Tag Archives: foreign exchange

Understanding Forex Commission Structures

Unlike most other exchange-driven markets, forex has an enticing feature that brokers take full advantage of in their continual bid to lure in investors: no exchange fees, regulatory fees, data fees, or commissions. To many first-time traders, this gives it a major advantage over other markets, but accepting such a bargain doesn’t always mean that you get the best deal available.

Read on to discover how to choose the commission structure that will work best for you…

Three Forms of Commission

Forex brokers offer three different forms of commission to their traders: fixed spread, variable spread, and commission based on a percentage of the spread. These options each have their advantages and disadvantages, which means that there’s no simple answer when it comes to choosing which of them will work best for you.

However, before you can make an informed decision, you need to understand what spread is. Spread is the difference between the price the market maker will pay you for buying the currency (the bid price) and the price at which they’re prepared to sell it to you (the ask price). It is calculated in pips. If your broker quotes you EURUSD – 1.5550 – 1.5552, the spread would be two pips, for example.

To work out how this translates into real money, it can be useful to use the trading calculators that some brokers provide.

Fixed Spreads

If you choose a broker offering a fixed spread, then the difference between the bid and ask price, and thus the spread, in the above example would always be two pips. This would not be affected by market movement, either positively or negatively. At first glance, this can seem like the best choice, as it provides you with certainty. For some people, it will be, but for others, it is worth considering the other options available to you.

Variable Spreads

For those who are not averse to risk, variable spreads can prove a wiser choice. These spreads will change in accordance with market movements. On the one hand, this could mean that they rise to as much as five pips; on the other, it can see spreads drop to as little as 1.5 pips.

Commission

There are also brokers who will earn money through charging a small amount of commission. The benefit of this type of broker is that they often have a good relationship with a large market maker who can pass tight spreads onto you.
Each type of commission will have a different effect on your trading. Of course, part of this will be influenced by your individual broker, but that doesn’t mean that it isn’t worth considering their individual merits and pitfalls. Which one do you think would work best for you?

US Department of Justice Expands Probe Into Forex Deals – Major Banks Involved

We’ve seen numerous inquiries over the last couple of years by government departments looking into the world of forex trading, and this past weekend saw the United States Department of Justice open up its own probe to include two additional banks, and those are Barclays and UBS.

Forex is an increasingly popular investment option for investors of all levels these days, and some may argue that current rules and regulations are struggling to keep up, which is one of the reasons we so often see these investigations. It’s not that the investors or smaller brokers that deal with investors, such as ThinkForex, that are doing anything wrong; it’s almost always been major banks either misleading or miss-selling products.

That is exactly the same case this time round, as the Department of Justice has reason to believe that both Barclays and UBS have been selling a variety of structured products without making it clear how much they were making on each of the forex trades. In this case, these products were not small-market; there’s reason to believe some major Swiss hedge funds bought into the products, and they may well have been the ones to alert the authorities that something was amiss.

Knock-On Effects

To the day trader, these kinds of investigations probably don’t appear all that important, but there is of course an interesting question to be raised – who is your broker’s broker? Many of these major banks are enabling the smaller brokers that you might be used to dealing with day-to-day, and they’re not invulnerable to knock-on effects. At the beginning of the year, we say major brokers including Alpari UK and LQD Markets go bust because they lost their liquidity. The situation isn’t exactly the same, but it certainly is worth bearing in mind.

As already mentioned, this isn’t exactly a new investigation. Several other banks are already under scrutiny by the Department, all with the same charge of simply not disclosing the relevant information properly to their clients involved in the forex markets.
In the coming days, we’re likely to see more information coming out, but at this stage we’re mostly in the dark in regard to specifics. The Financial Times first broke the news story on Sunday, but since then there has been no comment made by the Department of Justice, or indeed Barclays or UBS.

