung, ob eine Absicherung für sechs Monate einer Absicherung gemäß der Dreimonats-Benchmark vorzuziehen ist, den gesamten Untersuchungszeitraum on sechs Monaten umfasst.

Die erwarteten Gesamtabsicherungskosten über diesen Untersuchungszeitraum können approximiert werden, indem die Struktur der Zinsdifferenzkurve analysiert wird.

Struktur der Zinsdifferenzkurve

Die Kosteneinsparungen, die durch die Wahl der heute günstigsten Kurve erzielt werden, müssen mit den Opportunitätskosten der Kurve verglichen werden, die sich, wie zuvor beschrieben, im Untersuchungszeitraum als günstiger erweisen könnte. Diese Opportunitätskosten werden vor allem dann sichtbar, wenn sich die Laufzeitenstruktur der Zinskurve ändert.

Transaktionskosten

Die oben vorgestellten Faktoren ermöglichen die Bestimmung einer „vorläufigen“ optimalen Laufzeit des Sicherungsgeschäfts. Zu einer validen Entscheidung müssen allerdings die Transaktionskosten über verschiedene Laufzeiten einbezogen werden.

Eine optimale Laufzeit kann verglichen mit einer anderen Laufzeit aufgrund einer Spread-Ausweitung unattraktiv erscheinen. Wie im vorhergehenden Abschnitt kurz erörtert, ist dieser Effekt in Risk-Off Szenarien stärker ausgeprägt, wenn die Märkte kurzfristige Laufzeiten den längerfristigen vorziehen.

Beispielsweise hat sich die EUR/USD-Spanne während der COVID-19 Krise im Jahr 2020 merkbar vergrößert und im April 2020 einen Höchststand von über 150% des pre-COVID-19 Niveaus erreicht. 2Quelle: Marktstudien zwei renommierter, kompetitiver Liquiditäts-Provider. (15.05.2020)

Der Laufzeiten-Management-Prozess integriert die transaktionsbedingten Kosten und validiert gleichzeitig die „vorläufige“ optimale Laufzeit, die zuvor bestimmt wurde.

Niveau und Entwicklung des Basis Spreads

Der Basis Spread bezieht sich auf die Differenz zwischen den impliziten Kosten für die Absicherung und der Zinsdifferenz eines Währungspaars.

Ein negativer Basis Spread erhöht die Sicherungskosten und muss daher in die Gesamtkostenbetrachtung des Laufzeitenwahlprozesses integriert werden. Einzelheiten darüber, wie sich ein Cross Currency Basis Spread auf die Absicherungskosten auswirkt, finden Sie in unserer früheren INSIGHT Publikation über den Basis Spread.

Der Laufzeiten-Management-Prozess bestimmt die optimale Laufzeit auf der Grundlage der Gesamtabsicherungskosten, die durch alle oben genannten Punkte bestimmt werden. Andere Faktoren wie die Liquidität werden bei der Implementierung der optimalen Laufzeitabsicherung ebenfalls berücksichtigt, sind jedoch nicht Gegenstand dieses INSIGHTs.

Weshalb der Laufzeiten-Management-Prozess zwischen den Roll-Terminen validiert werden muss

Wie im vorhergehenden Abschnitt erwähnt, hat eine naive „Do and forget“-Strategie erhebliche Nachteile während eines Zinsregimewechsels, ebenso wie in Zeiten vorübergehender Kurvenverschiebungen, welche die Möglichkeit bieten, sich eine günstigere Kostenbasis zu sichern. Sobald wie beschrieben die optimale Laufzeit durch den systematischen Laufzeiten-Management-Prozess festgelegt wurde, tritt dieser in einen Überwachungsmodus. Täglich und bis zum Fälligkeitsdatum wird die festgelegte Laufzeit validiert und gegebenenfalls neu positioniert. Die Datengrundlage dieses Prozesses besteht zum einen aus der gewählten Laufzeit und zum anderen aus einem proprietären Resilienz-Level, abgeleitet aus der gewählten Laufzeit.

Der Validierungsprozess verwendet die aktuellen Marktdaten des Währungspaars und bestimmt die optimale Laufzeit für den Tag.

Unterscheidet sich die neu ermittelte optimale Laufzeit von der aktuellen, leitet der Prozess den Resilienz-Level der neuen Laufzeit ab. Wird die neue Laufzeit als signifikant belastbar bewertet, berechnet der Prozess die Kosten für die Erweiterung oder Begrenzung der bestehenden Absicherung auf die neu bestimmte optimale Laufzeit. Sind die erwarteten Kosten für die Aufrechterhaltung der aktuellen Absicherung mit der aktuellen Laufzeit höher als die kombinierten

  • erwarteten Kosten der Absicherung mit der neuen Laufzeit und
  • die Kosten für die Auflösung und die Neuetablierung des Hedges,

empfiehlt der Prozess die neu ermittelte Laufzeit als die ideale.

Von da an prüft und validiert der Laufzeiten-Management-Prozess systematisch eine Reihe von Input-Faktoren, die oben beschrieben, und empfiehlt einen neue, optimale Sicherungslaufzeit. Status Quo des Laufzeiten-Management-Prozesses von 7orca. Aktuell nutzen die Kunden von 7orca das Laufzeiten-Management für die Währungspaare EUR/AUD, EUR/CAD, EUR/CHF, EUR/GBP, EUR/JPY und EUR/USD. Wie aus der „Real Money“ Performance ersichtlich wird, hat der Laufzeiten-Management-Prozess im vergangenen Jahr und im laufenden Jahr einschließlich der COVID-19 Pandemie, zu signifikant positiven Ergebnissen geführt.

Um die Ergebnisse zu veranschaulichen, wird beispielhaft die Performance des Laufzeiten-Management-Prozesses von 7orca für die Währungspaare EUR/USD und EUR/GBP seit 2017 gezeigt:

JahrPerformance Benchmark 3Bei der Benchmark handelt es sich um eine passive, rollierende Devisenterminsicherung mit einer fixen Laufzeit von drei MonatenPerformance 7orca 47orca Asset Management AG. Die Berechnung der Wertentwicklung basiert auf der standardisierten Ausgestaltung von 7orcas passiver Currency
Overlay Strategie, die zu martküblichen Durchschnittskosten ausgeführt wurde. Bis zum August 2018 handelt es sich um eine simulierte Wertentwicklung.
Die Wertentwicklung ist kein verlässlicher Indikator für künftige Ergebnisse.(01.01.2017 – 31.10.2020)

Outperformance
2017-1,87%-1,79%-0,01%
2018-2,71%-2,14%+0,57%
2019-2,85%-2,37%+0,48%
01-10/2020-1,10%-0,87%+0,23%
Tab. 1: EUR/USD Laufzeiten-Management
JahrPerformance Benchmark 5Bei der Benchmark handelt es sich um eine passive, rollierende Devisenterminsicherung mit einer fixen Laufzeit von drei Monaten Performance 7orca 6Quelle: 7orca Asset Management AG. Die Berechnung der Wertentwicklung basiert auf der standardisierten Ausgestaltung von 7orcas passiver Currency
Overlay Strategie, die zu martküblichen Durchschnittskosten ausgeführt wurde. Bis zum August 2018 handelt es sich um eine simulierte Wertentwicklung.
Die Wertentwicklung ist kein verlässlicher Indikator für künftige Ergebnisse.(01.01.2017 – 31.10.2020)
Outperformance
2017-0,81%-0,68%+0,13%
2018-1,07%-0,95%+0,12%
2019-1,24%-1,32%-0,08%
01-10/2020-0,73%-0,52%+0,21%
Tab. 2: EUR/GBP Laufzeiten-Management

Fazit

Wie in diesem INSIGHT aufgezeigt wurde, können passive Currency Overlay-Programme zusammen mit einer sehr attraktiven Komponente zum Management der Laufzeiten von Währungsabsicherungen implementiert werden.

