The FX Global Code

ALERT MEMORANDUM The FX Global Code

July 6, 2017 On May 25, 2017, central banks, regulatory bodies, If you have any questions concerning market participants, and industry working groups from this memorandum, please reach out to your regular firm contact or the a range of jurisdictions released the FX Global Code following authors (the “Code”).1 The Code is a common set of principles intended to enhance the integrity and effective LONDON functioning of the wholesale foreign exchange markets Bob Penn (“FX markets”), certain segments of which have, to +44 20 7614 2277 [email protected] date, been largely unregulated. The Code will Anna Lewis-Martinez supplement, rather than replace, the legal and +44 20 7847 6823 regulatory obligations of adherents. [email protected]

Although the Code includes principles that are akin to Christina Edward +44 20 7614 2201 many of the requirements under the new Markets in [email protected] Financial Instruments Directive package (“MiFID II”) and U.S. Commodity Futures Trading Commission NEW YORK Colin D. Lloyd (“CFTC”) rules under the Dodd-Frank Wall Street +1 212 225 2809 [email protected] Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”), in several respects the Code Brian Morris +1 212 225 2795 goes beyond those requirements. As such, for many [email protected] market participants, adherence to the Code will require Truc Doan material changes to existing operating models, +1 212 225 2305 compliance procedures, client disclosures, and other [email protected] documentation. Adherence to the Code is voluntary, but several regulators have expressed that they expect market participants to adhere, and there will be public and private sector pressure to publicize adherence.

1 Global FX Code (May 25, 2017), available at: http://www.globalfxc.org/docs/fx_global.pdf. In conjunction with the publication of the Code on May 25, 2017, the London Bullion Market Association (“LBMA”) launched the Global Precious Metals Code, which is largely similar to the Code. See LBMA Global Precious Metals Code (May 25, 2017), available at: http://www.lbma.org.uk/assets/downloads/pmc.pdf.

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© Cleary Gottlieb Steen & Hamilton LLP, 2017. All rights reserved. This memorandum was prepared as a service to clients and other friends of Cleary Gottlieb to report on recent developments that may be of interest to them. The information in it is therefore general, and should not be considered or relied on as legal advice. Throughout this memorandum, “Cleary Gottlieb” and the “firm” refer to Cleary Gottlieb Steen & Hamilton LLP and its affiliated entities in certain jurisdictions, and the term “offices” includes offices of those affiliated entities.

ALERT MEMORANDUM

For market participants adhering to the Code, notable issues and considerations are likely to include the following: • Broad Coverage: The scope of the Code is very broad, in terms of products, market participants, and geographies covered. In particular, essentially all wholesale FX market transactions, including spot transactions, are covered by the Code, even if they would not otherwise be covered by MiFID II, CFTC rules, or similar market conduct regulation in other jurisdictions. In addition, the Code covers the vast majority of wholesale FX market participants, going beyond the types of market intermediaries normally subject to prescriptive regulation and lacking any carve-outs for firms engaged in only a de minimis level of market activity (although those firms might, as a practical matter, face less pressure to adhere). • Enhanced Disclosures: Although it is ostensibly principles-based, the Code imposes highly detailed disclosure requirements that go beyond material risks, trade characteristics, or conflicts of interest. For example, the Code prescribes disclosure requirements regarding different order types, mark-ups, pre-hedging, “last look” mechanisms, and algorithmic trading services. At a high level, these disclosures seem geared toward clarifying the principal-to-principal nature of most dealings in the FX market, notwithstanding the use of trading conventions and jargon that are similar to marketplaces where trading more commonly takes place on a brokered or other agency basis. Many major FX market participants have already published disclosures regarding these matters, but updates to satisfy the Code might be required nonetheless. • Pre-Hedging: The Code provides that a market participant should only pre-hedge client orders when acting as principal and in a manner not meant to disadvantage the client. This principle is generally consistent with relevant CFTC rules, as further applied through industry standard documentation. But the Code goes further to require additional disclosure regarding pre-hedging practices in a manner meant to enable clients to understand their choices as to execution. In addition, for certain listed products, market participants will need to assess whether pre-hedging in accordance with the Code will also be consistent with the EU Market Abuse Regulation (“MAR”) and relevant venue rules. • Mark-Ups: In addition to disclosure requirements relating to mark-ups, the Code provides that mark-ups must be “fair and reasonable”, including (for example) not discriminating among clients based only on their level of sophistication. Substantive regulation of mark-up amounts goes beyond existing CFTC rules and the forthcoming MiFID II package, which instead seek to address excessive mark-ups through expanded price transparency mechanisms. • Order Tickets/Time Stamping: The Code includes detailed requirements for market participants to create and maintain order tickets (with time stamping), which go beyond the CFTC recordkeeping rules currently applicable to swap dealers. In addition, the broad product coverage of the Code will necessitate that FX market participants in the EU examine and, as necessary, enhance their recordkeeping practices for FX transactions outside the scope of MiFID II. In addition to these particular areas, there will be others where the Code’s standards fall short of local legal and regulatory requirements or where compliance affects other regulatory obligations: signatories will need to identify and manage points of interaction (and tension) between the Code and existing and upcoming U.S. and EU legislation. In this Memorandum, we summarize the key elements of the Code and provide more detail on these issues.

ALERT MEMORANDUM

I. Introduction For example, in the EU under the existing EU Markets in Financial Instruments Directive Background (“MiFID”), FX “options, futures, forward rate Historically, the FX markets have operated with agreements and other derivative contracts” are limited regulatory oversight. Over the last several financial instruments within the scope of regulation; years, regulators have focused on conduct in the FX other FX contracts are not. The implementation markets, where perceived failings to manage process for the European Market Infrastructure conflicts of interest and treat customers fairly have Regulation (“EMIR”) in 2014 revealed significant led to some of the biggest regulatory fines in history, differences across EU Member States in the including over £1 billion by the UK’s Financial interpretation of the perimeter of the definition, with Conduct Authority (“FCA”), over $2.7 billion by the particular differences of approach for FX contracts U.S. Department of Justice, over $1.8 billion by the settling within between three and seven days, and U.S. Federal Reserve, and over $1.4 billion by the longer term contracts for physical delivery.3 These CFTC. limits have created legal uncertainty and an uneven playing field across EU jurisdictions for these FX What is the FX Global Code? contracts. The revisions to the Directive under The Code is a voluntary code that provides a MiFID II create greater clarity over the perimeter of comprehensive set of principles for trading in the the definition by narrowing the unregulated “spot” wholesale FX markets by market participants and category, but leave FX dealings partly within and infrastructures. It was developed by central banks, partly without the regulatory perimeter. As regulatory bodies, market participants, and industry discussed below, issues arise in the EU market abuse working groups from 16 jurisdictions. context. As detailed in Part IV of this Memorandum, the Similarly, in the United States, CFTC regulations Code consists of six “leading” principles, each with generally exempt FX spot transactions, and underlying principles on market practice. There is physically-settled FX swaps and forwards are also an annex that sets out illustrative examples of eligible for exemptions from certain Dodd-Frank Act good and bad practice, a glossary of terms, and a requirements. statement of commitment. In the absence of a consistent international Importantly, the Code also incorporates by reference regulatory framework, the Code serves as a the Financial Stability Board’s Foreign Exchange voluntary measure to create common principles to Benchmark Report Recommendations, published on promote the integrity and effective functioning of the September 30, 2014 (“FSB FX Benchmark global wholesale FX markets. Report”).2 Will I have to sign up? Why a voluntary code? Although strictly voluntary, it is likely that all major The decision to create a voluntary code primarily participants in the FX markets will face regulatory, reflects the fact that FX markets are global: it is not as well as market, pressure to adhere to the Code. within the power of any single regulator to police all In the UK, the FCA has stated that “[t]he Code will of the markets. Further, local regulatory regimes be a key component of market conduct standards that applicable to market participants differ substantially staff in authorized firms will have to observe under and often do not capture all activities of the FX the Senior Managers Regime”. markets.

