BestX launches an Algo Density Metric

Until now it has been impossible to identify the optimum time to trade FX using algorithms. Yangling Li, Head of Quant Research at BestX, reveals how a unique density metric is about to make life easier for FX traders.

Yangling Li
Yangling Li

Why do FX traders need to measure the density of their algo trades?

Signalling risk – or information leakage – is a problem for FX traders, particularly in markets where liquidity is reduced. If firms can identify when trading volumes are at their highest, they can choose to execute trades at those times and then match internally. This avoids having to hedge FX risk with at an external venue which in turn limits signalling risk.

What does the BestX Algo Density Metric do?

For the first time we have made it possible to identify the most liquid point of trading across a range of different algos.
It is relatively simple to identify when most spot trades are conducted because they are completed instantaneously. Every five minutes you sum up the trades and then check the average across the month which gives a nice curve and then traders can find the most liquid time to trade.

It is different for algos because they can last for hours; perhaps starting at 8am and ending at 4pm which means you could not easily say when the trade was completed.

We looked across all the 8 million trades in the BestX database starting on the 1 January 2021 and ending on 10 October 2021, based on the London time zone.

We found that the algo volume profile is very different from the one we have observed for spot trading and that the peak algo density it as 4pm London time. We also found that the algo usage picks up smoothly at Asian and London time and then drops sharply at New York time.

In terms of type of algo and the differences in density, we found that Interval Algo is the most popular at European afternoon, while the opportunistic algo has smoothed usage and is the most popular across the board.

We have also identified the algo density by currency and found that the G10 algo usage is smooth while emerging market algo usage jumped up at European afternoon.

What added value does this have for buyside firms?

The BestX data provides a unique opportunity to make it easier for the buyside to know when to trade their algos by informing them when there is most liquidity in the market.

The metric has proved popular because the buyside can compare their own algo density against the overall market and understand why they might not be trading well, or if there is any room for improvement.
The advent of a density metric goes hand in hand with evolution of the market which is seeing a major increase in the use if algos.

Traders need to be able to analyse the liquidity of those types of trade not just the liquidity of spot trades. That is a very welcome development for our clients.

Will this data influence the way in which FX traders do business?

The metric has the power to change how people behave. If we think about the dark ages when there was no data and traders operated at random; there were huge spreads. As time has gone by, more market data has helped them trade at more liquid times and with better results.

Now we have an algo density metric and even more information about what the market is doing which will have real benefits for best execution.

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