Das Laufzeiten-Management bietet bei konstanter Hedge Ratio institutionellen Investoren viele Vorteile, darunter die Reduzierung der Absicherungskosten und die Möglichkeit gegenüber anderen, naiven Ansätzen oder einer statischen Laufzeitwahl Alpha zu generieren.

Zusammenfassend ist das Team von 7orca überzeugt, dass die Implementierung einer anspruchsvollen passiven Currency Overlay-Strategie viele Vorteile für institutionelle Portfolien birgt. Die Ergänzung eines passiven Currency Overlay-Programms um ein Laufzeiten-Management sollte jeder institutionelle Investor prüfen. Im persönlichen Dialog legen wir Ihnen gerne dar, wie das Laufzeiten-Management Ihre passive Währungsabsicherung verbessern kann.

Die Sicherungskosten in EUR/USD werden zum Jahresende durch den Cross-Currency Basis Spread weiter verteuert. Dieser INSIGHT erläutert, welche Implikationen sich hieraus für passive und aktive Währungssicherungsstrategien ergeben und wie von dieser Entwicklung sogar profitiert werden kann.

Verteuerung der Sicherungskosten

Die Kosten für Sicherungen im Währungspaar EUR/USD haben sich in 2018 weiter verteuert. Zu Beginn des Jahres lagen sie für eine dreimonatige Devisensicherung noch bei ca. 2,20% p.a., aktuell bereits bei ca. 3,50% p.a.1Quellen: Bloomberg, 7orca Asset Management AG. (13.11.2018) Die Grafik vergleicht die aktuellen, impliziten Sicherungskosten (per 13.11.2018) mit denen des 04.01.2018 bei einer Sicherungslaufzeit von einer Woche bis zwölf Monaten.

Abb. 1: Vergleich der impliziten Sicherungskosten2 Quelle: 7orca Asset Management AG, Bloomberg (14.11.2018 vs. 04.01.2018)

Neben einer divergierenden Zinspolitik zwischen FED und EZB treibt aktuell das Phänomen des Cross-Currency Basis Spreads (Basis Spread) die Sicherungskosten in EUR/USD zum Jahresende weiter nach oben. Vereinfacht dargestellt handelt es sich bei dem Basis Spread um eine Messgröße für das Angebots- und Nachfrageverhältnis für das Funding in unterschiedlichen Währungen. 

Der Basis Spread lag historisch gesehen nahe Null basierend auf der Annahme eines kontinuierlichen Zugangs der Banken zur Finanzierung am Interbankenmarkt. Seit dem Beginn der Finanzmarktkrise im Jahr 2007 ist allerdings ein Auseinanderdriften des Basis Spreads festzustellen. Die Höhe des Basis Spread wird aktuell insbesondere durch Kreditrisikoprämien und Liquiditätsbelange getrieben. Die gestiegene Regulierung verhindert darüber hinaus, dass eine Arbitrage der Marktteilnehmer den Basis Spread nivelliert. Die Verschiebung des Basis Spread lag in EUR/USD seit Anfang 2014 durchschnittlich bei ca. 24 Basispunkten (bp) p.a. zugunsten des USD. Bei einer dreimonatigen Sicherung über den Jahreswechsel hinaus liegt der Basis Spread aktuell sogar bei ca. 50 bp p.a zugunsten des USD.3Quellen: Bloomberg, 7orca Asset Management AG. (13.11.2018)

Abb. 2: Entwicklung des 3-Monats EUR/USD-Basis Spreads4 Quelle: 7orca Asset Management AG, Bloomberg. (04.01.2018 – 13.11.2018)

Die obenstehende Graphik zeigt den Verlauf des 3-Monats-Basis Spread im Zeitverlauf. Sichtbar ist die strukturelle Verschiebung des Basis Spread in den negativen Bereich sowie seine Saisonalität. Da gerade zum Jahreswechsel die USD-Knappheit besonders ausgeprägt ist, ließ sich in den vergangenen Jahren im Basis Spread ein saisonaler Effekt bei Sicherungslaufzeiten über den Jahreswechsel hinaus feststellen.

Auch in diesem Jahr tritt dieses Phänomen erneut auf und der Basis Spread hat sich bereits bei den Laufzeiten, die über den Jahreswechsel andauern, deutlich ausgeweitet. Zum Vergleich: Im Dezember 2017 verzeichnete der 3-Monats-EUR/USD-Basis Spread eine Veränderung von ca. -50 bp p.a. auf bis zu ca. -100 bp p.a.

Die Implikationen des Basis Spreads auf Währungssicherungsstrategien

Die Entwicklung des EUR/USD-Basis Spread hat direkte Implikationen für Währungssicherungsgeschäfte und schlägt sich in erhöhten Kosten für europäische Investoren nieder. So setzen sich die Aufschläge von Devisentermingeschäften aus dem unterschiedlichen Zinsniveau zwischen den beiden Währungen sowie dem Basis Spread zusammen. Die Sicherungskosten im Währungspaar EUR/USD steigen aktuell also durch beide Komponenten: das höhere Zinsniveau in den USA und den Basis Spread zugunsten des USD. Im Unterschied zu dem erhöhten Zinsniveau wird der Investor für den Basis Spread allerdings nicht kompensiert. Der Basis Spread erhöht die Kosten von Devisensicherungen, ohne einen potentiellen Ertrag zu bieten.

Für Investoren stellt sich somit die Frage, wie die negativen Auswirkungen des Basis Spreads auf Devisensicherungen möglichst reduziert werden können. Wir beleuchten, welche Implikationen sich sowohl für passive als auch für aktive Sicherungsstrategien ergeben.

Bei passiven Währungssicherungen sind die Wahl der Sicherungslaufzeit sowie der Zeitpunkt der Prolongation entscheidende Parameter für den Erfolg der Sicherungsstrategie. 

Die Wahl der Laufzeit ist von großer Bedeutung, da unterschiedliche Laufzeiten deutliche Zinsunterschiede aufweisen können. Dies ist in den Zinsstrukturkurven der beiden Währungen begründet. Aktuell liegt der Zinsunterschied in EUR/USD im 1-Monatsbereich bei ca. 2,7% p.a. 5Quellen: Bloomberg, 7orca Asset Management AG. Stand: 04.01.2018 und im 6-Monatsbereich bei ca. 3,1% p.a. 6Quellen: Bloomberg, 7orca Asset Management AG. Stand: 04.01.2018

Neben der Wahl der Laufzeit ist allerdings auch die Entwicklung des Basis Spread zu berücksichtigen. Diesem kommt eine signifikante Bedeutung bei der Bestimmung des Prolongationszeitpunkts zu. Gerade durch den saisonalen Effekt kann es sinnvoll sein, die Sicherung bereits frühzeitig über den Jahreswechsel zu prolongieren, um nicht der negativen Entwicklung zum Jahresende ausgeliefert zu sein. 