3 FX rolling spot transactions (i.e. FX spot transactions that can be indefinitely renewed or “rolled” 2 Foreign Exchange Benchmarks Final Report with no currency actually delivered until a party (September 30, 2014), available at: affirmatively closes out its position) are currently subject http://www.fsb.org/wp-content/uploads/r_140930.pdf. to regulation as a financial instrument under MiFID and as a swap by the CFTC.

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In the United States, the president of the Federal dealing in the markets as principal or agent), Reserve Bank of New York, William C. Dudley, non-bank liquidity providers, operators of e-trading noted in connection with the launch of the Code that platforms, and other entities providing trading the Code “has resulted in an important set of facilitation services such as brokerage and settlement common standards for foreign exchange markets”. services or FX benchmark services.5 Further, Dudley noted that he “welcome[s] and The Code is intended to apply to all these market encourage[s] efforts by the industry to implement participants, but how it may apply will depend on and adhere to these principles”. each participant’s activities. The Code also specifies In addition, the Global Foreign Exchange Committee that the following persons will not typically engage (“GFXC”) was formally launched on May 24, 2017 in FX activities as market participants, and are as a forum bringing together various existing therefore not within scope: (i) pricing display national and regional FX committees.4 One of the platforms; (ii) remittance businesses, money core objectives of the newly formed GFXC will be to changers, and money services businesses when endorse and promote the Code: a commitment to interacting with retail customers; (iii) private endorse and promote the Code is a condition to banking customers (whether trading as individuals or membership of the GFXC. via personal investment vehicles); and (iv) the general retail public. On the same date that the Code was published, the Bank for International Settlements published a The Code also goes so far as to say that it does not Report on Adherence to the FX Global Code, matter whether the currency trading is done “directly intended to address, amongst other things, the or indirectly” through other intermediaries or market importance of embedding the Code’s principles into participants. The Code does not contain any de the day-to-day operations of organizations and minimis exception akin to the CFTC’s swap dealer demonstrating compliance with the Code. rules, nor does it apply solely to market participants required to be registered or authorized by the CFTC, Whilst it is recognized that the Code seeks voluntary under MiFID, or otherwise. compliance from market participants, there will be public and private sector pressure to publicize What products are within scope? adherence. Unlike MiFID II and the Dodd-Frank Act, which, as II. Scope and interaction with local law discussed above, apply regulatory obligations only and regulation where an FX product will fall within the definition of a “financial instrument” or “swap”, respectively, What market participants are within scope? almost any FX product will be subject to the Code, The Code applies to a wide range of “market participants”, broadly defined as persons or 5 The Code gives the following list as examples of organizations (regardless of legal form) who are not typical “market participants”: (1) financial institutions; retail participants and who are active in the FX (2) central banks (except where this inhibits them discharging their legal duties or policy functions); markets in: (i) carrying out currency trading; (3) quasi- sovereigns and supranationals (except where (ii) operating a platform, facility, or execution this inhibits discharge of their organizational policy function through which participants can carry out functions); (4) asset managers, sovereign wealth funds, currency trading; or (iii) providing FX benchmark hedge funds, pension funds, and insurance companies; (5) corporate treasury departments; (6) benchmark execution services. As a result, the Code broadly execution providers; (7) non-bank liquidity providers; covers buy-side and sell-side participants (whether (8) firms offering algorithmic trading strategies; (9) brokers (including retail brokers), investment advisers, aggregators, and analogous intermediaries; 4 A list of the FX committees which are members (10) remittance businesses and money services businesses is available at: in their interactions in the wholesale FX markets; https://www.globalfxc.org/membership.htm?m=61%7C37 (11) e-trading platforms; (12) affirmation and settlement 0. platforms; and (13) family offices running treasury operations.

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including futures, forwards, swaps, options, and spot its FX business, and its existing regulatory transactions. compliance procedures. Implementation is likely to involve an end-to-end review of the FX business How does the Code interact with local law and conducted within the firm, covering ethics, regulation? governance, staff remuneration, disclosure, Although the Code imposes quasi-regulatory contractual terms, order handling, operations, client obligations on market participants, it explicitly reporting, risk management, and settlement. For provides that the guidance does not supplant or firms whose activities straddle the sell-side and modify applicable law. Market participants will buy-side, compliance procedures will need to cover need to be cognizant of the interrelationship between both aspects of the business. the Code and applicable legislation that overlaps or potentially conflicts with provisions in the Code. What action will be required? Some key areas of interaction are discussed further — Conduct a gap analysis against the in section V below. requirements of the Code. III. Adherence to and compliance with — Amend and implement revisions to: the Code o governance and oversight How do I adhere? arrangements; Annex 3 to the Code contains a standard form o remuneration framework for FX statement of commitment that market participants staff; can use to adhere to the Code. The statement of o compliance policies and procedures; commitment is brief, and, as the Code is voluntary, it disclosure and client agreements is not required to be made publically available or o governing FX trading; published on the market participant’s website. risk management systems and As such, the Code provides market participants with o controls; the flexibility of making use of it in different ways, whether by providing it on a website, or bilaterally to o operations; and other participants or prospective clients. o business continuity processes. When is compliance required? — Ensure personnel have been suitably trained The Code does not provide a time frame for for their roles. compliance. Instead, the Code provides that the time Appendix A sets out an illustrative high-level taken to implement its principles will depend on the comparison of the Code’s principles to some key size and nature of each market participant’s business, EU and U.S. requirements. but that most market participants will need approximately 6-12 months to prepare to use the Appendix B sets out a basic list of policies statement of commitment. Some market participants required under the Code for FX business. have indicated that this is a rather restrictive Appendix C sets out a key list of disclosures timetable given the wide scope and impact of the under the Code. Code’s principles. Appendix D sets out a checklist for order What do market participants need to do to handling policies. comply? What consequences will flow from breaches of the Firms that wish to adhere to the Code will need to Code? plan for and implement a compliance program to meet the principles set out in the Code. How The Code does not address how failure to comply onerous that process will be will depend on the role will be handled. However, it appears likely that of the firm in the FX markets, the nature and scale of regulatory authorities will take into account

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compliance with the Code when assessing whether responsibility for and comprehensive conduct meets regulatory standards. In the UK, for oversight of their FX Market activity and to example, it is likely in the future that the FCA will promote responsible engagement in the FX interpret its Principle for Businesses 5, which Market. requires that firms observe “proper standards of market conduct”, as importing an obligation on a signatory to comply with the Code. U.S. prudential The Code recommends that market regulators (such as the Federal Reserve) may also participants establish and maintain an consider violations of the Code to constitute unsafe operational structure with transparent lines of and unsound banking practices. Further, it remains responsibility and effective oversight of the to be seen whether the CFTC or the National Futures market participant’s FX market activity. The Association will transport principles from the Code body, or individual(s), responsible for the FX into their regulatory rules and guidance for swaps. business is required to establish independent control functions and mechanisms to assess Also, although the Code does not of itself give rise to whether its FX Market activities are third-party rights, market participants will wish to conducted in a manner that reflects consider whether publicizing their adherence to operational risk and conduct requirements, clients and counterparties could give rise to liability which should be commensurate with the size for a breach of representation in connection with a and complexity of the market participant’s FX violation of the Code. market activities. Such functions should have IV. The Leading Principles sufficient stature, resources, and access to the body, or individual(s), that is ultimately responsible for the FX business strategy and Ethics: Market Participants are expected to financial soundness. Taken together, these behave in an ethical and professional manner requirements seem to suggest that firms may to promote the fairness and integrity of the FX be expected to establish an FX-specific Market. governance framework, which may be in tension with pre-existing centralized risk Market participants, which includes firms, management structures. senior management, and personnel, should act honestly, fairly, and with integrity in their Governance should also embed a strong dealings with clients and other market culture of ethical and professional conduct. participants. Further, market participants Within this culture of ethical conduct, should demonstrate the highest degree of personnel should be encouraged to effectively professionalism and standards of business challenge senior management and should be conduct by having sufficient knowledge of aware of the applicable law and conduct applicable law, relevant experience, and standards relevant to them, as well as the technical knowledge, as well as acting with disciplinary actions that may result from competence and skill. Finally, market inappropriate behavior. In order to reinforce participants are expected to identify and this culture of ethical conduct, firms should eliminate actual and potential conflicts of maintain policies and procedures that allow interest where reasonably possible, and for the disclosure of potentially improper effectively manage them otherwise. practices and the investigation and potential internal escalation of such disclosure. Remuneration and promotion structures Governance: Market Participants are should also promote ethical and professional expected to have a sound and effective market practices and behaviors. governance framework to provide for clear

