The Over-The-Counter foreign exchange markets will be subject to a changing and increasing regulatory landscape and bank credit line contractions keeping future trading volume capped.

Historically, the FX market has been lightly regulated compared with other asset classes, and most trading started and ended on the desks of a handful of the biggest global banks. In the 2015 Euromoney FX survey, Citi retained the top FX bank with 16.1% market share, besting Deutsche Bank which had a 14.5% market share. Electronic trading of FX now constitutes over half of all trades, or 53.2% of the market.

The forex market has grown by leaps and bounds in the last several years, reaching a total notion value of OTC $5.4 trillion daily, according to the latest Bank of International Settlements (BIS) report. In looking ahead, the BIS said volume going forward would only climb to $5.5 trillion daily. This compares to a high of nearly $6.0 trillion in 2014.

But now, according to a new report from market consultancy Aite Group, this growth story is about to change as the firm reported that overall over-the-counter (OTC) FX average daily volume (ADV) during April 2016 reached US$5.5 trillion, 1% below its full-year 2013 estimate. In looking back, Aite added that compared to 2014 levels, the OTC FX industry fell between 9% and 11% during 2015 due in large part to regulations that forced banks to restructure how they do business, including cutting prime broker credit, passing higher costs on to the buy-side, and resetting business terms in regulation-compliant ways.

“The ongoing regulation of OTC FX activities, whether via new codes of conduct or specific pieces of legislation, shouldn’t be underestimated or assumed to have only a marginal or small buy-side impact,” Aite wrote. And there is more that could affect trading.

Changing technology demands brought on by new regulations, Aite added, have newly challenged buy-side chief operation officers and chief compliance officers to look into new compliance technology and cut into trading budgets.

“New regulations and codes of conduct have increased the sell-side’s costs of dealing in all FX products, particularly the more complex transactions, while at the same time reducing the profitability of offering a large menu of capital markets services,” Aite noted. “Pressure on banks to reduce high derivatives exposure, requirements to centrally clear transactions, and higher margin requirements for the buy-side may together be putting downward pressure on demand for FX swaps and other nonspot FX products.”

But it’s not just the buy-side that is retreating from the FX markets, the sell-side too, which has already curtailed trading in other asset classes, such as equities. In equities, the sell side, in particular the bulge firms which constitute the lion’s share of trading, have reduced the number of clients they are servicing over the last several years. Now the same reduction is occurring in forex, Aite said.

“Banks are strategically retreating from FX products or FX trading relationships that no longer make economic sense. A case in point is banks curtailing or exiting FX PB services,” they wrote. ”Banks are also reasserting their pivotal market-making role by sharply reducing their FX liquidity offered during periods of market stress and are insisting on their need for last-look quotes to protect their interests, despite substantial public opposition against the practice.”

Lastly, Aite reported that 2016 FX swaps volume, up until now the largest OTC FX growth engine, will likely “sputter” and drop to $2.4 trillion compared to 2013’s $2.73 trillion and $2.5 trillion last year.

“We see a deeper transformation leading to this product’s choppy performance. Over the same period, the spot FX market experienced single-digit growth while other FX products actually grew by 17%,” they noted. ”The industry is in search of a more comfortable and predictable “new normal,” but it is not there yet” and volumes could remain stagnant in the next few years.

The Aite report is based on interviews with banks, FX brokers, various client segments, FX industry vendors, and e-FX execution venues since late 2015. Aite added that a large number of the data was collected during the recent TradeTech FX USA conference, held in late February.

The full report can be accessed here

More on FX:

• First Half of FX Code of Conduct Arrives
• Thomson Reuters Launches New FX Benchmark for Cross-Border Transactions
• Wholesale Markets Brokers’ Association Welcomes BIS Draft of the Global Code of Conduct.