FX AND THE DISTRIBUTED LEDGER – THE OVERWORKED CORPORATE TREASURER
In the two decades of advising companies on financial risk management, one theme is omnipresent: the treasury staff has too few people for too many priorities. It is often a barely manageable situation, but when processes are inefficient or errors occur, the burden feels overwhelming. Foreign exchange is an area of Treasury that can be made more efficient with distributed ledger technology (DLT) The first article in this series focused on DLT benefits for the banks that make markets in FX. This article outlines the benefits to corporations who participate in the FX market to manage financial risks.
Instant Liquidity
There are several money transfer apps in the US that allow near instantaneous transfer of funds between users in an easy and secure manner. However, these apps are typically used for relatively small amounts of domestic currency. Now imagine operating in the institutional global foreign exchange market in such a way, with instantaneous settlement and delivery of any currency globally, and in any amount.
Today, a typical transaction takes most companies two days to convert foreign currency for dollars. The process involves money flowing through several members of a correspondent bank network (with small fees at every stop), until it is finally available for the company to use. A DLT FX solution allows this same company to convert foreign currency to dollars at the click of a button and have the dollars available for immediate use.
In addition to speed, DLT is extremely secure. This security comes from the fact that all transactions on the chain are immutable and verifiable. Each new transaction is built on a “block” that is added to previous “blocks.” One cannot change a new block without changing all previous blocks, which have been previously validated by multiple participants in the chain.
Speed without security is pointless; DLT provides both.
Error Reduction
“Show me the money!” Any of us working in FX, on either the bank side or corporate side, have probably had moments when we wanted to channel our inner Cuba Gooding Jr. The correspondent banking process mentioned above means that funds can be hung up or misapplied at any step along the line. Treasury departments end up spending time trying to track down funds, and sometimes they are received late which leads to other problems.
DLT allows a more direct and easily verifiable transfer. There is no need for messaging to go through as many as half a dozen banks for a single payment to be completed. I’ll resist concluding with that overused Jerry Maguire line.
Reduced Trading Risk
In the first of this series, I touched on settlement risk, or the risk that the counterparty to a traditional FX trade does not meet delivery requirements. Banks tend to focus on this risk more that corporations do, but the elimination of this risk paves the way for additional benefits to corporations as well. From time to time companies with highly levered, or otherwise weaker, credit profiles find it difficult to attain credit/trading lines from banks. Therefore any reduction in risk improves the ability to trade for these companies. Ultimately, eliminating settlement risk opens the playing field and increases overall market liquidity and price discovery.