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priority practices are appropriate, it does Execution: Market Participants are expected suggest that trading in a manner inconsistent to exercise care when negotiating and with those practices that a market participant executing transactions in order to promote a discloses would constitute a violation of the robust, fair, open, liquid, and appropriately Code. transparent FX Market. Pre-Hedging. Market participants acting as agents for clients are prohibited from Although the applicable standards may vary pre-hedging, while market participants acting among market participants depending on the as principals may pre-hedge only if they do so capacity in which they act, the Code fairly and with transparency. The Code prescribes an overarching principle of greater requires pre-hedging to occur in a manner not transparency with respect to the negotiation meant to disadvantage the client or disrupt the and execution of FX trades. Market market and in a manner meant to enable participants should disclose to clients and be clients to understand their choices as to clear on the role in which the market execution. The Code does acknowledge that participant is acting, whether as a principal or in the course of pre-hedging, activities market agent, how orders are handled (including participants may engage in are risk descriptions of order types), whether prices management, market making, and execution are firm or indicative, and the rules, terms, or of client orders in the same or related markets, conditions under which the transaction is which may disadvantage the pre-hedged executed. Market participants should also client, but does not provide specific guidance document and disclose to clients how as to when conduct would be “meant to” mark-ups are determined, as well as providing disadvantage the client. Additional issues internal guidance to personnel in determining relating to pre-hedging are addressed in Part V an appropriate and fair mark-up for each below. transaction. In many areas, these standards go beyond the requirements that currently apply Last Look. The Code allows market under CFTC rules and MiFID. participants to employ last look practices, but market participants employing last look Order Types and Order Handling. The should disclose explanations regarding Code distinguishes among order types and whether, and if so how, changes to price in recommends specific actions the market either direction may impact the decision to participants should engage in for those order accept or reject a trade, the expected or typical types. Market participants handling a client’s period of time for making that decision, and order to transact at a particular fixing rate, for more broadly the purpose for using last look. example, are expected to behave consistently The Code suggests that last look should only with the FSB FX Benchmark Report be a risk control mechanism to verify validity recommendations. The Code also requires and/or price. Last look should not be used disclosure of order handling practices, merely to gather information, and, in including aggregation and time priority, as particular, use of customer information in well as disclosure regarding the point in time connection with any order other than that at which market risk may transfer. In customer’s order during the last look window, connection with these matters, market including with respect to hedging activity, is participants will likely wish to consider how likely an abuse of confidential customer (and at what price) they allocate inventory information and inconsistent with good market positions and what order cancellation practices practice, as such activity is highly likely to they permit. Notably, although the Code does skew market prices against the customer. The not prescribe what order aggregation or Code further requires market participants to

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have governance and controls around the participants to identify and resolve trade design and use of last look consistent with its discrepancies as soon as practicable. The disclosed terms. Code notes that in the prime brokerage context in particular, where the client is known, prime Algorithmic Trading Services. Enhanced brokerage clients and executing dealers are disclosure is required of market participants responsible for resolving trade discrepancies who provide algorithmic or aggregation to ensure timely amendments and matching of services to clients, including: (i) a clear trade terms through the prime broker. Current description of the algorithmic execution confirmation and portfolio reconciliation rules strategy or the aggregation strategy and under the Dodd-Frank Act and EMIR are sufficient information to enable the client to largely consistent with the Code’s evaluate the performance of the service, in a requirements (albeit that the former are of manner that is consistent with appropriate narrower application). Those rules require protection of related confidential information; that material discrepancies be resolved in a (ii) whether the algorithm provider or the timely fashion, and requires written aggregation service provider could execute as agreements with counterparties regarding the principal; (iii) the fees applicable to the terms of portfolio reconciliation. In addition, provision of the services; (iv) in the case of dealers are required to maintain policies and algorithmic trading services, general procedures reasonably designed to ensure they information regarding how routing engage in portfolio reconciliations, with preferences may be determined; and (v) in the minimum frequencies determined by reference case of aggregation services, information on to the type of counterparty and the size of the the liquidity sources to which access may be swap portfolio. provided. The Code does not address whether market participants who access proprietary liquidity sources in connection with executing Information Sharing: Market Participants algorithmic orders may charge a mark-up in are expected to be clear and accurate in their addition to the specific execution fees they communications and to protect Confidential disclose. Information to promote effective communication that supports a robust, fair, Anti-Manipulation. In addition to open, liquid, and appropriately transparent FX recommending good practices, the Code Market. prohibits market participants from engaging in actions with the purpose of manipulating Market participants should protect prices or misleading clients or other market confidential information by first identifying participants. As a result, market participants such information and then limiting access to should always provide quotations only with an and use of such information to only external intent to trade and avoid engaging in parties with a valid reason for receiving the transactions that create a false sense of market confidential information. For example, price, depth, or liquidity (prohibiting market participants acting as prime brokers “spoofing”, “flashing”, “layering”, “quote should have appropriate information barriers stuffing”, or “wash trades”). Market in place, as well as an appropriate level of participants may also decline to enter into separation between their prime brokerage transactions they suspect may have the intent business and other business. The Code of disrupting or distorting market functioning. identifies specific circumstances under which Trade Discrepancies. As part of a confidential information may be disclosed, market participant’s obligations with respect including to agents or market intermediaries to to orderly execution, the Code expects market the extent necessary for executing, processing,

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clearing, novating, or settling a transaction. FX activities, which are subject to oversight The Code does not specifically address use of by a senior body or individuals and regular, confidential information in connection with independent review. A market participant’s pre-hedging activity, but care should be taken compliance framework should identify to disclose to clients how confidential applicable laws and standards and establish information may be used or disclosed, and processes for preventing and detecting abuse, where necessary, appropriate consents with capturing and retaining adequate records, respect to use and disclosure should be escalating identified issues, training personnel, obtained. With respect to the dissemination of and providing guidance to senior management market color, the Code recommends that and personnel. The risk management market participants only share information framework should identify the risks to which that has been effectively aggregated and the market participant may be exposed, as anonymized, so as to prevent the disclosure of well as providing for risk mitigating practices. confidential information. For example, prime brokers should have risk management and compliance frameworks that In their communications, market participants account for their role as intermediaries. More are expected to use language that is generally, as part of the risk management appropriate for the intended audience and is framework, market participants should have neither misleading nor false. Generally, practices in place to monitor trading activities market participants should: (i) attribute in order to detect misconduct and/or the information derived from a third party to that violation of an established risk limit. third party (for example, a news service); (ii) identify opinions clearly as opinions; The Code further outlines a number of good (iii) not communicate false information; practices relevant to the following key risk (iv) exercise judgment when discussing types: rumors that may be driving price movements, identify rumors as rumors, and not spread or — Credit/Counterparty risk. Market start rumors with the intention of moving participants should have adequate markets or deceiving others; and (v) not processes—which may include the provide misleading information in order to use of netting agreement and credit protect confidential information—for support arrangements, the example, when executing partial orders (for diversification of counterparty example, by declining to disclose whether exposure, and the monitoring of their request to transact is for the full amount exposure limits—for managing rather than inaccurately suggest that it is for counterparty risk exposure. the full amount). — Market risk. Market participants should measure, monitor, report, and Risk Management and Compliance: Market manage market risk. Market Participants are expected to promote and participants should also have maintain a robust control and compliance independent processes in place to environment to effectively identify, manage, mark-to-market trading positions. and report on the risks associated with their engagement in the FX Market. — Operational risk. Market participants should have adequate processes to account for the operational risks Market participants should have risk resulting from human error, failed management and compliance frameworks systems, time differences, differences appropriate to the size and complexity of their in industry conventions, and