In dem aktuellen Marktumfeld, in dem der Basis Spread eine signifikante Höhe aufweist und das Zinsniveau zwischen den beiden Volkswirtschaften deutlich divergiert, sollten beide Faktoren bei einer passiven Währungssicherung zwingend berücksichtigt werden. Eine Strategie, welche diese Einflussfaktoren nicht berücksichtigt, kann zu einem signifikant schlechteren ökonomischen Ergebnis führen.

Bei aktiven Währungssicherungen, bei denen der Sicherungsgrad dynamisch an Marktentwicklungen angepasst wird, ist ein Timing durch die Auswahl bestimmter Sicherungstermine schwierig.

Die Sicherung wird ohnehin dynamisch in Abhängigkeit der Fremdwährungsentwicklung auf- oder abgebaut. Bei einem aktiven Currency Overlay wird der dominante Performancetreiber immer die Entscheidung sein, wann die Hedge Ratio in welcher Höhe angepasst wird. 

Ein professionelles aktives Currency Overlay sollte allerdings immer die Sicherungskosten in seinen Entscheidungsprozesses integrieren, denn je signifikanter die Kosten durch unterschiedliche Zinsniveaus und Basis Spreads, desto größer ist die Auswirkung auf die Sicherungseffizienz.

Profitieren vom Basis Spread durch synthetische Positionen

Da der Basis Spread seit einigen Jahren negativ tendiert, stellt sich die Frage, ob es die Möglichkeit gibt, von dieser Entwicklung zu profitieren. 

Wie dargestellt, wirkt sich der Basis Spread für europäische Investoren bei Devisensicherungen negativ aus. Allerdings bietet dieses Phänomen auf der Anlageseite auch die Möglichkeit, eine zusätzliche Rendite zu erzielen. Wenn der Investor in der Lage ist, statt einem physischen Investment eine synthetische Positionierung einzugehen, lässt sich der Basis Spread verdienen. Die synthetische Positionierung repliziert den Performance-Verlauf eines Vergleichsinvestments durch den Einsatz von Derivaten. Hierbei nutzt der Investor den Basis Spread vorteilhaft und vereinnahmt durch den Terminkauf der Währung den Basis Spread zusätzlich zu seiner Investmentrendite. 

Verdeutlicht wird diese Möglichkeit am Beispiel eines passiven S&P500-Aktieninvestments. Bei einem physischen Investment würde der Investor USD kaufen und dann in den Aktienmarkt investieren (z.B. über den Kauf eines S&P500-ETFs). Hierdurch würde er an einem steigenden Aktienmarkt sowie einer Aufwertung des USD gegenüber dem EUR profitieren. 

Das gleiche Auszahlungsprofil könnte erzielt werden, indem USD per Devisentermingeschäft gekauft und gleichzeitig eine Long-Positionierung im S&P500-Future eingenommen wird. Der USD-Terminkauf führt dazu, dass die USD um den Basis Spread verbilligt gekauft und ein Rendite-Pickup erwirtschaftet werden können. 

Die gleiche Logik findet natürlich auch auf währungsgesicherte S&P500-Positionen Anwendung. In diesem Fall müsste auf den Terminkauf der Währung verzichtet werden. Maßgeblich ist lediglich, dass das zugrundeliegende Investment mittels eines Derivates repliziert werden kann. Diese Strategie spart ebenfalls im Vergleich zum physischen USD-Investment mit anschließender Devisensicherung den Basis Spread ein.

The hedging costs in EUR/USD will increase further toward the end of the year by the cross-currency basis spread. This INSIGHT explains its implications for passive and active currency hedging strategies and how they can even benefit from this development.

Increasing hedging costs

The cost of hedging the EUR/USD currency pair continued to rise in 2018. At the beginning of the year, the cost for a three-month currency hedge was at approx. 2.20% p.a., but has risen to approx. 3.50% p.a.1Source: 7orca Asset Management AG, Bloomberg. (04.01.2018 vs. 14.11.2018) The chart below compares the current implicit hedging costs with a hedging term of one week to twelve months as at 13.11.2018 with those of 04.01.2018.

Fig. 1: Hedging costs per tenor2Source: 7orca Asset Management AG, Bloomberg (13.11.2018 vs. 04.01.2018)

In addition to a divergent interest rate policy between the FED and the ECB, the phenomenon of the cross-currency basis spread (basis spread) is pushing up hedging costs in EUR/USD towards the end of the year. In simplified terms, the basis spread is a measure of the supply and demand ratio for the funding in different currencies.

Historically, the basis spread has been close to zero based on the assumption of continuous access by banks to interbank financing. Since the beginning of the financial market crisis in 2007, however, the basis spread has drifted apart. The level of the basis spread is currently driven in particular by credit risk premiums and liquidity concerns. The increased regulation also prevents an arbitrage by market participants leveling the basis spread. The shift in the basis spread in EUR/USD since the beginning of 2014 has averaged approx. 24 basis points (bps) p.a. in favour of the USD. In the case of a three-month hedge beyond the turn of the year, the basis spread is currently as high as approx. 50 bp p.a. in favour of the USD.3Sources: 7orca Asset Management AG, Bloomberg. (13.11.2018)

Fig. 1: Development of the 3-month EUR/USD basis spread4Source: 7orca Asset Management AG, Bloomberrg (04.01.2018 – 13.11.2018)

The above chart shows the 3-month basis spread over time. Note its structural shift into negative territory and its seasonality. Since the USD shortage is particularly pronounced at the turn of the year, a seasonal effect has been observed in the basis spread over the past few years for hedging terms beyond the year-end.

Once again this year, this phenomenon will occur and the basis spread has already widened significantly in the tenors that extend over the year-end. For comparison: In December 2017, the 3-month EUR/USD basis spread recorded a change from approx. -50 bps p.a. to approx. -100 bps p.a.

The implications of the basis spread on currency hedging strategies

The development of the EUR/USD basis spread has direct implications for currency hedging trades and is reflected in increased costs for European investors. The premiums on forward exchange transactions are made up of the different interest rate levels between the two currencies and the basis spread. Thus, the hedging costs in the EUR/USD currency pair are currently rising due to both components: the higher interest rate level in the United States and the basis spread in favour of the USD. In contrast to the higher interest rate level, however, the investor is not compensated for the basis spread. The basis spread increases the costs of currency hedging without offering a potential return.

For investors, this raises the question of how the negative effects of the basis spread on currency hedges can be reduced to a minimum. We shed light on the implications for both passive and active hedging strategies.

In the case of passive currency hedging, the choice of the hedging term and the time of prolongation are decisive parameters for the success of the hedging strategy.

The choice of the term is very important, as different maturities can have significant interest rate differences. This is based on the yield curves of the two currencies. Currently, the interest rate difference in EUR/USD is approx. 2.7% p.a. in the one-month range and approx. 3.1% p.a. in the six-month range.5Sources: 7orca Asset Management AG, Bloomberg (04.01.2018 – 14.11.2018)

In addition to the choice of the term, however, the development of the basis spread must also be taken into account. This is of significant importance when determining the time of prolongation. Due to the seasonal effect in particular, it may prove useful to prolong the hedge early over the turn of the year in order not to be at the risk ofn negative developments at the end of the year.

In the current market environment, where the basis spread is significant and the interest rate level between the two economies diverges significantly, both factors should be taken into account for passive currency hedging. A strategy that does not consider these factors can lead to a considerably worse economic result.