U.S. Dollar & Currencies: Review and Outlook

Axel Merk & Kieran Osborne, CFA, Merk Funds

In 2012, policy makers around the world may be driven by the realization that the theme of 2011 was not a Euro-specific crisis, but simply another stage in a global financial crisis. Central bankers may ramp up their printing presses in an effort to limit “contagion” concerns. As such, the currency markets may be the purest way to take a view on the “mania” of policy makers. Market movements may continue to be largely driven by political rhetoric, rather than company earnings announcements or economic data. We don’t believe this trend will abate over the foreseeable future, especially given the likely leadership changes throughout several G-7 nations.

The primary motivating force behind politicians’ decision-making may be quite different, and more often than not, at odds with those of the broader market or sound economic fundamentals. Moreover, we have witnessed an unprecedented period of political posturing and increased polarization of views. This has only served to underpin the increased levels of market volatility experienced in 2011.

Central banks of the U.S., Japan and the U.K. have shown they are most willing to put in place expansionary policies. For one, there will be a more dovish composition of Federal Open Market Committee (FOMC) voting members in 2012. Many Western and Asian policy makers have already begun to ease. From a currency perspective, we believe these dynamics will serve to benefit the currencies of commodity producing nations, while underpinning Asian economic growth.

Local agitations…

The European sovereign debt crisis dominated headlines for much of 2011. Market practitioners traded on the back of any change in sentiment regarding the ability of policy makers to put in place comprehensive measures to address the issues. Initially focused on the nations of Greece, Ireland, Italy, Portugal and Spain, the crisis quickly grew to engulf many core European countries, even having an effect on stalwart Germany, which suffered a failed bond auction towards the end of the year. Nonetheless, sovereign spreads over corresponding German bunds were used as a bellwether for market-ascribed fiscal health of European countries; we saw many spreads widen markedly during 2011.

Any communication from Germany (Merkel) and France (Sarkozy) was closely watched. Colloquially known as “Merkozy,” the two leaders took it upon themselves to meet ahead of important EU summits to set the stage for subsequent discussions amongst Heads of State. Notwithstanding, differences in culture and communication only added to market uncertainty. On the one hand, the French approach appeared to set the bar high, providing optimistic assessments on the outcome of upcoming meetings. In contrast, the Germans tended to be the polar opposite, managing expectations to the downside. More broadly, the differences in cultures and motives across Europe were epitomized when, after EU leaders painstakingly came to agreement on measures to address sovereign debt risks in October, then-Greek Prime Minister Papandreou announced a surprise referendum to vote on whether the Greek populace backed implementing the austerity measures that were just agreed on. Many in Europe took this as a slap in the face. After all, amongst the agreed upon measures was a 50% “haircut” to be applied to Greek government bonds and an additional injection of €130 billion into Greece. Not surprisingly, Merkozy told Papandreou, in no uncertain terms, that if he was to go ahead with the referendum, then the Greek populace would have to be asked whether Greece should remain part of the EU and the euro, and by the way, Greece would not receive any aid until the referendum results were finalized, as there was no certainty that Greece would still be a part of the EU. Not surprisingly, Papandreou backed down from the proposed referendum. Ultimately, though, he probably got what he wanted: to resign and leave the debacle behind him, but not before giving the markets a heart attack in the process.

The above example is indicative of the varying motivations that influence different factions within the EU (not to mention Italy’s Berlusconi, or the U.K.’s recent decision to veto proposed EU-wide fiscal changes). Moreover, it is not a Europe-specific trait, but a global one: look at the debt ceiling debacle as a prime example of the shambolic state the U.S. political system finds itself in. Indeed, that event prompted S&P to subsequently downgrade the credit rating of the U.S., citing politicians’ inability to come to an agreement when it was most needed, as a leading cause. This severely affected market optimism and confidence, further weakening the market’s trust in politicians. Compounding matters, Moody’s moved the U.S. credit outlook from “stable” to “negative” on the back of the “Super Committee” failing to come up with anything regarding a sustainable long-term fiscal outlook. Political bickering is nothing new, but it appears we have entered a period of increased polarization. Importantly, this dynamic is unlikely to abate over the foreseeable future. Unfortunately, it is likely to result in ongoing market confusion and enhanced levels of volatility into 2012.