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unforeseen external circumstances. The categories of risk addressed in the Code Market participants should also are similar to those addressed under CFTC establish business continuity plans risk management rules6 and guidance from appropriate for their FX business. the Basel Committee (“Basel Guidance”) on settlement of foreign exchange transactions.7 — Technology risk. Market participants In some areas, CFTC rules and the Basel should thoroughly test their systems Guidance go beyond the scope of FX risks and implement controls to reduce the addressed in the Code (e.g. impact on likelihood and mitigate the harm of capital), however, several elements of the any technological failing. Code’s best practices identified in connection with risk management and compliance go — Settlement risk. Market participants beyond the scope of CFTC rules and the should monitor and limit settlement Basel Guidance, in particular with respect to exposure to counterparties and, where FX-specific risks (e.g. independent reporting applicable, consider payment netting and review of trader profit/loss statements). and bilateral obligation netting. Market participants should conduct a review of existing risk management and compliance — Compliance risk. Market participants policies and procedures against the Code to should accurately and timely record address any relevant gaps that may exist. transactions and have processes in place to retain such records, including applying sufficiently granular and Confirmation and Settlement Processes: consistent time-stamping. In addition, Market Participants are expected to put in market participants should perform place robust, efficient, transparent, and know-your-customer checks on their risk-mitigating post-trade processes to counterparties and limit trading access promote the predictable, smooth, and timely to authorized personnel only. settlement of transactions in the FX Market.

— Legal risk. Market participants should identify and manage legal risks With respect to the overall operations of by understanding applicable law, market participants, the Code recommends mitigating material legal risks, and that market participants establish consistency maintaining a record of their legal between their operating practices and their agreements with counterparties. documentation, monitor and manage capacity in peak conditions as well as normal ones, In addition to the good practices outlined implement straight-through automatic above, the Code recommends that prime transmission of trade data from their front brokerage participants develop robust control office systems to their operations systems, and systems that adequately manage risks and conduct any novations, amendments, and include the timely allocation, monitoring, cancellations of transactions in a controlled amendment, and/or termination of credit manner. limits and permissions. While prime brokerage clients should strive for real-time monitoring of their available lines and 6 permitted transaction types, executing dealers See CFTC Regulations § 23.600.

should strive for real-time monitoring of 7 Basel Committee on Banking Supervision, designation limits. Supervisory guidance for managing risks associated with the settlement of foreign exchange transactions (February. 2013), available at: http://www.bis.org/publ/bcbs241.pdf.

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The Code provides further, specific V. Legal risks and issues recommendations with respect to the confirming trades, which should be done as There will be areas where local law or regulation soon as practicable after execution, may impose additional or higher standards than those amendment, or cancellation of a trade. Market imposed by the Code. These are most evident for participants are encouraged to use automated FX derivative activities, where conduct and market trade confirmation matching systems, in order regulation across the major jurisdictions impose to decrease the time difference between when obligations that may constrain practice to a greater a trade is executed and when it is confirmed, degree than contemplated by the Code. and to identify and resolve confirmation and US and EU: enhanced disclosures settlement discrepancies as soon as CFTC business conduct requirements require certain practicable. Similarly, market participants disclosures to be provided to its counterparties prior should review and affirm block trade details as to the execution of a swap transaction, including the soon as practicable after execution of the material risks and characteristics of a particular trade. Although investment managers may swap, as well as material incentives and conflicts of allocate block trades to specific underlying interest in connection with a particular swap. The counterparties, such underlying counterparties International Swaps and Derivatives Association should be an approved and existing (“ISDA”) has developed certain form disclosures to counterparty prior to allocation. generally address these disclosure requirements.8 Pursuant to the Code, market participants Similarly, in the EU MiFID requires certain should measure, monitor, and mitigate their disclosures to be made in advance of dealing in settlement risk, including by netting FX financial instruments with a client. settlements and by using payment-versus- The Code requires specific disclosures that go payment settlement mechanisms. For parties beyond these existing disclosure obligations, and with whom they have a trading relationship, current disclosures may need to be expanded to market participants should use standing accommodate these additional Code requirements settlement instructions, which should be and details. Specifically, the Code requires securely stored. Further, market participants disclosure of: are encouraged, in order to reduce operational • Order types—market participants should be risk, to request direct payments rather than aware that different order types may have engaging in third-party payments. Finally, specific considerations for execution; market participants should have clear procedures to monitor and manage their • Mark-ups—market participants should intraday and end-of-day funding requirements. make it clear to clients that their final transaction price may be inclusive of With respect to account reconciliation, the mark-up and help clients understand the Code recommends that market participants determination of mark-up and how reconcile expected cash flows against actual mark-ups may affect execution of any order cash flows on a timely basis, in order to detect linked or triggered at a specific level; missing or erroneous entries. Market • participants should also maintain policies and Last look—with respect to last look (which procedures to identify settlement provides a market participant receiving a discrepancies and submit compensation claims trade request a final opportunity to accept or in a timely manner. reject a request against its quoted price) market participants should disclose, at a

8 See ISDA August 2012 DF Protocol Supplement; ISDA March 2012 DF Protocol Supplement; General Disclosure Statement for Transactions (August 5, 2015).

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minimum, explanations regarding whether, More vexing issues can, however, arise in the EU. and if so how, changes to price in either In the EU, as indicated above, FX contracts that direction may impact the decision to accept amount to financial instruments for the purpose of or reject the trade, the expected or typical MiFID II attract investor protection requirements. period of time for making that decision, and Financial instruments are also within MAR, which more broadly the purpose for using last prohibits insider dealing, improper disclosure, and look; market manipulation.10 MAR prohibits trading in financial instruments which are admitted to trading • Algorithmic trading—market participants to a trading venue (“traded financial providing algorithmic trading services to instruments”), or in financial instruments whose clients should disclose: (i) a clear price or value depends on or has an effect on the description of the algorithmic execution price of such instruments (“related financial strategy; (ii) sufficient information to enable instruments”), “on the basis of” inside information, the client to evaluate the performance of the including information relating to a pending client service; (iii) whether the algorithm provider order. or the aggregation service provider could execute as principal; (iv) the fees applicable Recital 30 specifies that “front running” of client to the provision of the services; and orders in financial instruments is insider dealing. (v) general information regarding how MAR does not define what amounts to front running: routing preferences may be determined. the FCA provides guidance in the Code of Market Conduct to the effect that front running amounts to US and EU: pre-hedging and confidentiality “a transaction for a person's own benefit, on the basis As discussed above, the Code requires pre-hedging of and ahead of an order (including an order relating to occur in a manner not meant to disadvantage the to a bid) which he is to carry out with or for another client or disrupt the market and in a manner meant to (in respect of which information concerning the enable clients to understand their choices as to order is inside information), which takes advantage execution. The Code does acknowledge that in the of the anticipated impact of the order on the market course of pre-hedging activities, market participants or auction clearing price”, but provides no further may engage in risk management, market making, detail in the context of pre-hedging.11 and execution of client orders in the same or related To permit ordinary course market making and markets, which may disadvantage the pre-hedged brokerage activities, Article 9 of MAR includes client, but does not provide specific guidance as to various “safe harbors”. These include for trading as when conduct would be “meant to” disadvantage the a market maker or counterparty, where the client. These principles are generally consistent with transaction is “made legitimately in the normal the CFTC’s confidentiality requirements for swaps course of the exercise of its function as a market and the written authorization language that ISDA maker or as a counterparty for that financial developed to apply those requirements.9 Due to the instrument” (Article 9(2)). The safe harbors are broad scope of the Code, however, even subject to a further qualification: if the competent CFTC-registered swap dealers may wish to obtain authority establishes that “there was an illegitimate similar authorization in connection with transaction types or counterparties not covered by the relevant ISDA protocol (such as spot transactions or certain non-U.S. counterparties). Also, the Code appears to 10 A separate briefing discussing MAR is available envisage more detailed disclosure regarding here. 11 pre-hedging practices—sufficient to enable clients to In 2003 the Financial Services Authority (the predecessor to the FCA) introduced guidance in the Code make choices as to execution—than is contained in of Market Conduct to the effect that pre-hedging standard ISDA disclosure documents. convertible bond issuance amounted to insider dealing under the UK’s market abuse regime then in effect. It is 9 See CFTC Regulations § 23.410(c)(2); ISDA unclear whether the FCA policy still applies under the August 2012 DF Protocol Supplement, Section 2.15(b). current regime.

