Finance: Death Of Forex Brokerages

Gautam Ashra, managing partner at Kanji Pitamber & Co, one of India’s oldest forex brokerages, turns wistful as he talks about his grandfather Kanji Pitamber who set up the firm in 1933. “He was fitness personified till the moment he left this world peacefully in 30 seconds flat aged 91,” says Ashra. And then stumps you with the words: “He ran from bank to bank in the Fort and Ballard Estate area (in Mumbai) as a young man taking orders for dollars and pounds. It made him fit for life.”

You ask Ashra what made his grandfather a ‘marathon’ man. “There were no hotlines back then. He took an order from Chartered Bank (today’s Standard Chartered Bank) and ran to State Bank of India (SBI); then on to Bank of Baroda, to Grindlays Bank. At times, he had to run real hard just in case a rival got ahead of him.” And to dispel any thought you might still entertain that he’s pulled a fast one on you, Ashra helpfully adds: “Bicycles were not very common those days.” Then guffaws: “But I will not live long like my grandfather. At the rate I am wining and dining bankers, I will also go soon.”

It’s easy to misunderstand Ashra — he does not ‘bribe’ bankers, but well, indulges them. For it’s a matter of life and death in the forex brokerage business. The number of firms has dwindled to about 15 from 40-odd just a few years ago; and from 125 in 1998. Of the forex market’s daily turnover of $40-odd billion (spot plus forwards) only about 7 per cent is put through them. And five of similar vintage — Kanji Pitamber, FR Ratnakar & Co, Vrijlal Thakar & Co, Govindram & Sons, and Mecklai & Mecklai — corner 75 per cent of the volumes.

And the only reason why a tad over 40 players still breathe is regulatory. In the aftermath of the Harshad Mehta fiasco of 1992, Mint Road capped banks’ exposure to a money and securities’ dealership at five per cent. It was not meant to cover forex brokerages, but banks used a similar yardstick on their own — not five per cent, but say not more than 20-25 per cent exposure to a single entity.

There are more headaches on the horizon. SBI’s move to merge its subsidiary banks by the end of fiscal 2017 may mean five banks less to service straightaway. It will get more crowded at the watering hole given North Block’s intent to consolidate 26 state-run banks into about ten big banks over time. It will be happy days for banks — they can arm-twist brokerages to get even better pricing for the services they offer.

On its part, Mint Road is keen to strengthen and deepen the institutional forex brokerage system even if a large number of brokerages wither away. The other option is that they also merge. That’s because while there will be lesser number of banks due to mergers brokerages will have to come together to handle the bigger volumes on offer per bank. Even globally, a handful of “voice brokers” — as they are called in the trade — call the shots: Tullet Prebon, Icap or an Exco. These days, you have the web-based FXall, FXconnect, Atriax, Hotspotfx and a LavaFX.

A Comedy of Manners
In line with this larger plot Mint Road has hiked the end-fiscal 2017 capital norm for forex brokerages to Rs 5 crore from Rs 10 lakh for partnerships; and Rs 10 crore for public and private firms (Rs 25 lakh). You might feel these capital thresholds are a farthing; not so.

Historically, these firms have been lowly capitalised as they are not part of Mint Road’s settlement system (there’s no move to make them part of it either), and are, therefore risk-free on this account (even though they are exposed to capital loss if a forex trade goes wrong). They have also been largely off-radar unlike stock brokers. Audit reports are filed with the Foreign Exchange Dealers’ Association of India (Fedai), and the inspection and audit department of banks. And whispers have it that some of them have a negative networth. Simply put, you have to run to stay in the same place; on its part, Mint Road has upped the treadmill’s speed.

Says Sandip Atit, managing director at Vrajlal Thakar & Co (1935) and a third-generation broker like Ashra: “Eighty per cent of trades in the spot-market are done on e-platforms. We brokers have a bigger share at about 30 per cent in the forwards, but that’s because the near mid-months (3-4 months) and the long forwards (eight months and beyond) are illiquid. Ticket sizes range between $10 million to $25 million. You earn Rs 600 for a million as brokerage fee. That’s not enough.” For you not only have to live with lower margins, but the wage bill has to be competitive — as the forex markets gets sophisticated, young forex dealers have enough opportunities to print new business cards. Some banks are into consultancy as well — it’s a vertical forex brokerages can set foot into only with a separate outfit and it costs moolah.

The bigger banks seek and get volume discounts as high as 50 per cent on deals even if they lose on the fine rates offered by brokerages as it helps trim the expense account. “It also makes sense to put trades through e-platforms like Reuter’s D2, Bloomberg’s or on a bilateral screen from a JP Morgan, Barclays Bank or Deutsche Bank. You click on a ‘live quote’ and the trade gets settled. It’s so easy,” says K.N. Dey, executive director, Mecklai Financial Services. “Some of us use brokers when the ticket size is small, say, under a million dollars. Or in the forwards were trades are relatively illiquid when compared to the spot market,” says Harihar Krishnamoorthy, treasurer, FirstRand (India).