Ongoing political uncertainty is likely to continue to weigh on markets. With ongoing financial tensions in Europe evolving into contagion risks to global economic growth, we believe central banks around the world may begin another round of expansionary monetary policies in 2012. The process is already underway – policy makers in Asia, notably China, have already begun relaxing policies, while the central banks of Australia, Norway, Sweden and the ECB have all cut target rates. There will be a much more dovish composition of FOMC voting members in 2012 and the central banks of Japan and the U.K. have also shown they are most willing to put in place expansionary policies. We believe these trends will benefit the currencies of commodity producing nations, as well as the Asian region.

In Europe, we are likely to witness a protracted process towards greater integration, but we must stress that it is unlikely to happen in a timely fashion. We have long argued that the process will be drawn-out and likely to be ugly at times. That’s because policy makers have differing motivations – namely reelection and thus, pandering to their respective constituencies – that muddies the political debate. The market simply needs to come to grips with this reality. Importantly, we don’t believe it is in any country’s interest to leave the Eurozone, either weak or strong. Former Greek Prime Minister Papandreou’s quick decision to cancel the referendum as soon as Greece’s euro membership came into question is a prime example. On the other side of the coin, Germany’s economy would be nowhere near as strong as it is today if it weren’t a part of the euro; Germany is effectively operating with an artificially weak Deutschemark, which has propelled its export-driven economy, and policy makers realize this. That said, we do believe that sovereign nations may eventually default, Greece being the primary candidate, but if the European financial system is adequately protected, the Eurozone may ultimately emerge from this crisis stronger.

Germany in particular, finds itself in a challenging situation. The Eurozone needs a clear leader, a country to steer the bloc in the right direction and implement tough decisions and fiscal austerity across nations, for the good of the whole. Germany is the natural choice for such a role, but given its history in Europe, the Germans still appear reticent to take up this mantle. They are in a tough position, not wanting to be seen as imposing their will on the European populace, yet understanding some form of fiscal discipline is sorely needed. This only compounds the problems faced in Europe and is likely to exacerbate the length of time to come to agreement on comprehensive reform.

Our view is that European politicians must focus on saving the financial industry – European banks – instead of overtly focusing on the sovereigns themselves. Unfortunately, political dynamics and realities make this very difficult. To protect their respective financial industries, the fiscal position of sovereigns must be compromised; politicians have to make the choice to essentially sacrifice their country’s credit ratings for the good of the whole. This is politically unpalatable, but in our view, an eventuality should the Eurozone survive. Politicians need to embrace this reality; the problem is that it could be a very messy road getting to that point. Furthermore, politicians are not known for taking proactive decisions, for the obvious reason that should the decision prove unpopular or disastrous, they lose their job. In this context, it is the bond market that has been forcing policymaker’s hands. It is only when spreads widen to such a level that funding costs threaten long-term fiscal sustainability, that politicians jump to action. Said another way: market volatility and stress is implicitly required for politicians to implement any substantive reform.

Global ramifications…

This dynamic has been seen in the Eurozone, but is lacking in the U.S. The bond markets haven’t forced Washington to implement any stringent austerity measures to date. It is likely that Europe continues to muddle through, putting in place piecemeal fixes, as markets force politicians into action. What is sorely needed is a defined process that clarifies how rescue funds are to be deployed, which may help mitigate the patchwork approach to addressing issues anytime a crisis flares up. Nonetheless, austerity measures have been put in place in Europe, and on this front; Europe is ahead of the curve relative to the U.S.

What is important to realize is that this is not a Europe-specific problem; it is a truly global one. We believe a key reason why central banks decided upon their coordinated action to provide dollar swap facilities (primarily aimed at thawing European dollar funding) was to alleviate global contagion fears. Indeed, after the announcement, Asian currencies exhibited some of the greatest strength. In our opinion, there is a very good reason for this. Asian countries may have the most at risk should the European banks decide to pare down their dollar exposures.