12 ALERT MEMORANDUM

reason for” the transactions concerned, then the recommendations are more specific, and address transaction may still amount to insider dealing. issues such as avoiding and managing conflicts of interest, data quality, transparency, and adequate Principle 11 of the Code contemplates pre-hedging12 rights of redress for investors and consumers. of client orders being permissible where a market participant acts as principal and does so “in a manner US and EU: mark-up requirements that is not meant to disadvantage the Client”, subject Principle 14 of the Code establishes an expectation to appropriate client disclosure. By contrast, it is not that mark-up be ‘fair and reasonable’ supported by wholly clear that pre-hedging traded financial certain disclosure requirements. The substantive instruments is permissible under MAR. In practice, requirement has no immediate parallel under U.S. or pre-hedging of material orders involves dealing EU rules. whilst in possession of inside information within the scope of the insider dealing prohibition. The key As noted above, in the U.S., swap dealers are question is therefore whether the dealing falls within currently required to disclose, in connection with the the safe harbor. MAR does not address the question price of a swap, that the mid-market mark of the of whether, and in what circumstances, pre-hedging swap is the price of the swap, excluding amounts for is both “made legitimately in the normal course of profit, credit reserve, hedging, funding, liquidity, or the exercise of its function as a market maker” and any other costs or adjustments. Disclosure is not undertaken “for an illegitimate reason”. The generally provided to counterparties regarding the Code’s approach—that pre-hedging “not meant to” calculation of the mid-market mark. disadvantage the client is permissible—may appear The Code, on the other hand, requires disclosure of reasonable to avail a market participant of the safe mark-up, which is described as the spread or charge harbor, but it is not clear that it will in fact do so. that may be included in the final price of a The Code is not binding on the EU regulatory transaction in order to compensate the dealer for a authorities (notwithstanding the involvement of a number of considerations, which might include risks number of them in the generation of the Code), and taken, costs incurred, and services rendered to a compliance with it does not amount to a defense for particular client. The Code contemplates fulsome MAR purposes. disclosure, including disclosure that: Pending guidance or case law on the standing of • makes it clear to clients that their final pre-hedging under MAR, market participants will transaction price may be inclusive of need to assess their risk tolerance for pre-hedging mark-up; material client orders in FX products which are within the scope of MAR. • makes it clear to clients that different clients may receive different prices for US: incorporation of FSB FX Benchmark Report transactions that are the same or similar; recommendations • helps clients understand the As discussed above, FSB FX Benchmark Report determination of mark-up; and recommendations are incorporated into the Code. U.S. regulators have not adopted any specific • discloses to clients how mark-up may benchmark regulations, however, many major firms impact the pricing and/or execution of are subject to enhanced undertakings following any order linked to or triggered at a settlements with U.S. regulators. The undertakings specific level. generally focus on monitoring, surveillance, and Firms will be expected to maintain policies and oversight of conduct concerning FX benchmark procedures that enable personnel to determine fair rates. The FSB Benchmark Report and reasonable mark-ups and market participants

12 Defined as “[t]he management of the risk should have processes to monitor whether their associated with one or more anticipated Client orders, mark-up practices are consistent with their policies designed to benefit the Client in connection with any such and procedures, and with their disclosures to clients. orders and any resulting transactions”.

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For EU market participants, work is underway as by investment firms in financial instruments (other part of MiFID II implementation to enhance than where the investment firm deals with an eligible disclosures associated with mark-ups relating to counterparty or across a regulated market or MTF) transactions in financial instruments. As the scope where the investment firm executes a client order. of the Code is wider than, and the disclosures above EU Commission guidance provided on the best go beyond what is required by, MiFID II, signatories execution requirement at the time of MiFID will need to reassess their disclosures, policies, and implementation in 200713 indicated that the MiFID procedures relating to FX transactions. best execution requirement applies only where the investment firm executes an order ‘on behalf of’ a US and EU: order ticket requirements client—contrasting this position with request-for- CFTC Regulations require retention of all documents quote dealings as principal, which do not attract best that demonstrate the existence and nature of an order execution obligations. It remains standard practice or transaction, including records of all orders, with for investment firms dealing in principal markets to additional recordkeeping requirements applicable to contract on the basis that they do not owe best swaps executed with a counterparty. execution obligations. Principle 9 of the Code The Code similarly requires market participants to establishes expectations as to disclosure about order keep an accurate and timely record of orders and handling, including as to the point of transfer of transactions that have been accepted and market risk. Principal dealings undertaken where triggered/executed, to create an effective audit trail market risk is borne by the client could be for review and to provide transparency to Clients, characterized as execution of orders on behalf of the where appropriate. client, to which best execution applies. The detail required for records under the Code goes EU: client’s best interests rule beyond current CFTC requirements, and may In respect of dealings in financial instruments, include, but is not limited to, the date and time, MiFID II provides an overriding obligation on an product type, order type (for example, a stop loss investment firm dealing with a retail or professional order, or an order where price is subject to last look), client to act “honestly, fairly and professionally in quantity, price, trader, and client identity. With accordance with the best interests of the client” respect to timing data, market participants are to (known as the “client’s best interests rule”). Where apply sufficiently granular and consistent investment firms trade in FX financial instruments, time-stamping so that they record both when an the client’s best rule will apply. The rule applies a order is accepted and when it is triggered/executed. higher standard than that of the Code, and may merit Retention of CFTC timing data is currently required consideration in respect of disclosure and dealing to the nearest minute for all customer quotes and protocols and processes (for example, last look executions, but there is no similar requirement for arrangements). orders. Suitability/appropriateness Similarly for EU market participants, whilst The Code suggests that market participants should MiFID II includes highly detailed record-keeping perform counterparty-specific suitability or requirements, the wider scope of the Code will appropriateness analyses. For example, the Code require the review of record-keeping for FX says that market participants should have adequate transactions outside the scope of MiFID II. processes in place to support the rejection of client EU: impact on best execution orders for products they believe to be inappropriate A further point of interaction between the Code, and the compliance procedures likely to be expected to demonstrate compliance with it, and the EU 13 The Committee of European Securities regulatory regime relates to best execution. Best Regulators (May 2007), available at: execution obligations apply under MiFID to dealings https://www.esma.europa.eu/sites/default/files/library/201 5/11/07_320.pdf.

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for the client.14 In contrast, CFTC regulations (like other U.S. regulations) and MIFID II provide safe harbors from counterparty-specific suitability or appropriateness obligations in connection with institutional or otherwise sophisticated counterparties. …

CLEARY GOTTLIEB

14 Strangely, the Code appears to take a different approach to algorithmic trading services, where it is the client—not the service provider—whom the Code identifies as responsible for evaluating the appropriateness of the algorithmic trading strategy to the client’s execution strategy.

