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Trading News

New Players Make Forex More Competitive

The analysts at Citi and I are not the only ones thinking about the future of the retail foreign exchange business. Adam over at the Forex Blog had a post out over the weekend on the same subject. The potential expansion of a stock broker like Charles Schwab (following on the earlier move of TD Ameritrade into the space) could add another well capitized (and highly respected) player to the space, increasing competition for trader dollars. I will contest Adam’s suggestion that spreads in forex are “healthy” (see The Cost of Trading), but not his conclusion that more competition is likely to make trading more commoditized and transparent.

The interesting thing to watch is how the SEC vs. CTFC regulatory difference might come into play. Schwab and TD Ameritrade are securities brokers who fall under FINRA and the SEC, as opposed to the straight out retail forex brokers who fall under the oversight of the NFA and CFTC.

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Trading News

New CFTC Rules for Retail Forex Trading

Can I say I told you so? 🙂

The CFTC has finally come through with its new rules on retail foreign exchange, which come into effect on October 18th, 2010 (Q&A about the new rules can be found here). Despite fears to the contrary, the CFTC will not be cutting permissible leverage in retail forex trading down to 10:1. The people have been heard! There was so much contrary opinion against that move from traders and brokers that the regulators were forced to rethink the plan.

That said, the CFTC will, however, be restricting leverage to no more than 50:1 (2% margin requirement) on the major currencies (5% on regional currencies). This is basically taking the NFA restriction put in place last year for 100:1 max leverage and tightening it up. I’m sure that’s going to have some folks up in arms, but the reality is that most of your better traders never go much beyond 10:1 actual leverage. Further, one of the biggest forex brokers out there, Oanda, has never permitted more than 50:1 leverage.

I know this won’t have any impact on my trading, nor encourage me to move my account outside the US. What about you?

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Trading News

Take a Breath Folks. Forex Leverage Won’t Be Cut to 10:1

The other day I posted Increasing Regulation of Retail Forex Trading discussing the continued efforts of the CFTC and NFA in terms of regulating retail foreign exchange trading in the US. I came across a discussion on Trade2Win today which made me want come back to the subject, though.

The thread starter asked the question “10:1 could this be the new leverage in the US ?”. This came from a single line in the CFTC’s communique: CFTC Seeks Public Comment on Proposed Regulations Regarding Retail FOREX Transactions, dated January 13, 2009. The line in question comes in the second to last paragraph and says “Leverage in retail forex customer accounts would be subject to a 10-to-1 limitation.” Folks are jumping all over that as meaning the CFTC is going to cut trading leverage to a maximum of 10:1. I disagree.

Firstly, the one line is in a write-up which otherwise focused entirely on requirements of brokers in terms of capitalization, compliance, transparency, and communication. As such, I think it relates to the leverage brokers will be permitted vis-a-vis the balance of customer accounts, not what the customers can actually trade.

Secondly, the NFA only a short while back set a new 100:1 cap on the leverage brokers can offer retail traders (see New NFA Retail Forex Leverage Restrictions). Why in the world would they be coming through with another change at this point? They haven’t had much time to gauge the impact of that adjustment.

Thirdly, this is only a “public comment” thing. Even if the CFTC was contemplating cutting trader leverage to 10:1, there is absolutely no doubt in my mind that there would be way too much negative reaction to that kind of move for them to actually go through with it.

So, in my opinion, all those who are calling for the end of forex trading in the US are seriously over-reacting.

By the way, if you’re interested in see how the various US brokers compare in terms of size, here is the CFTC’s latest financial report including all Forex and Futures brokers. BabyPips member Clint has posted a listing of just the forex brokers, by rank, here.

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Trading News

Increasing Regulation of Retail Forex Trading

There is an article on the Financial Times website on the subject of increased regulation in the US of retail forex trading. For those who have been following along with developments over the last year (No More “Hedging” for Forex Traders, New NFA Rule Impacts More Than Just Forex Hedging, New NFA Retail Forex Leverage Restrictions) there won’t be much new information.

Here’s an interesting point of reference from the article, though.

The rules bring fresh oversight to a small but expanding portion of the $3,700bn-a-day global foreign exchange market, ….

Retail traders make up more than $125bn of that volume, up from $10bn in 2001, it estimates.

There are always a lot of questions about  the influence of pricing and trading within the retail forex trading complex as it relates to the forex market as a whole. These figures – showing that retail trade accounts for only about 3% of daily volume – make it very clear that retail is effectively a non-factor in the movement and determination of forex prices.

The final thrust of the article is that movement is happening to further tighten things up.

The latest proposed rules will strengthen the CFTC’s authority over companies selling currency trading to retail traders, forcing them to register with regulators and disclose more to potential customers, according to a government official familiar with the proposal.

The CFTC would also get clear jurisdiction over most spot currency trades.

“All salespeople and everybody that deals with retail forex have to be registered with the CFTC,” said Larry Dyekman of the NFA.

“That’s going to be a big change to the forex industry.”

Since folks in the rest of the securities markets (stocks, futures, etc.) have to be registered to deal with individual customers, this is basically just bringing retail forex in-line with everything else.

Update: My own employer (Reuters) posted a similar story.

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Trading News

More New Margin Requirements

I posted before about the NFA’s new rules on maximum forex trading leverage permissible for traders with US brokerage accounts (see New NFA Retail Forex Leverage Restrictions). Those went into effect on Monday. Tuesday new leverage rules kicked in for the trading in leveraged ETFs. Darwin’s Finance has a good write-up on the subject.

