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June 13, 2013

The New LIBOR Scandal? | WM/Reuters FX Fixings

LIBOR. ISDAFIX. And now, from a different asset class; WM/Reuters (WMR). Fixing scandals are emerging one after the other. This week, informants announced that a systematic rigging of the WMR FX fixing rates was going on among the major banks. The WMR rate is used to determine the final FX rate in many types of FX derivatives contracts, including barrier options and variance swaps. It is referenced explicitly in legal trade confirmations. Apparently, the rigging is being achieved by a tactic known as banging the close, described by the CFTC as:

A manipulative or disruptive trading practice whereby a trader buys or sells a large number of futures contracts during the closing period of a futures contract (that is, the period during which the futures settlement price is determined) in order to benefit an even larger position in an option, swap, or other derivative that is cash settled based on the futures settlement price on that day.

The methodology for setting the WMR rates is here (a PDF). Apparently, some major banks are front-running their clients by pushing though large trade orders during the time-window in which the WMR rates are calculated. The regulators should be very concerned if these allegations turn out to be true. Reference rates based on executed or quoted prices have been regarded as a panacea in the aftermath of the LIBOR scandal, where criticism was focused on the fact that LIBOR reference rates are determined by the polling of rates that are never traded. Luckily the ECB FX fixings rates appear to be scandal-free right now- so perhaps dealers can switch to this set of reference rates straight away? Sure, there's only coverage for 34 currency pairs (as opposed to WMR's 160), but unless one is trading some particularly illiquid currencies (Slovenian Tolar / Kenyan Shilling, anyone?) the ECB rates should be good enough to satisfy the majority of FX contracts out there. Ben L.


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