Introduction

With the teaser/announcement of Qubic a lot of speculation about possible use cases began.

What we know:

Qubic brings smart contracts and oracles (you can read about it here) to the IOTA protocol.

The most obvious use case seems to be related to FX markets.

With this very short article I try to give a brief overview about the FX market and why it indeed seems to be a perfect match for IOTA.

FX Market

With a daily volume of over 5 trillion US dollar the FX market is by far the largest financial market today. Imagine every transaction every single human or machine in the world makes, as long as it is not related to only one currency, will find its way to this enormous pool. No matter if you buy something on eBay in another currency than your bank-account or if a multi-billion pension fund hedges against unwanted currency risk. To make a transaction you need a gateway to this pool, normally your bank. The bank will connect you — through their own trading book or through a network of other banks — to the global FX market.

Execution

Unlike in stock markets, there is not only one price at a certain point in time. This is due to the fact that the FX market is an OTC (over the counter) organized market, meaning price does not happen over an exchange where you see your counterparts bid and offer. There are of course exchanges, pools and multibank solutions but in fact every bank will offer you only the prices they see within their network. This price could be (and in most cases is) different from prices in other exchanges and different from what you get if you would ask another bank for a quote. Large institutions and other professional investors have complex systems in place to get what they call best execution — which practically with the current setup cannot exist because you can never be absolutely sure you got the best possible price without knowing every single price in the whole world.

Fraud

What you can already see is that this market is not only huge in size, it’s also highly non-transparent. There has been a lot of fraud and misconduct by market participants. The most famous case that came to attention was the so-called forex probe in 2013 where several banks for at least a decade manipulated exchange rates for their own financial gain.

Settlement

FX trades can be done on spot (most currencies T+2) settlement or on forward (T+ whatever date you wish as long as it is not a bank holiday). Settlement risk is one of the biggest risks for a bank. This is why the Continuous Linked Settlement (CLS) Bank was established. It settles payment versus payment for about 95% of all FX trades worldwide.

When an FX trade eligible for CLSSettlement is executed by a settlement member or their customers, we receive electronic payment instructions for both sides of the trade. Our system authenticates and matches the information, which provides legal confirmation and stores it until the agreed settlement date. (cls-group.com, How it Works)

Solution

Hopefully, while reading the above words about the FX market and its shortcomings today you already thought about IOTA and how it could be the missing piece of the puzzle because it can solve so many of the problems in FX markets today.

Price transparency

Access to a decentralized global liquidity pool

Real best execution

Instant settlement

No counterparty risk

Maybe you also thought about DLT in general which is totally fair. But whichever DLT will make it to become the settlement layer for global FX markets will first have to proof that it is scalable, fast and secure. From what I have seen IOTA can deliver exactly this — provided that in the future the Coordinator can be safely turned off. The only unknown so far was the availability of smart contracts and oracles. Qubic is going to change that.

With smart contracts market participants can access the FX market directly and without any middlemen. With oracles we get the direct access to information outside of the tangle. The complete process from entering a trade, executing at the best possible rate globally with full transparency on the tangle to instant settlement in both accounts (buyer and seller) could be done via smart contracts on the tangle. And all this without the risk of being cheated or left out.

If IOTA can keep promise in the next years this could become the next big thing. Since the machine to machine economy is also a global phenomenon there will be a lot of transactions involving multiple currencies. For IOTA the FX market could therefore be a very natural second pillar beside the backbone of the IoT.