For active currency hedging, where the degree of the hedge is dynamically adjusted to market developments, timing by selecting specific hedge dates is difficult.

In any case, hedging is dynamically built up or reduced depending on the development of the foreign currency. With an active currency overlay, the dominant performance driver will always be the decision as to when the hedge ratio will be adjusted and to what extent. 

However, a professional active currency overlay should always integrate the hedging costs into its decision-making process, since the more significant the costs due to different interest rates and basis spreads, the greater the effect on the hedging efficiency.

Profit from the basis spread through synthetic positions

As the basis spread has been negative for some years now, the question arises as to whether there is any possibility of profiting from this development.

As shown above, the basis spread for European investors has a negative effect on currency hedges. However, on the investment side, this phenomenon also offers the possibility of generating an additional return. If the investor is able to take a synthetic position instead of a physical investment, the basis spread can be earned. The synthetic position replicates the performance of a comparative investment through the use of derivatives. In this case, the investor uses the basis spread advantageously and earns the basis spread through the forward purchase of the currency in addition to his investment return.

This possibility is illustrated by the example of a passive S&P 500 equity investment. In the case of a physical investment, the investor would buy USD and then invest in the stock market (e.g. by buying an S&P 500 ETF). This would allow him to benefit from a rising equity market and an appreciation of the USD against the EUR.

The same payout profile could be achieved by buying USD using forward exchange contracts and simultaneously taking a long position in the S&P 500 future. The USD forward purchase enables the USD to be bought at a discount to the basis spread and a yield pickup to be generated. 

The same logic applies, of course, to currency-hedged S&P 500 positions. In this case, the forward purchase of the currency would have to be waived. The only decisive factor is that the underlying investment can be replicated using a derivative. This strategy also avoids the basis spread in comparison to the physical USD investment with subsequent currency hedging.

The currency market in transition

The foreign exchange market has undergone significant structural changes in recent years. The liquidity structure has changed, since established market participants have less risk-bearing capacity due to regulatory reasons and have to react to the emergence of new market participants. The Dodd Frank Act in the United States and the European MiFID II regulation have also had an impact on the market structure and have forced trading, not least with currency derivatives, onto stock exchanges or electronic platforms, so-called trading venues. As a result, FX trading has become increasingly electronic and automated. In addition, market participants must meet considerably more extensive best execution requirements. With regard to foreign exchange derivatives, market participants are expected to perform a more intelligent transaction cost analysis, in particular by anticipating pre-rading costs and comparing them with actual post-trading costs.

There is also increasing market acceptance of the FX Global Code of Conduct. The current list of 700 signatories to the Code includes the 30 largest banks, EU central banks, selected sovereign wealth funds and supranational corporations. The Code contains 55 principles for best practice in the foreign exchange market, including ethics, transparency, governance, information exchange, electronic trading, algorithmic trading and prime brokerage. It identifies global best practices and processes to help review and develop internal procedures to restore public confidence in the market after numerous foreign exchange scandals.

For the first time in years, the financial industry has reached a point where most of the regulatory requirements have been implemented. Among other things, algorithmic execution and transaction cost analyses offer exciting opportunities to create new added value. Furthermore, the structural market changes lead to an increasing information density among market participants and present them with the challenge of processing the available data volumes and incorporating them into their decision-making processes.

Implications for the liquidity structure

The liquidity structure in the currency market has changed significantly in recent years. One reason for this is the regulatory reduction in banks‘ risk capital, which has had an impact on market making. Regulation has considerably limited their ability to take risks in currency trading.1Source: afme Finance for Europe – „Impact of Regulation on Banks‘ Capital Markets Activities, An ex-post assessment“

One additional reason is that many large FX banks have significantly increased their investments in personnel and particularly in software as well as hardware in recent years. In addition, formerly established providers have reduced their activities or even withdrawn from the market. Some large FX houses have been able to significantly increase their market share through the investments mentioned above. The Triennial Central Bank Survey in 2016 has confirmed this as well. A mere 5 to 6 banks account for 75% of global foreign exchange turnover. These banks continue to provide their balance sheets as principals and actively take the risk in trading client positions. On the other hand, there is the agency model, in which brokers raise liquidity in the market for a fee and pass it on to customers at the same conditions.

In recent years, top tier banks have paid great attention to the so-called internalisation of trading flows. Internalisation means that the banks try to match the customer orders they have in their order book with the current flow rather than using the inter-bank market as they used to. Moore M, A Schrimpf and V Sushko (2016) show this very clearly in their analysis of the BIS Survey data.2Source: Moore M, A Schrimpf and V Sushko (2016): “Downsized FX markets: causes and implications”, BIS Quarterly Review, December, p 45. According to the survey, more than 60% of the trading volume is internalised in the spot market. Market observers assume that, depending on geography and currency pair, some large liquidity providers internalise more than 90% of the volume. In order to generate the necessary volume, these major FX brokers operate on a large number of trading venues.

This is also reflected in declining trading volumes on the primary venues such as EBS and Thomson Reuters. Furthermore, the fragmented liquidity situation leads to challenges for the buy side. For example, FX brokers‘ willingness to trade is shown today on many trading venues and consequently the available liquidity can easily be overestimated.

A new type of market participant, the non-bank liquidity provider (NBLP), further contributed to this change in market structure. Historically, these market participants have been market makers who have tried to gain market advantage and profit from advanced technology. To do so, they acted at various trading venues, where they were also indirectly available as liquidity providers. Some of these players have changed their business model to also contact selected customers directly and provide them with liquidity. This change can also be clearly seen in the FX rankings that are common in the industry. The Euromoney FX Survey 2018 places four of these alternative providers among the top 20 with a trading volume of almost 14%.3Source: Euromoney “FX Survey 2018: Overall results”, published: https://www.euromoney.com/article/b18bzd2g51lqkn/fx-survey-2018-overall-results (retrieved on 27.05.2019)

However, the business model of these market participants does not focus on warehousing positions but on neutralising risk positions within seconds.

According to Virtu Financial Inc., in a period of 1238 tradng days, the company only generated a loss on one day.4Source: Business Insider – “Everyone‘s Talking About The High-Frequency Trading Firm That Just Had 1 Day Of Trading Losses In 1,238 Days” https://www.businessinsider.com/virtu-hft-only-one-losing-day-2014-3?IR=T (retrieved on 04.06.2019) This means that NBLPs provide liquidity in normal times and contribute to competitive bid-ask spreads, but they also have a strong incentive to withdraw from their market-making role in times of abrupt volatility increases in order to avoid the risk of large price movements. As a result, overall liquidity can decline significantly in volatile market phases.5Source: Bellia, Mario and Christensen, Kim and Kolokolov, Aleksey and Pelizzon, Loriana and Renò, Roberto, High-Frequency Trading During Flash Crashes: Walk of Fame or Hall of Shame? (April 1, 2018). Paris December 2018 Finance Meeting EUROFIDAI – AFFI.

Implications for the trading process

The ability to trade foreign exchange on electronic platforms has been around for over two decades. However, this trend has accelerated since the Lehman crisis and has been exacerbated by regulation in recent years, which demands a higher level of transparency.