APPENDIX A – ILLUSTRATIVE COMPARISON OF THE CODE TO KEY EU AND U.S. REQUIREMENTS

FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions ETHICS Principle 1 Article 9 MiFID II Commodity Exchange Act (“CEA”) Market Participants should strive for Management Body § 4p; Appendix B to CFTC Regulations the highest ethical standards. Article 24 MiFID II Part 3 General Principles and Information Ethics Training to Clients

Principle 2 Article 9 MiFID II CEA § 4s(h)(1)(B); CFTC Regulations Market Participants should strive for Management Body §§ 23.602, 166.3 the highest professional standards. Article 24 MiFID II Diligent Supervision General Principles and Information to Clients Article 25 MiFID II Assessment of Suitability and Appropriateness and Reporting to Clients

Principle 3 Article 9(3) MiFID II CEA § 4s(j)(5); CFTC Regulations Market Participants should identify Management Body § 23.605 and address conflicts of interest. Article 16(3) MiFID II Conflicts of Interest Organizational Requirements CEA § 4s(k)(2)(C); CFTC Regulations Article 23 MiFID II § 3.3(d)(2) Conflicts of Interest Conflict of Interest Resolution Article 45(6) MiFID II CEA § 4s(h)(3)(B)(ii); CFTC Requirements for the management Regulations § 23.431(a)(3) body of a market operator Conflict of Interest Disclosure Article 63(4) MiFID II Requirements for the management body of a data reporting services provider Article 64(3) MiFID II Organizational Requirements for APAs Article 65(4) MiFID II Organizational Requirements for CTPs Article 66(2) MiFID II Organizational Requirements for ARMs

GOVERNANCE Principle 4 Article 9 MiFID II CEA § 4s(h)(1)(B); CFTC Regulations The body, or individual(s), that is Management Body §§ 23.602, 166.3 ultimately responsible for the Market Article 16(3) MiFID II Diligent Supervision Participant’s FX business strategy Organizational Requirements clearygottlieb.com

FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions and financial soundness and should put in place adequate and effective structures and mechanisms to provide for appropriate oversight, supervision, and controls with regard to the Market Participant’s FX Market activity. Principle 5 Article 9(3)(c) MiFID II CEA § 4p; Appendix B to CFTC Market Participants should embed a Management Body Regulations Part 3 strong culture of ethical and Article 27 MiFID II Delegated Ethics Training professional conduct with regard to Regulation their FX Market activities. Remuneration Policies and Practices

Principle 6 Article 9(3)(c) MiFID II CFTC Regulations §§ 75.4(b)(2)(v) and Market Participants should have Management Body 75.5(b)(3) remuneration and promotion Article 27 MiFID II Delegated Compensation Arrangements in structures that promote market Regulation Connection with Market-Making and practices and behaviors that are Remuneration Policies and Practices Hedging Activities consistent with the Market Participant’s ethical and professional conduct expectations.

Principle 7 Article 73 MiFID II CEA §§ 4s(k)(2)(F) and (G); CFTC Market Participants should have Reporting of Infringements Regulations §§ 3.3(d)(4) and (5) appropriate policies and procedures Identification and Remediation of to handle and respond to potentially Noncompliance Issues improper practices and behaviors effectively.

EXECUTION Principle 8 Article 25(2) MiFIR CEA § 4s(h)(5)(A)(ii); CFTC Market Participants should be clear Obligation to Maintain Records Regulations § 23.450(g) about the capacities in which they Article 26 MiFIR Special Entity Capacity Disclosure act. Obligation to Report Transactions CEA § 4s(h)(3)(B); CFTC Regulations § 23.431 Disclosures of Material Information

Principle 9 Article 18 MiFID II CEA § 4s(h)(5)(A)(ii); CFTC Market Participants should handle Trading Process and Finalization of Regulations § 23.450(g) orders fairly and with transparency in Transactions in an MTF and an OTF Special Entity Capacity Disclosure line with the capacities in which they CEA § 4s(h)(3)(B); CFTC Regulations act. Article 27 MiFID II § 23.431 Obligation to Execute Orders on Disclosures of Material Information Terms Most Favorable to the Client CEA § 4s(h)(3)(C); CFTC Regulations § 23.433 Communications—Fair Dealing

Principle 10 Article 27 MiFID II Market Participants should handle Obligation to Execute Orders on CEA § 4s(h)(1)(A); CFTC Regulations orders fairly, with transparency, and Terms Most Favorable to the Client § 23.410(a) in a manner consistent with the Prohibition on Fraud, Manipulation, and

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions specific considerations relevant to Other Abusive Practices different order types. CEA § 6(c); CFTC Regulations §§ 180.1 and 180.2 Prohibition Against Manipulation CEA § 4s(h)(3)(C); CFTC Regulations § 23.433 Communications—Fair Dealing

Principle 11 - CEA § 4s(h)(1)(A); CFTC Regulations A Market Participant should only § 23.410(a) Pre-Hedge Client orders when acting Prohibition on Fraud, Manipulation, and as a Principal, and should do so Other Abusive Practices fairly and with transparency. CEA § 4s(h)(1)(A); CFTC Regulations § 23.410(c) Confidential Treatment of Counterparty Information CEA § 4s(h)(3)(C); CFTC Regulations § 23.433 Communications—Fair Dealing Principle 12 Article 81(1) MiFID II Delegated CEA § 4s(h)(1)(A); CFTC Regulations Market Participants should not Regulation § 23.410(a) request transactions, create orders, or Circumstances where significant Prohibition on Fraud, Manipulation, and provide prices with the intent of infringements of the rules of a Other Abusive Practices disrupting market functioning or trading venue or disorderly trading CEA § 4s(h)(3)(C); CFTC Regulations hindering the price discovery conditions or system disruptions in § 23.433 process. relation to a financial instrument may Communications—Fair Dealing be assumed CEA § 6(c); CFTC Regulations §§ 180.1 and 180.2 Annex III MiFID II Delegated Prohibition Against Manipulation Regulation

Principle 13 - CEA § 4s(h)(3)(C); CFTC Regulations Market Participants should § 23.433 understand how reference prices, Communications—Fair Dealing including highs and lows, are established in connection with their transactions and/or orders.

Principle 14 - - The Mark-up applied to Client transactions by Market Participants acting as Principal should be fair and reasonable. Principle 15 Article 48(4) MiFID II CEA § 4s(i); CFTC Regulations Market Participants should identify Systems Resilience, Circuit § 23.502 and resolve trade discrepancies as Breakers, and Electronic Trading Portfolio Reconciliation soon as practicable to contribute to a CEA § 4s(i); CFTC Regulations well-functioning FX Market. § 23.504 Swap Trading Relationship Documentation

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions

Principle 16 - - Market Participants acting as Voice Brokers should only employ name switching where there is insufficient credit between parties to the transaction.

Principle 17 - - Market Participants employing last look should be transparent regarding its use and provide appropriate disclosures to Clients.

Principle 18 Article 17 MiFID II - Market Participants providing Algorithmic trading algorithmic trading or aggregation services to Clients should provide adequate disclosure regarding how they operate.