The coordinated action was aimed at putting a cap on the cost to access dollar funding via the swap market for European banks. These costs were approaching untenable levels. The Fed provided the ECB with cheaper access to dollar funding so that the ECB could, in turn, provide such funding to the European financial industry. The ECB also relaxed collateral requirements, making it cheaper to access such funding. European banks were demanding dollar liabilities (through the swap market, swapping euro payments for dollar payments). Why? To manage asset and liability risks. A bank aims to approximately match asset-liability risks, such as duration and currency exposures, such that market movements have little effect on the equity component of their capital structure. In this circumstance, European banks were demanding dollar liabilities to match dollar-denominated assets. The largest assets for a bank are typically loans; thus as the costs to access dollar liabilities increased, so too did the risk that European banks would simply pare down dollar-denominated loans.

So why did Asian economies benefit from the dollar swap announcement? In our view, it is because Asian businesses have accessed dollar denominated loans from European banks; the dollar-denominated assets sitting on European banks books are loans made to emerging market Asian economies, amongst others. Asian businesses’ reliance on European funding may have been magnified with restrictive policies put in place in the region. For instance, China had increased the reserve requirements for domestic banks and in some cases restricted lending altogether. Therefore, Asian economic growth may be at risk should European banks decide to pare down their dollar-denominated assets.

Faced with rising costs to access dollar liabilities, a bank has options: stomach and/or pass on the increased costs, raise more capital, or pare down dollar-denominated assets (de-leverage). With the coordinated announcement, the intent was to limit costs; concurrently, however, policies are incentivizing de-leveraging.

The inherent design of bank regulation carries much of the blame. National regulators typically consider their own government debt risk-free. In the U.S., Treasuries are risk-free by regulation. Similarly, European banks are incentivized to carry much of their capital in their respective sovereign debt, as those securities comply with capitalization rules. This has caused significant stress in the inter-bank lending market, where those banks perceived to have large exposures to risky sovereigns (e.g. Greece, Italy) are shunned. In Europe, where each Eurozone government regulates its own banking system, it’s urgently necessarily to centralize bank regulation, so that each member country’s bank is not ex-ante over-exposed to their own government paper. Naturally, the respective governments are opposed to such moves, as it may increase the cost of government funding, should banks have to evaluate the creditworthiness of their own governments.

Rather, banks appear to favor following a concerted effort to shrink outstanding loans to meet capital requirements. Indeed, PriceWaterhouseCoopers recently noted that European banks are expected to sell unprecedented levels of loan portfolios over the foreseeable future. Those same loans underpin ongoing business investment and expansion. Moreover, much of the dollar-denominated loans have been made to emerging economies in Asia and Eastern Europe; given that Asia has been the engine of global growth, there is a significant risk to the outlook for the global economy. This is why it is a truly global problem.

What the world needs is a change of oil, to keep the motor running smoothly; indeed, Chinese policy makers recently reversed the aforementioned restrictive policies, relaxing required reserve ratios for banks and even temporarily weakening the currency (albeit moderately). Chinese issuance of dim sum bonds in Hong Kong has exploded in recent times, and may be an additional source of funding that will take an evermore-important role in substituting European bank financing, should European banks continue to pare-down assets. Indeed, the three biggest underwriters of dim sum bonds – HSBC, Standard Chartered, and Deutsche Bank anticipate that issuance will double in 2012. Other Asian policy makers have followed step, implementing easier policies and in many cases, intervening to weaken their respective currencies. We believe this is the start of another period of easier monetary policy globally.

