It was only a matter of time before other asset classes started to see similar problems with excessive orders and a similar response via a new generation of intelligent “sensing” algos intelligent "sensing" algos – but with a twist.

FX is increasingly traded by computers. Consultancy Aite Group said in a report last year that FX algorithms will account for more than 25 percent of FX trade volume by the end of 2014. And as algorithms take control, the opportunity for a flood of quotes and cancellations increases.

Order-to-trade ratios, the number of orders that come in compared with the number filled, create a load on exchanges and electronic markets and they can provide a smokescreen to hide potentially abusive behavior (so-called “quote stuffing”).

We see innovative FX brokers taking measures to rein in unproductive order flow. Similar to equities marketplaces, FX dealers and brokers are increasingly utilizing tactics that discourage excessive orders, but in a very different way. Because FX is mainly traded via single dealer platforms, multi-dealer platforms such as FXall and interdealer marketplaces, it is fragmented in a different way from equities.

So the FX brokers are acting like exchanges and taking the initiative to control toxic order flow with their pricing strategies. Brokers need to see every opportunity and threat hidden in their customers’ flow patterns and automate their own real-time responses to stay profitable as markets change.

Brokers servicing HFT clients react to predatory algorithms and fluctuating fill ratios by manipulating the spreads they offer. Traditional customer profiling based on purely historical data is good for strategic decision-making. But for more tactical decisions with immediate impact, real-time analysis is additionally required.

A responsive broker can, for example:

• Mitigate “toxic flow” by detecting predatory patterns in real-time and automatically widening spreads to those clients;
• Increase business by detecting reduction in flow from “good” clients and automatically reducing spreads to those clients;
• Preserve the relationship by detecting pending credit breaches, and immediately calling the client.

Global and regional FX brokers can optimize how they serve their customers based on detailed real-time diagnosis of their flow. Key parameters include P&L on individual trades, an aggregated view of individual trades over time and the performance of tiered client groups.

Using real-time customer flow analysis, brokers (and banks and trading platforms) can figure out which customers are providing the types of order flow that they need.

Customer flow sits alongside other real-time market trend analytics such as volatility, average daily volume and depth of book. For example, if flow from a specific customer is high but liquidity is thin – then time of day impacts spreads in addition to customer behavior.

Dynamic pricing builds on an aggregated order book as source pricing. A basic pricing service dynamically applies a set spread to the base price generated from the aggregated book. A more advanced service changes the spread based on any data or rule, for example:

• Current volatility
• Depth of book (volume on bid/ask side)
• Real-time risk parameters such as profit/loss levels
• News
• Current vs. target position (changes the spread or skew automatically, and updates the auto-hedger service)
• Customer tier
• Historical & real-time customer trading behavior

Brokers can take input including aggregated FX prices, customer trading patterns, market volatility and hedging activity – all in real time – into the platform. The analysis generates dynamic pricing (spreads/skews) and it can work to incentivize market participants to provide quality – not quantity – orders.

Toxic order flow, like excessive orders-to-trade, can tax trading systems and create an environment in which fraud and market abuse can flourish. Using real-time customer flow analysis to get a handle on your customers' order flow will help to prevent this.

Customer flow analysis can be used not only for dynamic pricing, but also for customizing product offerings and enabling banks and brokers to create execution algorithms for their clients to use. By being proactive, FX brokers and banks can avoid the issues that plague equities. And make money along the way.