One definition of “currency” is “the fact or quality of being generally accepted or in use”. Forex brokerages continue to “depreciate” theirs as they have thus far refused to move out of a time-ghetto — adopt technology, merge or diversify. And they still give you good enough reasons to beat Ostriches!

The slide began with the centralisation of bank treasuries in the late 90s. When SBI shifted its treasury to Mumbai, it killed Kolkata’s forex brokers; it was more of the same when the bigger banks in New Delhi and Chennai did so. The death knell came in 1998 when Mint Road and Fedai made brokerage fee market-driven. And at the same time allowed Reuters to launch its electronic spot broking interface. As to whether these two moves were “timed” is a matter of speculation, but there’s a backstory to it that’s riveting.

Right up to the 90s, banks had more telexes and landlines. A broker had to perforce pitch tent close to a bank’s main treasury hub to know what the inter-city or intra-city forex market was like. That’s why in the Bombay of old, these firms set up offices at Fort and Ballard Estate. Overtime, both banks and firms profited. Clever minds within banks made use of forex brokerages to grease linesmen and telephone exchange officials to get a quick hotline facility. Over time, banks “outsourced” hotlines to brokers, and since the latter “paid” for them, they kept them also.

Every party has to end. The brokerage fee on a typical $1 million transaction — charged to both parties in the deal — were as follows: Rs 2,000 for spot deal; Rs 3,000 for long swaps (maturity over a week) and Rs 1,500 for short swaps (less than a week). The fee was fixed by bankers who were managing committee members of Fedai, not brokers!

And why did banks agree to high brokerage fees? Because, some people were wined and dined at banks! That why’s when Reuters stepped in, the main contention of brokerages was that the former’s Dealing 2000-2 Spot India CUG interface billed as an ‘electronic matching system’ was nothing but ‘electronic broking’ at a flat fee (monthly) of $3,000 (negotiable) will eat into their margins. Just what was at stake can be gauged from the fact that brokerages paid out a hefty fee to the legal outfit Udwadia, Udeshi, Desai, Berjis & Chinoy (since disbanded), and Little & Co.

Advantage Brokers
The likes of Ashra and Atit still hold the view that e-broking can never replicate the human touch. Says Ashra: “Brokers are in a unique position to provide market colour to bank traders, which is invaluable in determining trading execution strategies, especially in illiquid markets.” Atit feels a smart broker who interacts with various bank traders can use his acumen to facilitate large volume trading at a single price; it benefits not only the buyer and seller, but also the market. “In the absence of the voice broker, trading of large sizes in illiquid products would distort the market or take very long to completely execute,” points out Atit.

It’s not that there’s no merit in what voice brokers claim. Almost 100 per cent of the forex options business is put through by them. The Reserve Bank of India-promoted Clearing Corporation of India’s platform is offered free, but has still not made any headway. It’s also pointed out that whilst banks get “dealt rates” on their Reuters screen, other customers — corporates, importers and exporters — who subscribe to Reuters get rates with much wider spreads. Brokerages also have an interesting “plug”. Worldwide central banks’ interventions have gone up. At times, the very idea behind such interventions is to spread the word the local currency will be supported which a “voice broker” can convey, not an e-broker. Perhaps it’s just a coincidence that come September and you will see a $20 billion payout on maturing foreign currency deposits which were contracted three years ago when the rupee was kissing Rs 70 to the greenback!

What’s interesting is if you were to look at other parts of the financial services business, you have scores that have diversified or entered into partnerships. There are not many that answer to such a profile among forex brokerages.

Three years ago, Parag Mehta, managing partner at FR Ratnagar & Sons sold his 50 per cent stake in LKP Financial which was into the money changing business to Thomas Cook for Rs 200 crore, but has since re-entered it. Ashra has a 15 per cent stake in IBS Forex along with Financial Technologies in India’s first indigenously developed forex trading platform FXDirect; and a 50 per cent stake in Bliss Pharma GVS, a totally unrelated venture.

Says Mehta: “The nature of this business (forex brokerage) is such that you have limitations on how much you can do or diversify.” What’s unsaid is that his traditional trade does not generate the kind of capital needed to diversify. “And being family-owned brings about its own set of issues unlike say a Rashesh Shah of Edelweiss or Sameer Gehlaut of Indiabulls in the NBFC space,” adds Mehta.

Says Dey: “These are old family firms. Emotions and feelings run high. Look at Abdully Mecklai (father of Jamal Mecklai), he still comes to office at 95.” Atit feels that only a handful of these firms are professionally run. “You merge and you may get into bigger troubles. Why should anybody risk that?”

The bet is sooner or later these firms will have to become bold. Vistas abound — they can get into the remittance business and offer better rates than banks (some of them are already into money-changing) and in any case, globally too this is the preserve of private remitters.
Ashra and his ilk may well live a long life, but time is running out at the business end.

raghu@businessworld.in, @tabonyou