INFORMATION SHARING I. Handling Confidential Information Principle 19 Article 16(3) MiFID II CEA § 4s(h)(1)(A); CFTC Regulations Market Participants should clearly Organizational Requirements § 23.410(c) and effectively identify and Article 21(2) MiFID II Delegated Confidential Treatment of Counterparty appropriately limit access to Regulation Information Confidential Information. General Organizational Requirements Article 29 MiFID II Delegated Regulation Personal Transactions Article 31(2)(j) MiFID II Delegated Regulation Outsourcing Critical or Important Operational Functions Article 16(5) MiFID II Organizational Requirements Article 66(3) MiFID II Organizational Requirements for ARMs Article 76 MiFID II Professional Secrecy

N.B. No specific detail on Prime Brokers

Principle 20 Article 16(3) & 16(5) MiFID II CEA § 4s(h)(1)(A); CFTC Regulations Market Participants should not Organizational Requirements § 23.410(c) disclose Confidential Information to Article 73 MiFID II Delegated Confidential Treatment of Counterparty

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions external parties, except under Regulation Information specific circumstances. Outsourcing Critical or Important Operational Functions

INFORMATION SHARING II. Communications Principle 21 Article 24(3) MiFID II CEA § 4s(h)(3)(C); CFTC Regulations Market Participants should General Principles and Information § 23.433 communicate in a manner that is to Clients Communications—Fair Dealing clear, accurate, professional, and not Article 44 MiFID II Delegated misleading. Regulation Fair, Clear, and Not Misleading Information Requirements Article 30 MiFID II Transactions Executed with Eligible Counterparties

Principle 22 - CEA § 4s(h)(1)(A); CFTC Regulations Market Participants should § 23.410(c) communicate Market Color Confidential Treatment of Counterparty appropriately and without Information compromising Confidential CEA § 4s(h)(3)(C); CFTC Regulations Information. § 23.433 Communications—Fair Dealing Principle 23 Article 16 MiFID II CEA § 4s(h)(1)(B); CFTC Regulations Market Participants should provide Organizational Requirements §§ 23.602, 166.3 personnel with clear guidance on Diligent Supervision approved modes and channels of communication.

RISK MANAGEMENT AND COMPLIANCE I. Frameworks for Risk Management, Compliance, and Review Principle 24 Article 16(2) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have Organizational Requirements § 23.600 frameworks for risk management and Article 22 MiFID II Delegated Risk Management Program compliance. Regulation Compliance Article 25(2) MiFID II Delegated Regulation Responsibility of Senior Management Article 16(5) MiFID II Organizational Requirements Article 23 MiFID II Delegated Regulation Risk Management

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions Principle 25 Article 16(2) MiFID II CEA § 4s(k); CFTC Regulations § 3.3 Market Participants should Organizational Requirements Chief Compliance Officer familiarize themselves with, and Article 22 MiFID II Delegated abide by, all Applicable Laws and Regulation Standards that are relevant to their Compliance FX Market activities and should have Article 25 MiFID II Delegated an appropriate compliance Regulation framework in place. Responsibility of Senior Management Article 16(5) MiFID II Organizational Requirements Article 23 MiFID II Delegated Regulation Risk Management

Principle 26 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should maintain Organizational Requirements § 23.600(b) an appropriate risk management Article 23 MiFID II Delegated Risk Management Program framework with systems and internal Regulation controls to identify and manage the Risk Management FX risks they face. Article 25(2) MiFID II Delegated Regulation Responsibility of Senior Management

Principle 27 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have Organizational Requirements § 23.600(c) practices in place to limit, monitor, Article 23 MiFID II Delegated Elements of the Management Program and control the risks related to their Regulation FX Market trading activity. Risk Management Article 24 MiFID II Delegated Regulation Internal Audit Article 25(2) MiFID II Delegated Regulation Responsibility of Senior Management

Principle 28 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have Organizational Requirements § 23.600(e) processes in place to independently Article 24 MiFID II Delegated Risk Management Program Review and review the effectiveness of and Regulation Testing adherence to the risk management Internal Audit and compliance functions. Article 25(2) MiFID II Delegated Regulation Responsibility of Senior Management

RISK MANAGEMENT AND COMPLIANCE II. Key Risk Types

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions Credit/Counterparty Risk Principle 29 - CEA § 4s(i); CFTC Regulations Market Participants should have § 23.504(b) adequate processes to manage Swap Trading Relationship counterparty credit risk exposure, Documentation including, where appropriate, CEA § 4s(j); CFTC Regulations through the use of appropriate §§ 23.600(c)(4)(ii), (iv), and (v) netting and collateral arrangements, Credit Risk, Foreign Currency Risk, and such as legally enforceable master Legal Risk netting agreements and credit support arrangements.

Principle 30 - CEA § 4s(j); CFTC Regulations Market Participants should have §§ 23.600(c)(4)(i) and (iv) processes to measure, monitor, Market Risk and Foreign Currency Risk report, and manage market risk in an accurate and timely way.

Principle 31 - CEA § 4s(j); CFTC Regulations Market Participants should have §§ 23.600(c)(4)(i) and (iv) independent processes in place to Market Risk and Foreign Currency Risk mark-to-market trading positions to measure the size of their profit and loss and the market risk arising from trading positions.

Operational Risk Principle 32 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have Organizational Requirements § 23.600(c)(4)(vi) appropriate processes in place to Article 23 MiFID II Delegated Operational Risk identify and manage operational Regulation CFTC Regulations § 23.603 risks that may arise from human Risk Management Business Continuity and Disaster error, inadequate or failed systems or Recovery processes, or from external events.

Principle 33 Article 16 MiFID II CFTC Regulations § 23.603 Market Participants should have Organizational Requirements Business Continuity and Disaster business continuity plans (BCPs) in Article 21(3) MiFID II Delegated Recovery place that are appropriate to the Regulation nature, scale, and complexity of their General Organizational FX business and that can be Requirements implemented quickly and effectively Article 17(1) MiFID II in the event of large-scale disasters, Algorithmic Trading loss of access to significant trading Article 48(1) MiFID II platforms, settlement, or other System Resilience, Circuit Breakers, critical services, or other market and Electronic Trading disruptions.

Technology Risk Principle 34 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have in Organizational Requirements § 23.600(c)(4)(vi)

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions place processes to address potential Article 23 MiFID II Delegated Operational Risk adverse outcomes arising from the Regulation use of or reliance on technological Risk Management systems (hardware and software).

Settlement Risk Principle 35 - CEA § 4s(j); CFTC Regulations Market Participants should take § 23.600(c)(4)(vii) prudent measures to manage and Settlement Risk reduce their settlement risks, including prompt resolution measures to minimize disruption to trading activities.

Compliance Risk Principle 36 Article 27 MiFIR CEA § 4s(j); CFTC Regulations Market Participants should keep a Obligation to Supply Financial § 23.600(d) timely, consistent, and accurate Instrument Reference Data Risk Management Program – Business record of their market activity to Trading Unit facilitate appropriate levels of transparency and auditability and have processes in place designed to prevent unauthorized transactions.

Principle 37 Article 25(1) MiFIR CFTC Regulations §§ 23.402(b) and (c) Market Participants should perform Obligation to Maintain Records KYC and True Name and Owner “know-your-customer” (KYC) checks on their counterparties to ascertain that their transactions are not used to facilitate money laundering, terrorist financing, or other criminal activities.

Principle 38 Article 9 MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have in Management Body § 23.600(d) place reasonable policies and Risk Management Program – Business procedures (or governance and Trading Unit controls) such that trading access, either direct or indirect, is limited to authorized personnel only.

Principle 39 Article 25 MiFIR CEA §§ 4s(f) and (g); CFTC Regulations Market Participants should generate Obligation to Maintain Records §§ 23.201 and 23.202 a timely and accurate record of Required Records and Daily Trading transactions undertaken to enable Records effective monitoring and auditability. Legal Risk Principle 40 Article 16(5) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should have Organizational Requirements § 23.600(c)(4)( v) processes in place to identify and Article 23 MiFID II Delegated Legal Risk manage legal risks arising in relation Regulation

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions to their FX Market activities. Risk Management

Considerations Related to Prime Brokerage Activities Principle 41 - CEA § 4s(j); CFTC Regulations Prime Brokerage Participants should § 23.600(c)(4)(ii) strive to monitor and control trading Credit Risk permissions and credit provisions in Real-Time at all stages of transactions in a manner consistent with the profile of their activity in the market to reduce risk to all parties.

CONFIRMATION AND SETTLEMENT I. Overarching Principles Principle 42 - CEA § 4s(j); CFTC Regulations Market Participants should establish § 23.600 consistency between their operating Risk Management Program practices, their documentation, and their policies for managing credit and legal risk.