This development has been supported by advances in processor technology, inexpensive storage space and fast networks that allow data to be exchanged almost in real time. Whereas 10 years ago most of the daily FX volume was traded by telephone, about 70% of today‘s foreign exchange trading volume is handled electronically.6Source: vi BIS, Triennal Central Bank Survey, Global foreign exchange market turnover in 2016, p. 73

The resulting efficiency gains have also significantly reduced trading costs, measured as bid-ask spreads.7Source: Rime, D and A Schrimpf (2013): “The anatomy of the global FX market through the lens of the 2013 Triennial Survey” p. 34 At the same time, the increase in electronic trading has led to an elevated use of trading algorithms. On average, this resulted in a rise in individual tickets per order for the same order volume. This higher ticket volume thus entails an expanding need for post-trading automation. Only those who are able to process the majority of all transactions automatically can benefit from the opportunities offered by electronic trading. A further consequence is the generation of an enormous amount of data.

These data represent again the basis for a great number of analysis possibilities. An example is the life cycle of an order. From the generation of the order in the pre-trade phase up to the execution phase of the order and finally the so-called post-trade phase, the market participants have almost real-time analysis options at their disposal (see also preceding section).

7orcas responses to the evolving market structure

After a closer look at the change in the FX market structure, the following section shows how 7orca uses the resulting challenges and opportunities in currency overlay for the benefit of its customers. Increased efficiency in the life cycle of a transaction MiFID II requires investment firms to take all necessary steps to obtain the best possible result for their clients when executing orders, taking into account costs, speed, probability of execution and settlement, size of the order and type of order.

The first MiFID regulation required only that asset managers take all reasonable steps to achieve the best result for their clients. In contrast, MiFID II requires companies to adopt a systematic approach and monitor all trading transactions.

7orca‘s aim is not only to meet regulatory requirements, but also to use best execution tools and transaction cost analysis to increase customer value. The execution quality makes a significant contribution to the overall performance of currency overlay strategies. Therefore, the trading process is a major focus: 7orca‘s portfolio managers have many years of experience and expertise in the execution of currency transactions and are able to guarantee efficient execution in the most diverse market phases.

7orca‘s best execution process is based on the life cycle of a transaction and is divided into three phases: pre-trade analysis, trade execution and post-trade analysis. The aim of the pre-trade analysis is to identify the strategy with the lowest transaction costs before the trade is even carried out.

7orca analyses the ideal trading time based on the FX exposure to be hedged and the currency-specific liquidity curves. In addition, the current market depth and volatility determine the execution strategy. In this step, 7orca also determines whether a trade is to be executed directly or in a market-friendly manner using an algorithm. The aim is in particular to minimise the visible and non-visible transaction costs.

When implementing an overlay strategy, various hedging instruments come into consideration. For this reason, a decision must be made in the context of trade execution as to whether the trade is to be implemented using futures or forward transactions. The most competitive price for a futures transaction is already given by trading via the exchange‘s order book.

Forward transactions are carried out by 7orca with the largest and most competitive liquidity providers directly connected to the trading systems. 7orca places them in direct competition and is thus in a position to achieve interbank conditions. As part of the trade execution phase, 7orca monitors current market parameters and adapts the execution to changed market conditions.

The aim of the post-trade analysis is to monitor transaction costs in particular and, if necessary, to develop enhancements for the future trading process. The experience of 7orca has shown that regular broker communication can further improve prices. For this reason, an ongoing evaluation of the brokers is conducted.

Fig.1: Life cycle of a transaction

Pre-Trade-Analysis

  • Strategy identification with lowest transaction costs
  • Analysis of currency-specific liquidity curves
  • Analysis of liquidity and volatility
  • Identification of ideal trading times
  • Minimisation of signaling risk

Trade Execution

  • Goal: minimisation of transaction costs
  • Monitoring of current market parameters
  • Adaptation of execution to changing market conditions

Post-Trade-Analysis

  • Monitoring of achieved transaction costs
  • Feedback loop on pre-trade assumptions
  • Periodic broker evaluation
  • Periodic algorithm evaluation
  • Broker communication and feedback

Increased efficiency through intelligent order execution

In implementing the system and trading architecture, 7orca placed a strong focus on intelligent order execution, straight-through processes and automation. As a result, manual intervention is largely avoided and operational risks due to human error are kept to a minimum.

The processes run without manual intervention, from order generation to checking legal and customer-specific limits, from the transmission of trading transactions to trading venues to order matching and confirmation via SWIFT. In order to reflect the changed liquidity structure as well as to a tap a large number of different liquidity providers, 7orca has decided to work with the two leading multilateral trading facilities providers. The overlay manager thus has access to a range of advanced execution tools to intelligently access various liquidity sources.

Especially in the current environment with highly fragmented and sometimes significantly overestimated liquidity (see also „The implications for the liquidity structure“), these tools offer a wide range of opportunities to improve execution quality. Particularly in the case of large orders, it is important to keep the visibility in the market as low as possible. These orders are placed and executed successively in the market after being divided into smaller part-orders. The key to success is a sound assessment of the current market situation. If the part-orders are placed too quickly on the market, the trading costs will be potentially too high. If the orders are placed too lowly in the market, the market risk increases as the market movement can be unfavourable. It is important to balance the conflicting priorities of market impact and market risk based on current market parameters.

Here, trading algorithms can be used to place small parts of the original order in the market, thus making optimum use of the available liquidity whilst significantly minimising the impact on the market. The decisive factor is the use of the most advanced algorithms to mitigate the signaling risk, i.e. to disclose the trading intention during execution. As a result of the limited market depth and fragmented liquidity, certain market participants have found it easier to identify patterns in the market and use them with the intention of making a profit. During order execution, this can lead to significantly higher implicit costs and correspondingly higher trading slippage.

Increased efficiency through the choice of instruments

The following three instruments are most suited to currency hedging:

  • FX forward and non-deliverable forward
    Fully customisable instrument in which two parties in an OTC transaction (OTC = over the counter) agree to exchange two currencies at a future date at a specific amount and exchange rate.
  • FX Future
    Standardised exchange-traded contract that specifies the rate of a currency at which another currency is bought or sold in a standard contract size on the due date.
  • FX Option
    Derivative that gives the buyer the right, but not the obligation, to execute a currency transaction (purchase or sale) at an agreed amount, price and date.

Options have become less important in recent years because of their high cost as currency hedging instruments in currency overlay solutions.8Source: Nomad J., G. de Kock, M. Franklin-Lyons und A. Sandilya, „Managing FX Hedge Ratios: A framework for strategic and tactical decisions“, JP Morgan Global FX Strategy, 26.05.2010

Therefore, this INSIGHT focuses on FX forwards and FX futures. The choice of hedging instruments is based on the customer‘s requirements and specifications. The main success factors are liquidity and direct and indirect transaction costs, so as to be able to present the hedging strategy as efficiently as possible. The currency pairs underlying the mandate essentially determine the choice of hedging instruments: should mandates with many currency pairs be hedged, a combined overlay solution with FX futures and FX OTC forwards can provide the best possible structure.

Fig. 2: Comparison of the advantages and disadvantages of FX futures and FX OTC forwards 9Source: 7orca Asset Management AG

The advantages of this set-up are as follows

  • Future-proof in terms of regulatory challenges
  • Many market participants are affected by increasing regulation, impacting the choice of instruments and the capital requirements (e.g., solvency capital requirements (SCR) for Solvency II underlying entities, credit value adjustment (CVA) requirements for ESMA regulated entities, etc.). The use of both FX futures and FX OTC forwards guarantees the ability to act at all times
  • Ensuring maximum market depth and best execution through access to both OTC and exchange liquidity
  • Free choice of the most cost-effective and efficient instrument at the time of the transaction
  • Diversified trading structure and independence from individual liquidity sources

While a mandate implementation that includes both FX futures and FX OTC forwards provides the best market access, it is also most complex and involves the highest structural expenses.

