I initially wrote this for the Currensee blog on October 18th. I’m cross posting it here because I think it will be of considerable interest.
This is the first week under the new CFTC rules restricting leverage for holders of US retail forex trading accounts to 50:1 for the major trading pairs and 20:1 for minor ones (see Asaf’s post and an earlier one of mine on the subject). Obviously, there are implications for certain traders because of the change (probably not the vast majority, though), but one of the more interesting aspects of it all is the reporting the brokers must now do regarding the performance of their brokerage customers. They now have to disclose to new account holders the % of customers who have made and lost money. Forex Magnates has gotten hold of these reports for most of the brokers servicing the US customer base and presented the information from them here.
The common mantra in retail forex trading is that 95% of all traders fail. Of course we don’t really know what ‘fail’ means or over what time frame this is meant to cover. The figures from the brokers are equally subject to some “Yeah, but” type questioning. According to the Q3 figures, about 25% of brokerage customers are profitable, if you don’t include Oanda.
The problem we have here is that we really don’t know what these numbers mean in terms of long-run trader profitability. The % profitable figure is very likely to demonstrate a survivor bias whereby traders who crash and burn will eventually fall out of the study, as the reporting only includes accounts where trades have actually been made. Obviously, if you’ve lost all your money or become so disheartened by poor performance that you stop trading all together, you’re not going to be counted.
Then we have the question of Oanda, which shows WAY better customer profitability than the others. Are they using a different calculation methodology? Does the fact that they pay interest on your margin balance influence the reporting? I ask because an account that does no trades but still has a balance will end the quarter profitable because of the interest earned. I don’t know if those daily interest payments are transactions which make an account “active” or not. I’d love to hear from someone at Oanda whether that’s the case. If not, then we have a very significant question as to what makes Oanda customers more profitable. Is it somehow a function of the 50:1 leverage they’ve always had? If so, it starts to make the CFTC decision look a lot better.
The demise of US retail forex trading
The other thing we can look at in these reports is the actual number of active customer accounts each broker has. Folks have been howling about the pending destruction of the US forex business every since the NFA came through with its FIFO and no-hedging rules last year. The broker reports don’t go back that far, so we can’t see what impact was had where folks shipping their accounts overseas might have had, but since many of those accounts are now coming back, and will thus be included in the broker Q4 numbers we may get some idea.
We can perhaps get an idea what the CFTC leverage restrictions may have done to US broker accounts, though. The initial proposal of a 10:1 leverage limit hit the markets at the start of this year, with the announcement of the final 50:1 cap coming in August. The table below outlines the impact.
Notice that in the first quarter of the year there was a 5% reduction in active broker accounts. Thereafter, though, the decline has only been 1% in each of the last two quarters. I’m reluctant to call that any kind of major problem, and it will be very interesting to see if the forced-repatriation of accounts from foreign lands that is happening will actually result in a positive impact on the numbers for this quarter, especially for those brokers who have had the biggest drop in US accounts.
Again, we see Oanda as a major outlier. Rather than being about flat to lower in terms of customer accounts, it has seen a 20% rise in the last year. Considering Oanda does not do any marketing and has only every allowed a maximum 50:1 leverage, these are quite interesting figures. It leaves one to wonder if that reflects the fact that Oanda has no fixed lots, and thus allows very low capitalization customers to take part in the market without having to trade with very high leverage ratios. That’s just speculation at this point, though. We may never really know.
The point is that we probably haven’t seen the end for the US forex business, despite the doomsayers. We’ll want to wait to see the Q4 2010 figures for a better reading on customer accounts, though, because of those who would have moved accounts offshore away from CFTC oversight and those brought back from broker foreign affiliates.