Principle 43 Article 48(1) MiFID II CEA § 4s(j); CFTC Regulations Market Participants should institute a Systems resilience, circuit breakers, §§ 23.600(c)(4)(vi) robust framework for monitoring and and electronic trading Operational Risk managing capacity in both normal and peak conditions. Principle 44 - - Market Participants are encouraged to implement straight-through automatic transmission of trade data from their front office systems to their operations systems. Principle 45 Article 17 MiFID II - Market Participants should conduct Algorithmic Trading any novations, amendments, and/or Article 31 MiFID II cancellations of transactions in a Monitoring of Compliance with the carefully controlled manner. Rules of the MTF or the OTF and with Other Legal Obligations CONFIRMATION AND SETTLEMENT II. Confirmation Process Principle 46 - CEA § 4s(i); CFTC Regulations Market Participants should confirm § 23.501 trades as soon as practicable, and in a Swap Confirmation secure and efficient manner.

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions Principle 47 - CEA § 4s(i); CFTC Regulations Market Participants should review, § 23.501 affirm, and allocate block Swap Confirmation transactions as soon as practicable. CEA § 2(a)(13); CFTC Regulations § 45.3(f) Allocations

Principle 48 - CEA § 4s(i); CFTC Regulations Market Participants should identify § 23.501 and resolve confirmation and Swap Confirmation settlement discrepancies as soon as CEA § 4s(i); CFTC Regulations practicable. § 23.504(b)(1) Swap Trading Relationship Documentation CFTC Regulations § 23.502 Portfolio Reconciliation Principle 49 - CEA § 4s(i); CFTC Regulations Market Participants should be aware § 23.501 of the particular confirmation and Swap Confirmation processing features specific to life cycle events of each FX product.

CONFIRMATION AND SETTLEMENT III. Netting and Settlement Processes Principle 50 - CEA § 4s(j); CFTC Regulations Market Participants should measure § 23.600(c)(4)(vii) and monitor their settlement risk and Settlement Risk seek to mitigate that risk when possible.

Principle 51 - CEA § 4s(j); CFTC Regulations Market Participants should utilize § 23.600(c)(4)(vii) standing settlement instructions Settlement Risk (SSIs).

Principle 52 - CEA § 4s(j); CFTC Regulations Market Participants should request § 23.600(c)(4)(vii) Direct Payments. Settlement Risk

Principle 53 - CEA § 4s(j); CFTC Regulations Market Participants should have § 23.600(c)(4)(iii) adequate systems in place to allow Liquidity Risk them to project, monitor, and manage their intraday and end-of-day funding requirements to reduce potential complications during the settlement process.

CONFIRMATION AND

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FX Global Code Principles Key MiFID II/MiFIR Provisions Key U.S. Statutory and Regulatory Provisions SETTLEMENT IV. Account Reconciliation Processes Principle 54 Article 16(9) MiFID II Directive CFTC Regulations § 23.502 Market Participants should perform Organizational Requirements Portfolio Reconciliation timely account reconciliation Article 2(1)(c) MiFID II Delegated processes. Directive Safeguarding of Client Financial Instruments and Funds

Principle 55 - CEA § 4s(i); CFTC Regulations Market Participants should identify § 23.501 settlement discrepancies and submit Swap Confirmation compensation claims in a timely CEA § 4s(i); CFTC Regulations manner. § 23.504(b)(1) Swap Trading Relationship Documentation CFTC Regulations § 23.502 Portfolio Reconciliation

APPENDIX B – BASIC LIST OF POLICIES REQUIRED UNDER THE CODE

The table below sets out key policies required under the Code. Some of these policies will be discretionary based on the type of business that a firm is offering, and some policies may be consolidated with others, such as in a compliance manual.

Principle Content of policy Recipient

3 Conflicts of interest (including personal dealing controls, and Internal gifts and entertainment guidance) 7 Whistleblowing, complaints, reporting, and handling of improper Internal practices and behaviors 9 Order execution policy for firms executing FX orders as agents Clients

14 Mark-up policy setting out guidance on prices charged to clients Internal (with consideration of applicable market conditions and internal risk management practices), and acting honestly, fairly, and professionally in determining mark-up 15 Identification and resolution of trade discrepancies arising from Internal FX activities 19-23 Identification and management of confidential information, in Internal line with local laws, and information sharing/communication of market information 24-28 Risk management and compliance frameworks Internal

29 Record retention policy Internal

32-34 Operational continuity, business continuity plans, and Internal technological failure policies 35 Settlement risk policy (including appropriate resolution Internal measures) 37 and 52 Know your client and anti-money laundering policy (including Internal use of or reliance on third-party payment) 38 Trading access policy (permitted products for trading, authorized Internal personnel, and post-trade surveillance) 49 Confirmation, exercise, and settlement of FX products Internal

53 Account funding requirement procedures Internal

54 Account reconciliation procedures Internal

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APPENDIX C – KEY DISCLOSURES REQUIRED UNDER THE CODE

The table below sets out key disclosures required under the Code. Some of these disclosures may be consolidated in order handling policies or terms of business provided to a client.

Principle What needs to be disclosed? To whom? When?

3 Conflicts of interest that cannot Affected Before transaction/provision of reasonably be avoided or parties service effectively managed 8 Terms of business/agreement for Clients Before transaction/provision of setting out capacity in which a service/on a trade-by-trade basis participant acts when managing orders or executing transactions 9 Order handling terms: see further Clients Before transaction/provision of detail in order handling checklist service/on a trade-by-trade basis below 10 The possibility of executing risk Clients Before transaction management transactions 14 Mark-up disclosures (reflects Clients Before transaction whether final price is inclusive of mark-up, indicates factors contributing to mark-up, and sets out how mark-up can affect orders triggered at a specific level) 17 Last look practices Clients Before transaction

18 Algorithmic trading strategy Clients Before transaction (including a description of the strategy, when the firm may execute as principal, applicable fees, and how routing preferences are determined) 18 Aggregation strategy (including a Clients Before transaction description of the strategy, when a firm may execute as principal, applicable fees, and information on the liquidity sources to which the firm may provide access) 39 Records of transactions Clients Only upon clients request undertaken—upon reasonable clients request only

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APPENDIX D – CLIENT ORDER HANDLING POLICY CHECKLIST

General

• Overarching requirements

O Ensure statements are truthful. O Ensure language is clear and unambiguous. O Ensure alignment with market abuse regulations within local jurisdiction.

• Are you providing firm or indicative pricing? • Do you have adequate processes for rejection of client orders? • How do you handle orders that may cause market disruption? • Have you considered all relevant disclosures and information required under local law prior to accepting an order? • What is the process for accepting orders and executing them? Are they aggregated or time prioritized? • Are orders executed electronically or manually? How does discretion interact with each of these methods? • When do you take the risk on for a client? • What is the time stamping policy? Is it applied both when the order is accepted and when it is triggered or executed? • Are your fees and commissions transparently set out? • How will you fill client orders and will you partially fill orders?

Agency: where you execute orders on behalf of a Principal: where you take on risks in connection client pursuant to client instructions and without with an order, such as market and credit risks. taking on market risk in respect of the order. Principals acting on their own behalf do not have an obligation to execute the order until both parties • Have you disclosed how the agency are in agreement. Any discretion that is exercised relationship operates? needs to be specified how it is exercised.

• Do you have a transparent order execution • Have you disclosed that you are acting on policy? your own behalf as a counterparty to the client? O Where can the firm execute • How will you communicate and transact orders? with respect to: Requests for quotes; O What affects the choice of O execution venue? O Indicative pricing; Discussion/placement of orders; O How will you provide prompt, O fair, and expeditious execution? and O Other expressions of interest. • When does market risk transfer? • How does market-making and risk management activity (e.g. hedging) fit with trading strategy? • Are your mark-up policies clear and disclosed to the client?

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