Depending on the individual mandate, it is recommended to assess whether additional costs are justified or whether an implementation with only one hedging instrument would be more effective.

Hedging foreign currency risks with FX futures

In the case of a mandate with only USD exposure, for example, currency hedging with FX futures can be useful. A good solution is the implementation through the CME EUR/USD future, which has a daily average trading volume of approx. USD 30bn and is therefore highly liquid.10Source: CME Group – “CME Exchange ADV Report – Monthly April 2019” https://www.cmegroup.com/daily_bulletin/monthly_volume/Web_ADV_Report_CME.pdf (retrieved on 27.05.2019)

Historically, forwards have been the preferred means in currency overlay programs. Futures have mainly been used in mandates where investors were subject to restrictions and allowed only listed derivatives.11Source: Hai Xin, „Currency Overlay, a practical guide“, risk books, Februar 2011 Since the financial crisis, the use of FX futures has increased significantly. On the one hand, futures have other credit risks than forwards.12Source: Hai Xin, „Currency Overlay, a practical guide“, risk books, Februar 2011 On the other hand, significant cost savings (in some cases of up to 75%) can be realised relative to an OTC transaction.13Source: Greenwich Associates, „A bright future for FX futures“, Q4 2017

While credit risk remains with the clearing house of the exchange and is largely eliminated by margining, the regulated segment of the exchange offers easy access to a wide range of market participants. Since FX futures are not traded with dedicated counterparties but through the exchange‘s central limit order book, only one broker is required to provide this access. This direct market access enables the currency overlay manager to place transactions electronically directly on the exchange. As a regulated and monitored central trading platform, the exchange offers excellent execution quality; there is no need for a separate collateral management. Investors who already trade futures can scale their existing trading and clearing infrastructure and use netting effects to meet margin requirements.

The FX futures market cannot be viewed in isolation, which is another advantage of FX futures. In addition to exchange liquidity, off-exchange liquidity is also available. This is ensured by block trades and exchange-for- physicals. In this case, the price is determined off-exchange and implemented by concluding an FX futures contract.

Use of FX OTC forwards in currency overlay

FX OTC forwards offer a number of advantages due to their extensive customisation options. In some cases, FX futures provide limited availability, reduced market depth and restrictions due to their standardised hedging terms relative to the freely negotiable FX OTC forwards. The lower market depth applies, for example, to emerging market currencies (e.g. the Brazilian real) and some G10 currencies, and as such, corresponding currency overlay solutions should use FX OTC forwards and non-deliverable forwards for these currencies.

Since FX OTC forwards are negotiated bilaterally by the overlay manager and the contracting bank, they can be adapted exactly to the amounts and maturities to be hedged. The counterparty‘s creditworthiness should also be reviewed on a regular basis in the light of the findings of the financial crisis. For this purpose, the credit default swap spreads can be used as an indication of the credit assessment by market participants and the ratings of the internationally active credit rating agencies are equally helpful. Rankings and awards from industry specialists also make a statement on the quality of execution of the counterparty.14Source: Euromoney “FX Survey 2018: Overall results”, published: https://www.euromoney.com/article/b18bzd2g51lqkn/fx-survey-2018-overall-results (retrieved on 27.05.2019)

7orca has implemented a monitoring system which continuously monitors both the credit quality of each counterparty and its execution quality and derives alternative courses of action.

For reasons of risk diversification and the best possible presentation of hedging transactions, it is recommended that a large number of brokers are linked to the programme. Currency overlay mandates are generally set up as a supplemental segment of a master fund. The foreign currency holdings of the entire fund are hedged in the overlay segment. Since the master fund acts as a counterparty for the FX hedging transactions and typically holds liquid assets, it has first-class creditworthiness. In addition, an overlay manager can achieve a favourable market position by aggregating trades across different mandates. In conjunction with a fully automated straight-through trading process, this leads to more advantageous broker conditions, which are passed on to the overlay mandates. Ultimately, the client receives interbank rates.

The answers to your currency questions

The changes in the FX market structure have led to challenges for many market participants. These changes also offer opportunities that need to be seized. Examples of this are the use of trading platforms including intelligent trading algorithms, which enable, among other things, the development of new sources of liquidity, as well as the manifold possibilities of transaction cost analysis and the appropriate choice of hedging instruments.

When selecting an FX Overlay Manager, clients should not only refer to the past but also focus on how changes are handled in order to be optimally positioned for the future. This is precisely where the strengths of independent investment boutiques such as 7orca lie. With their expertise, experience and continuous development, they consistently meet these requirements and thus provide their customers with sustainable added value. Studies such as that of the Affiliated Managers Group Inc. confirm this.15Source: AMG – “The Boutique Premium, The Boutique Advantage In Generating Alpha”, https://www.amg.com/content/dam/amg/boutique-advantage/The_Boutique_Premium.pdf (retrieved on 27.05.2019)

Foreign currency risks are often undesirable, but unavoidable side effects of an internationally diversified portfolio. In this INSIGHT we give you an overview of how currency risks can be managed through currency overlay strategies. The low interest rate environment in Europe, which has now lasted for years, represents a major challenge for many European institutional investors to achieve their target return. In July 2012, the ECB deposit rate was at 0.00% for the first time; it has been negative since June 2014. 1Source: European Central Bank (30.04.2019) In search of returns, many investors have diversified their portfolios internationally. This is due to higher return levels in economies outside the Eurozone. In addition, investors are increasingly in- vesting in alternative, illiquid asset classes such as private equity, private debt, real estate and infrastructure, which are often not EUR-denominated.

Consequently, currency risks have become a far-reaching and significant risk driver. Since currency positions are usually an unintentional by-product of intenational diversification and the currency risk taken is not systematically rewarded by a natural risk premium, hedging strategies are increasingly in demand. However, currency hedging can also have negative effects. A hedging strategy can have significant effects on liquidity and is expensive in the current market environment, for example when hedging the EUR versus the USD. Solving the conflict between market and hedging risks is a challenging issue. So how can currency risks be managed as efficiently and effectively as possible?

In many asset classes, the outsourcing of portfolio and risk management functions is a standard procedure. Increasingly, specialised managers are being hired for FX risks. They can effectively limit risks and achieve benefit through efficient management. The bundling of currency control with a central manager also offers conside- rable structural advantages that pay off in many ways for investors. This INSIGHT is intended to provide information on which factors must be taken into account in order to develop a strategy adapted to investors‘ needs. Additionally, passive and active currency overlay strategies will be presented. Since the efficiency of a currency overlay is essentially determined by its implementation, the key elements for this are outlined.

Factors influencing an individual hedging strategy

The aim of a hedging strategy is to manage and optimise the risk/return profile of currency positions in accordance with individual investor requirements. The first step in this process is a comprehensive analysis of the currency positions. The following investor-related factors must be taken into account:

Client‘s risk affinity/aversion

A key variable in the design of a hedging strategy is the risk-bearing capacity and preference of the investor. Their assessment requires the identification of the market and the liquidity risks of the existing currency positions.

To this end, the potential loss resulting from a currency devaluation must be compared to the potential liquidity burden arising from the planned hedging transactions due to a foreign currency appreciation. For example, the analysis of the value at risk of the entire currency allocation shows both the economic risks of the unhedged currency portfolio and the diversification effects resulting from the allocation (see figure 1).

