5 hidden FX costs every business should know about

The opaque nature of foreign exchange (FX) places great responsibility on asset managers and corporates to put the processes, practices and systems in place to ensure they achieve best execution, yet they may often be plagued by hidden transaction costs.

At MillTechFX, we recognise that many firms are still paying more than necessary for FX, often without knowing the extra costs. That’s why we’re exposing the hidden transaction costs you should look out for and demonstrating how technology can drive transparency in FX, helping firms optimise their operations and reduce costs.

 

What are the hidden costs in FX?

The FX spread, also known as the bid-ask spread, is the difference between the price at which a buyer is willing to purchase a currency (the bid) and the price at which a seller is willing to sell the currency (the ask).

FX transparency remains a challenge amongst businesses, as the costs associated with FX transactions are often hidden within the spread. These hidden costs can be introduced through various methods:

• Mark-ups on the FX spread
• Hidden fees in FX transaction costs
• Opaque FX pricing
• Tailored-pricing spreads
• Slippage

 

Mark-ups on the FX spread

Liquidity providers often widen the bid/ask spread to increase their profits, but these mark-ups are rarely disclosed transparently. As a result, firms may end up paying more than necessary for an FX transaction without even realising it.

FX spread example:

A business needs to exchange €5 million into USD. Their counterparty offers an exchange rate of 1.1875, while the mid-market rate at the time is 1.1865, representing a spread of 10 pips (0.0010).

At their counterparty rate of 1.1875, the company receives $5,937,500. However, at the mid-market rate of 1.1865, they would have received $5,932,500. The difference of $5,000 (€4,214 at the exchange rate) represents the hidden cost of the transaction.

This is not an explicit cost as the firm won’t receive an invoice for this amount; rather, it’s a hidden implicit cost.

 

Hidden fees in FX transaction costs

Beyond FX mark-ups embedded in the spread, FX counterparties may impose administrative, processing, or other hidden fees during the transaction process.  These costs are frequently buried in the fine print, making it difficult for businesses to fully understand the true cost of their trade execution.

 

Opaque FX pricing

In over-the-counter (OTC) trading, FX spreads can vary widely due to the absence of a central exchange overseeing transactions. Instead, these markets operate through a decentralised network of counterparties, allowing liquidity providers to independently set their own FX spreads. This variability creates challenges for firms, making it difficult to determine whether they are getting competitive rates or overpaying for FX trades, especially when working with a limited number of counterparties.

 

Tailored-pricing spreads

The most competitive FX rates are typically reserved for large institutions and corporations because their high transaction volumes grant them significant bargaining power, enabling them to secure better rates and reduce foreign exchange costs.

Businesses with lower trading volumes often receive less favourable rates due to the absence of high-volume transaction bargaining power. The elevated costs tied to their trading activities can lead to increased margins, which may significantly impact profitability.

 

Slippage

Slippage in the FX market happens when a trade is executed at a price different from the one initially quoted. This typically occurs in volatile markets, where prices fluctuate between placing and executing an order. Slippage can impact traders in two ways:

Negative slippage: Occurs when the market moves unfavourably, resulting in the trade being executed at a worse price than originally quoted (e.g. a buy order intended at 1.2000 is filled at 1.2005).

Positive slippage: Occurs when the market moves favourably, resulting in the trade being executed at a better price than originally quoted (e.g. a buy order intended at 1.2005 is filled at 1.2000).

Counterparties can configure their systems to pass only negative slippage to traders while retaining any positive slippage for themselves. For instance:

• If the market moves against the client the counterparty executes the trade at the less favourable price, resulting in negative slippage for the trader.
• If the market moves in the client’s favour, the counterparty may either re-quote the price or execute the trade at the originally requested price, keeping the improved rate as their profit.

 

How to achieve FX transparency

Transaction cost analysis (TCA)

Today, many firms lack access to wholesale FX rates from multiple providers. Relying on a single liquidity provider can limit visibility into the true costs of execution.

A foreign exchange transaction cost analysis enables businesses to uncover hidden transaction costs by comparing the executed prices of past trades against the mid-market rate (MID). This process measures total trade slippage, highlighting both explicit and implicit costs offering greater transparency in forex execution.

An FX TCA supports best execution by acting as an ongoing audit of a firm's practices, promoting good governance to key stakeholders. It also strengthens FX risk management by identifying trading inefficiencies and risks, enabling firms to refine strategies and mitigate risks proactively.

Ongoing, quarterly FX TCA from an independent provider can be integrated as a standard operational practice to ensure consistent execution and eliminate hidden transaction costs.

 

FX counterparty diversity

FX counterparty diversity is key to battling hidden FX costs. Relying on a limited number of providers can often lead to unfavourable rates and limited transparency. By diversifying FX counterparties, businesses can compare pricing, increase competition, and reduce the risk of inflated margins or hidden fees.

When selecting counterparties, businesses must undertake comprehensive due diligence to ensure reliable and efficient partnerships. A critical aspect of this process involves identifying potential hidden costs and slippage in a counterparties execution policies.

MillTechFX tackles these challenges with our multi-bank FX platform, giving businesses access to up to 15 tier-one counterparty banks. This enables real-time forex rate comparisons, ensuring best execution and full transparency through independent quarterly TCA reports. By streamlining access to top-tier liquidity providers, we help corporates and asset managers save time, cut costs, and make smarter decisions for their FX management.

Take the next step towards getting more transparency on your hidden FX execution costs, request a free, no obligation FX TCA here.

 

 

This blog, including the information provided herein, is provided for information purposes only and does not constitute an invitation or offer to subscribe to or purchase any of the products or services mentioned.

The information contained is intended for Professional Clients (or elective professional clients only). MillTechFX does not target retail clients as the products offered by MillTechFX are not suitable for or made available to retail clients.

The information herein is not intended to provide, and should not be relied upon for, accounting, legal or tax advice or investment recommendations. You should consult your investment, tax, legal accounting or other advisors.