At $4 Trillion A Day, And At 50x Leverage, FX Trading Volume (and Risk) Dwarfs That Of Equities And Treasuries
If one looks around and wonders where the speculators have gone (the carbon-based variety, not the feedback-loop creating, binary terrorists) look no further than the FX market, which according to the latest BIS data, has hit $4 trillion in daily notional volume (20% higher than the $3.3 trillion in 2007), nearly quadruple the combined U.S. stock and Treasury trading, which in April averaged about $134 billion a
day (down from a daily average of $148 billion in 2007) and $456 billion (down from an average
of $570 billion for all of 2007), respectively. This amounts to nearly one quadrillion in total dollar transaction volume per year. There are two main reasons for the exodus from other products, and for ongoing cloning of the "Japanese housewife" phenomenon: the ongoing migration away from the bizarre daily moves in stocks, which are now traded almost exclusively by robots, or other frontrunning machines (see Schwab daily 52 week low), and the ridiculous leverage allowed in FX margin accounts. Just today, the CFTC announced that after the proposed 10-to-1 retail FX transaction leverage was shot down by "dealers, lawmakers in Congress and others who
feared it could push investors into overseas markets with less
protection", instead Gary Gensler's goons decided to keep all the habitual gamblers in house, and give them virtually unlimited leverage, or, as the case may be: 50 times. Recall that Bear and Lehman just needed 30x leverage to blow themselves up, and that happened with the FRBNY and the SEC both supervising. So let's see: $4 trillion...50x retail leverage...no regulation...this will surely end well.
Below is a chart from the WSJ, which in turn recreated a BIS chart on the same topic, highlighting the explosion in FX gambling.
The $4 trillion mark represents a 20% gain from $3.3 trillion in 2007, the last time the global foreign-exchange markets were surveyed, according to the Bank for International Settlements. While the survey found continued growth in currency trading, it did reflect a slowdown in the market's growth from the prior survey, when trading volumes had soared 69% from $1.9 trillion in 2004.
The BIS survey, taken every three years in April, this time provides a snapshot of the currency market during the height of the European debt crisis and at a time when lightning-fast computer models have juiced trading volumes.
The survey showed how investors are seeking out faster-growing economies and big commodity producers. Trading volume between the U.S. dollar and the Australian dollar rose 35% from 2007, and volume with the Canadian dollar was up 44%. Trading also jumped in the Indian rupee, Chinese yuan and Brazilian real. In contrast, trading in the U.S. dollar against the British pound, a mainstay of the currency markets, fell 6%. Trading in the euro against the dollar rose 23%.
The debt crisis likely boosted trading volumes in the euro in the latest survey. But the continued rise in trading reflects the increased globalization of investing. With the big developed economies of the U.S., Europe and Japan struggling, investors are turning toward other markets for returns and generating more foreign-exchange trading in the process.
Lately a critical market question has been one of a "chicken or egg" variety, long highlighted by Zero Hedge: does the market push the carry trade, or does the carry trade (and lately this means almost exclusively the AUDJPY or the EURJPY) exert an effect on stocks. Now that we know that the notional ratio is roughly 25:1, the answer is clear. Yet with so much more leverage allowed in FX (especially for institutions, which can lever their trades practically infinitely), it would not be at all surprising if a truly de minimis amount of actual equity capital, levered up thousands and thousands of times, in the form of carry pairs, was the true mutated heart of this mangled monster of a market.
As for what specific pairs dominate FX, the WSJ explains:
Overall, the U.S. dollar remained the dominant global currency. It
accounted for 84.9% of transactions, down from 85.6% in 2007. The euro's
share rose to 39.1% from 37%. The share count data add up to 200%, to
reflect the fact that there are two currencies in each transaction.
Another quick look at the carry trade:
The shift in currency trading to these investors is evident in the big move in the yen recently. Historically, currencies in countries with high growth rates and interest rates tended to be strong, driven by trade flows and the attraction of the high rates for investors. Japan has neither of these factors, yet the yen is at 15-year highs, largely because investors see it as a safe haven from global financial turmoil.
And just in case you thought robots would miss the opportunity to trade in trillions daily, and create their own little feedback loop gargoyles, with gargantuan leverage to boot, think again.
Some of the rise in nondealer trading likely reflects the growing prominence in recent years of computer-driven trading models broadly known as algorithms. Similar to their trading in stocks, these models make huge numbers of very short-term bets, adding considerably to the volume, but generally not having an influence on the overall direction of the currency rates.
Once again, this is a recipe for disaster, with far too much equity at risk, and a ridiculous amount of leverage on top. How this will end is all too clear, but in the meantime, retail has to suffer a few years worth of losses, with Wall Street pocketing the gains, just to make sure that when the plug on the ponzi is finally pulled, the getaway jet to the nonextradition country is completely packed with more than enough gold and other hard assets.