Fig. 1: Value at risk of a typical FX portfolio 2Source: 7orca Asset Management AG (30.04.2019)

The market risk of currency positions is determined in particular by currency-related volatility and the maximum loss risks from currency devaluations. In addition, currency effects should be assessed in connection with the underlying investment (see „Characteristics of the assets to be hedged“). The liquidity effects of a hedging strategy must also be compared with investor preferences. Negative market values of hedging instruments due to currency appreciation are problematic. If this affects liquidity, cash flows must be settled. These can consist of a liquidity reserve or through the timely liquidation of investments.

Characteristics of the assets to be hedged

The characteristics of the underlying asset must be included in the hedging strategy. Diversification effects between the currency and the underlying investment, which is largely determined by the correlations, should be taken into account. While investments denominated in foreign currencies also involve the risk of currency fluctuations, this volatility can also provide diversification effects. For example, historically the USD has often appreciated when market distortions have been severe. In such a phase, the negative performance of a USD-denominated asset can be cushioned by currency appreciation. In the case of underlyings that tend to have low volatility, such as bonds, the diversification effect is usually limited. Here, the currency volatility dominates the volatility of the investment.

If the currency risk stems from illiquid investments, such as real estate or private equity, it should be noted that liquidation is only possible to a limited extent. Additional liquidity reserves must be maintained for the hedging strategy. In the majority of cases, the mostly infrequent valuation of these investments means that changes in value are not detected promptly, which can lead to under or over hedging.

If the currency exposure were in turn the intended result of an investment decision by the investment manager of an underlying asset, a currency hedge would lead to an unwanted levelling of the alpha. This should be taken into account by the currency manager, for example by hedging the FX exposure of the specified benchmark.

Currency market environment

The market environment of individual currency pairs also has an impact on the design of the hedging strategy. In particular, the difference in interest rates between the investment and the home currency is an important aspect. The interest rate difference is paid out as part of a currency hedge. If there is a significant interest rate differential in two currency areas, e.g. currently 2.9% p.a. 3Source: 7orca Asset Management AG, Bloomberg. EUR/USD forward spread approx. 2.9% p.a. in 3 month tenor. (30.04.2019) between the United States and the Eurozone, the interest rate differential to be paid out within the currency hedging strategy is particularly expensive. This also applies to the hedging of many emerging market currencies. In addition to different interest rate levels, the phenomenon of cross-currency basis spreads can also influence hedging costs. Put simply, it is a measure of the supply and demand ratio of two currencies and since 2008, it has been structurally negative for a EUR-based investor hedging USD holdings. This is an important factor, as it has a direct impact on the cost of a currency hedging strategy. In contrast to a higher interest rate level, an investor is not remunerated for the basis spread. In the USD example, the hedging costs paid exceed the interest rate differential between the two countries (see figure 2). If the investor has a strong market opinion on the development of currency pairs, this should be taken into account in the hedging strategy.

Fig. 2: Hedging costs: interest spread vs. hedging costs 4Sources: 7orca Asset Management AG, Bloomberg. (01.01.1998 – 30.04.2019)

Regulatory and infrastructural requirements

Furthermore, general regulatory requirements, such as MiFID II, MiFIR and EMIR, as well as specific ones, such as Solvency II, to which the investor is subject, should be addressed. In addition, the internal investment guidelines, a potential need for currency attribution and other reporting requirements play a role. This applies both to the individual adaptation and to the implementation of the investment process. The investor‘s existing infrastructure, such as the set-up of the master fund, and any direct holdings can have a significant influence on the hedging concept. A specialized currency manager can help with a comprehensive currency inventory and can use the results as an important basis for the design of hedging strategy.

The optimum hedging strategy

Currency overlay strategies outsourced to specialised managers allow a professional currency hedging. Currency overlay describes the management of currency risks detached from the basis investment using derivatives. It is adapted to the individual client situation. Depending on its requirements, they have a passive or active design. While in the passive version a defined, constant degree of protection of currency risks is implemented, this can be adjusted to market movements in active currency overlays.

Irrespective of the design, a central currency overlay manager that takes control of all currency positions of the client’s portfolio provides for the following structural advantages:

  • A flexible structure is created, which allows a rapid and uncomplicated adjustment of all currency positions; e.g. in the event of a change in tactical or strategic asset allocation
  • The increased level of transparency allows for improved measurability of the efficiency of the currency management
  • The client has a contact person for all currency-specific topics
  • Central liquidity management for currency hedging transactions minimises the cash position and reduces transaction costs due to any secondary trans- actions that may be necessary in the underlying assets
  • Aggregated control of all currency positions allows netting effects to be leveraged (currency position rises in one segment and falls in another) and thereby the reduction of trading costs

Passive currency overlay

The primary objective of a passive currency overlay is to reduce the economic currency risk by minimising the currency-related volatility. A defined degree of hedging is maintained over time, taking into account fluctuations in the market value of the underlying assets. The focus is therefore on the efficient and cost-effective implementation of the hedging strategy and the outsourcing of operational activities. The overlay manager thus discharges the client or the manager of the underlying investment and achieves economies of scale. These arise because a central hedging is carried out across all currency positions. By integrating the following elements, a passive currency overlay can be further optimised:

Determination of the efficient deviation bands

Deviation bands define when a currency hedge needs to be adjusted for fluctuations in the market value of the underlying asset. If an adjustment is not made immediately, a portfolio is subject to currency fluctuations.

In this case, the portfolio is over or under hedged. The determination and use of efficient deviation bands enables an economically reasonable hedge through the reduction of the frequency of transactions and thus transaction costs.

Determination of the ideal hedge term

Passive currency overlay management can be further optimised by introducing a tenor management. This does not vary the degree of hedging of currency positions over time, but rather the term of the hedging instruments. The maturity structure diversifies the duration of the hedging instruments and reduces cash flow and counterparty risks. It is particularly important that the duration of the hedging instruments can be used to determine and optimise the costs of hedging. This is because the term of the instruments enables them to be positioned on the yield curves of two national economies.

Determination of the exposure

The consistency of a mandate is increased by determin- ing the currency exposure across all positions. The calculation is based on the portfolio positions transmitted by the capital management company, the managers of the underlying investments or the investor. This enables a currency look-through and, if necessary, a remapping if the economic currency risk differs from the reporting currency.

Active currency overlay

A passive currency overlay minimises the economic currency risk at the price of not participating in positive currency developments. This symmetrical payout profile is attractive due to its simplicity, but falls behind the asymmetrical profile in sharply rising markets. Active currency overlay solutions enable the market-adaptive adjustment of the hedging degree: if currency risks dominate, a hedge is set up which is dissolved in the event of positive currency developments.

Figure 3 shows an example of the effect of an active currency overlay using a USD long position in the period from October 2016 to September 2017. This is a good illustration of the added value of an active hedging strategy. While the largely unsecured position clearly participated in the positive market development in the fourth quarter of 2016, the active build-up of the hedge at the end of 2016 largely protected the position until September 2017.