I find it somewhat interesting that margins on short ETFs is higher than on long ones. Granted, equities do tend to move more rapidly to the downside, but a double long ETF is going to move just as quickly as a double short when the market is falling (considering day time frame moves here, which is what the leveraged ETFs are intended to track). It’s basic math, so I see no real justification for the higher margin between the two.

The other interesting part of this is that even with the new margin requirements you can still trade at effectively 4:1 leverage. That’s a fair amount of leverage when you consider how much volatility there can be in the markets underlying these ETFs. Many experienced forex traders don’t go much beyond 10:1 leverage when they trade, and that’s in a lower volatility market (see Looking at Volatility Across Markets)

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Trading News

New NFA Forex Leverage Limits In Effect Today

I wrote a while back (New NFA Retail Forex Leverage Restrictions) about new rules coming into effect from the NFA which limit the amount of leverage US member forex brokers are permitted to allow their customers. Those new rules start today. If you have a US brokerage account you have probably already received notice about the rules if your broker previous offered more than 100:1 leverage, which is the new cap.

Also, the margin must be calculated from the notional value of the position. I believe this has forced a change among some brokers who previously set their margin based on the size of a position rather than its value. For example, they would require $1000 margin on a 100,000 EUR/USD trade. Under the new rule they would have to require 1% of the value of the position be posted as margin. If EUR/USD is trading at 1.50, then a standard lot position would be worth $150,00, meaning a $1500 margin requirement.

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Trading News

New NFA Retail Forex Leverage Restrictions

The National Futures Association (NFA) is not well liked by many retail forex traders because of restrictions they put in place earlier this year.  You may recall my posts NFA rule which effectively bans the practice of “hedging”, NFA Justifications and Reasoning for Killing Forex Hedging, and New NFA Rule Impacts More Than Just Forex Hedging and all the discussions that went on around them (literally hundreds of comments). They forced some changes to the way brokers handle positions and transactions, and the way some traders did their thing (or forced them to switch their account to non-US regulatory coverage).

Well, in case you haven’t heard yet, the NFA is back at it.

Effective November 30 they will be requiring US-based retail forex brokers to cap available leverage at 100:1. To quote the notice to members:

“…beginning on November 30, 2009, all FDMs must collect a customer security deposit of at least 1% for the currencies listed in Section 12 and at least 4% for all other currencies.”

The Section 12 currencies are the majors and some of the big European regional ones: British pound (GBP), the Swiss franc (CHF), the Canadian dollar (CAD), the Japanese yen (JPY), the Euro (EUR), the Australian dollar (AUD), the New Zealand dollar (NZD), the Swedish krona (SEK), the Norwegian krone (NOK), and the Danish krone (DKK). The US dollar (USD) is not specifically listed, but obviously it’s included.

As I understand it, any pair which includes at least one of the above currencies is covered by the 1% margin rule (100:1 leverage). In other words, the Mexican peso (MXN) isn’t on the list, but USD/MXN would fall under the 1% margin rule because the USD is part of the pair. All other currency pairs fall under the 4% (25:1) rule.

Value vs. Size
Note that according to the proposed rule change that was sent by the NFA to the CFTC for approval (the latter regulates the former) the margin must be calculated from the notional value of the position. I believe this is going to force a change among some brokers who have set their margin based on the size of a position rather than its value. For example, they would require $1000 margin on a 100,000 EUR/USD trade. Under the new rule they would have to require 1% of the value of the position. If EUR/USD is trading at 1.50, then a standard lot position would be worth $150,00, meaning a $1500 margin requirement.

It’s Actually More Leverage
This rule is actually an expansion of permissible leverage over what the NFA had proposed back in 2003. At that point they wanted 2% for the Section 12 currencies. That would have only permitted 50:1 leverage, which is closer to what the futures market margin rates are at (though still well short). The members put up a fuss at that point, however, and got them to put a hold on implementation of the rule.

Higher Leverage Means More NFA Action Against Brokers
The rules change proposal noted above also indicates that brokers permitting higher than 100:1 leverage were more apt to be the subject of NFA and/or CFTC enforcement action. At the same time, the two NFA member brokers capping leverage at 50:1 were never the subject of such action. Oanda is one of those brokers. I don’t know the other.

The NFA has indicated that it is concerned about an increased account burn-up rate at higher leverage points. While leverage is only a tool, it’s clearly that it is a dangerous tool in the hands of many new traders, even more so when you consider that those brokers offering the higher leverage seem more apt to engage in shenanigans.

Actually, the NFA proposal letter notes that one broker who offers 700:1 leverage (yikes!) actually claimed that it allows customers to employ tighter stops. I know this may sound like a contradiction, but I’ve long held that tight stops are a trap (see Close stops do not lower your risk). This 700:1 broker should be shut down if it honestly believes that higher leverage is required for tight stops. What are they smoking over there? I’d love to hear the logic. It would no doubt be quite humorous.

My Reaction
I’m perfectly fine with this rule. In fact, it really has no impact on my own trading. I have long traded through Oanda with their 50:1 maximum permissible leverage and never found myself constrained. A great many experienced forex traders will likely have the same response as they tend not to trade at much more than 10:1 or 20:1 actual leverage.

Also, I think the 100:1 leverage keeps the spot forex market in a good competitive position vis-a-vis the currency futures market.