With ongoing European bank deleveraging acting as a headwind to global growth, central banks are likely to favor a more expansionary stance in 2012. We have already witnessed the central banks of Australia, Norway, Sweden and the ECB cut target rates. The ECB in particular has also offered two three-year long-term refinancing operations (LTROs), the first of which garnered demand from 523 banks for a total of €489.2 billion (approximately €193 billion in additional lending). We believe it is only time before the Fed, Bank of Japan and Bank of England get back on the horse and restart their printing presses. In the U.S., the composition of voting members of the FOMC is set to become much more dovish in 2012. The Bank of England has shown the willingness to expand the balance sheet even with inflation running around 5%, and the Bank of Japan has applied expansionary policies to the purchase of a broad range of asset classes, including listed REITs, ETFs and corporate debt. Should we enter another period of easy monetary policy, we believe the beneficiaries will be the economies of commodity-producing nations, and in turn result in strength of their respective currencies.

Asia matures…

In 2012, we will also witness one of the more significant leadership changes of recent years – we’re not talking about the U.S. Presidential election in November, but the transition of power in China. The Communist Party is set to appoint seven new members to the currently nine-member Politburo Standing Committee – China’s topmost leadership body. Xi Jinping and Li Keqiang are set to become the President and Premier of State, respectively, replacing Hu Jintao and Wen Jiabao. Given that China maintains centralized government control over much of the country, even a marginal change in leadership composition may have deep and far reaching implications for China and investors globally. We believe that current and expected initiatives, in concert with economic realities and political dynamics, are likely to lead to the adoption of more flexible market dynamics and ongoing gradual strengthening of the Chinese currency through 2012.

We consider China will increasingly focus on growing the domestic economy and middle class, while relying less on the export sector as a driver of economic growth. Moreover, Chinese politicians are likely to allow a gradual appreciation of the Chinese Renminbi, as a natural valve in addressing inflationary pressures. For an in-depth analysis of the implications of China’s leadership transition, please read our White Paper on the topic.

In the U.S., it is unlikely that long-term fiscal reform will be implemented ahead of the November election. That said, the debt-ceiling debacle and inability of the Super Committee to come to agreement has only frayed the confidence in Washington. Ultimately, we believe these dynamics serve to erode the safe haven status the U.S. dollar has held for so long, and combined with the Fed reopening the monetary floodgates, may underpin ongoing weakness in the U.S. dollar. We continue to see asymmetric risks to the outlook for U.S. Government paper. Should the market aggressively price-in the unsustainable fiscal situation, we may witness a substantial increase in yields. Such an event may precipitate government action similar to that seen in Europe. Unfortunately, the market is simply not applying the pressure on Washington, seemingly giving U.S. policy makers a pass. As such, there is little incentive to implement fiscal reform in the U.S. and thus the long-term situation is likely to deteriorate over the near term. On a relative basis, those countries that are putting measures in place to get their houses in order may appear more attractive investment propositions.

With so many dynamics set to unfold throughout 2012, we are excited by the potential investment opportunities, Specifically, we believe strategic value may be found outside of the U.S. dollar, in the Asian region and commodity producing nations.

Axel Merk

Manager of the Merk Hard, Asian and Absolute Currency Funds, www.merkfunds.com

Forex Should Not be Foreign to you

It’s the biggest market in the world and is traded 24 hours a day,
6 days a week, and therefore one that is impossible to ignore. I’m
speaking, of course, about the forex market.

The question is, is this the tail that’s wagging the dog? Meaning,
is the forex market, mainly the euro, dictating the trend in American
and European equity markets.

The answer is yes, for the moment it is. Now, if you’re not familiar
with the forex markets and the euro, you should look at the ETF FXE,
the spot euro, and also the euro futures market at the Chicago Mercantile
Exchange (CME), as they are all tradable.

In today’s short video we show you exactly how we think this currency will
play out in the future.

As always, our videos are free to watch and there is no need for registration.
Please comment on your thoughts on this market.

http://www.ino.com/info/572/CD3336/&dp=0&l=0&campaignid=3

Thank you,

Adam Hewison
President, INO com
Co-Founder of MarketClub