Fig. 3: Functionality of an active currency overlay
5Source: 7orca Asset Management (30.09.2019 –30.09.2017)

There are different approaches to the active manage- ment of currency risks. Discretionary and quantitative strategies, which have a fundamental or price-based design, contrast each other. Quantitative approaches enable replicable and consistent results in comparable market phases. This stable performance characteristic fulfils the premises of a purposeful risk management. In addition, it can be ensured that the investment process is not subject to any style drift. Compared to fundamental approaches, price-based approaches have the advantage that they are based on the market price, which represents the highest aggregation level of market information. This contains all information available on the market and establishes the clear causality between market price movements and hedging effects. Currency markets often evolve in an uncorrelated manner to other asset classes. They are influenced not only by the economic development of an economy, but also by how economies develop in relation to each other. Currency fluctuations are therefore sometimes very pronounced. The key to effective risk management lies in the correctidentification of directional markets. Therefore, it is not the precise prediction of the future price level that is decisive, but the recognition of the market trend.

Investment processes, the core of which is the determination of market directionality, enable to achieve an asymmetric profile, similar to a put option on the foreign currency. In problematic market phases, this profile offers clients the greatest benefit. Although it is possible to represent an asymmetric profile by buying options, this strategy is uninteresting due to its high cost. This brings quantitative, price-based, directional approaches to the fore. These can generate such a profile more advantageously in the medium to long term: on the one hand, a more cost-effective long positioning is achieved in the realised volatility, and on the other hand aspects of behavioural finance can be integrated in order to generate more effective signals regarding the currency development.

Figure 4 illustrates the relationship between foreign currency performance and foreign currency performance including active currency overlay. In principle, an active currency overlay should be adaptable so that the client‘s objectives and specifications are considered as precisely as possible in the strategy.

Fig. 4: Fx development and active overlay strategy 6Source: 7orca Asset Management AG (30.04.2019)

Integration of interest rate differential and machine learning

Against the background of the latest developments in research and information technology, active currency overlays should be continuously improved in order to meet changing market conditions and increasing cus- tomer needs in the future, too. This INSIGHT focuses on the integration of hedging costs into a quantitative investment process as well as the latest developments of self-learning programs, namely machine learning.

The consideration of hedging costs, which is determined in particular by the interest rate difference, is par- ticularly important in the current market environment. The USD hedge, for example, is significant at approx. 3.15% p.a. 7Source: Bloomberg, 7orca Asset Management AG. Interest rate difference of 2.9% p.a. (3-month EURIBOR vs. 3-month USD-LIBOR) plus 0.35% p.a. (hedging costs). (30.04.2019)

A mere tapping of the spot movement, i.e. the pure currency movement without the forward premium, would be too short-sighted. For example, the current interest rate differential and the resulting hedging costs would not be taken into account. Hedging should only be set up if it is expected that the devaluation of the currency will exceed the hedging costs.

Recent developments in the area of artificial intelligence have opened up new perspectives for alternative, data-driven model approaches. In contrast to traditional methods, these do not rely on pre-defined trade rules, but develop them autonomously via a data-supported self-learning process.

This approach is particularly advantageous when the dynamics of the underlying system are complex and difficult to describe – which is the case for price dynamics in the foreign exchange market. Neural networks are able to approximate almost any function. This enables them to discover even more complex relationships and patterns in the market data.

Implementation of the customised currency overlay

Once the client‘s currency hedging requirements have been defined and the design of a passive or active over lays has been determined, efficient implementation is the next step. This is an essential success factor for the currency overlay. The basis for efficient strategy implementation is the choice of hedging instruments, the guarantee of a robust best execution process and a combination of currency procurement and hedging.

Choice of instruments

The implementation via FX Futures or FX Forwards depends on the hedging requirements, the currency pairs and the corresponding liquidity in the respective instrument. In particular, large and complex mandates profit from of a combined solution. This structure ensures:

  • Future security with regard to regulatory requirements and changed market conditions, since instruments of both categories can be used flexibly
  • Use of both instruments ensures maximum market depth and best execution
  • Selection of the hedging instrument with the lowest transaction costs and risks
  • Diversified structure


The advantages of FX forwards lie in their flexible design with regard to the term and the hedging amount. Collateral is not necessarily required and good liquidity is provided for the majority of the currencies of developed countries and many emerging markets.FX futures are a very confident, exchange-regulated instrument. They convince through transparent execution, absence of counterparty risk and a standardised settlement and clearing process. FX futures are therefore ideal for hedging currencies of developed countries. In the case of a USD exposure, for example, the CME EUR/ USD future can be used, which has a daily average trading volume of approximately EUR 30 bn and thus offers very good liquidity. If there are „exotic“ currencies that do not have sufficient market depth, these can be hedged via FX forwards. Since there is a counterparty risk in OTC transactions, the selection of the liquidity provider is important. It is advisable to select the largest and most competitive brokers with a good rating. Here, too, a central currency overlay manager can achieve added value. On the one hand, he offers access to the most competitive liquidity providers on the market; on the other hand, he manages the broker relationships and the resulting credit risks in a structured manner.

Execution of the transaction

In order to obtain the necessary liquidity and the lowest transaction costs for an order, an extensive analysis is required in the run-up to a transaction. Although the cur- rency market is very liquid, this liquidity is fragmented and there is no central marketplace.

Two factors in particular need to be considered here. On the one hand, the market impact, i.e. the influence on the market price, must be minimised. If an order is placed on the market too quickly, the market price can be impacted. However, if trading is too slow, the risk of adverse effects on the portfolio increases due to increa- sed market risk, especially in the case of high volatility.

On the other hand, it is essential to monitor the signa- ling risk, i.e. the risk of informing the market of intended actions. In order to avoid this, algorithms can be used for executing orders. The trading process should be ba- sed on the life cycle of a transaction. Figure 5 illustrates the three phases of the cycle pre-trade, trade execution and post-trade.

Fig. 5: Life cycle of a transaction

Pre-trade analysis

  • Strategy identification with lowest transaction costs Analysis of currency-specific liquidity curves 
  • Analysis of liquidity and volatility
  • Identification of ideal trading times
  • Minimisation of signaling risk

Trade execution

  • Goal: minimisation of transaction costs
  • Monitoring of current market parameters
  • Adaptation of execution to changing market conditions

Post-trade analysis

  • Monitoring of achieved transaction costs
  • Feedback loop regarding pre-trade assumptions
  • Periodic broker evaluationy
  • Periodic algorithm evaluation
  • Broker communication and feedback

The aim of a pre-trade analysis is to identify the strategy and trading time with the lowest transaction costs prior to trading, taking into account the current market depth and volatility. Once this has been done, trading is carried out with FX futures or FX forwards, analogous to the result. One of the objectives of the post-trade analysis is to monitor transaction costs and to develop derivations for future trading strategies.Exploiting economies of scaleAnother way to increase the efficiency of a currency overlay is to combine currency procurement and hed- ging. The aim is to align the currency procurement of the underlying segments with the hedging adjustment in the overlay segment. This approach enables market price risks to be eliminated as soon as they arise and transaction costs to be saved. Before implementation, it is necessary to check whether the processes of the manager of the underlying, of the capital management company and of the custodian need to be adjusted.

Concluding consideration

As a result of the general increase in foreign currency exposure in institutional asset allocations, the central management by a specialised manager has a number of advantages. A currency overlay mandate incorpora- tes the investor‘s individual requirements and ancillary conditions and is more than just an asset management mandate. It is also part of the infrastructure throughout its entire value chain.An overlay manager ensures that the client is always optimally positioned in the context of the continuous and structural change of the foreign exchange market. He is able to respond promptly to any changes.

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