Foreign Currency Trading or an RX for Retail FX

Posted by Jeff Carter
on April 4th, 2011

Great article covering (skewering) foreign currency trading in the LA Times. American’s are discovering FX trading in greater numbers. In Europe, because countries were smaller and it was much more of a hassle, they have been attuned to currency fluctuation and what it means to their pocketbooks for a longer period of time.

Because so many people worldwide are interested in it, FX trading has become a virtual growth area for online fraud. From the article,

“The unusual structure of the market has made it a popular target for outright fraud. In a typical scam, clients are drawn in by advertisements promising big returns, but once the deposits are in, the company disappears.

CFTC Chairman Gary Gensler recently said it was the “largest area of retail fraud” his agency oversees.

Gensler’s agency has tried to rein in the problems with a set of rules for currency trading that went into effect last October. These required the brokers to be more transparent but did not change the fundamental setup of the market.

The CFTC has delegated most of its regulatory responsibilities to the National Futures Assn., an agency established by Congress that is funded by the brokers themselves.

NFA spokesman Larry Dyekman said his group is trying to do more active supervision, but he said the NFA had a difficult job. “It’s not as transparent” as other trading markets, he said.

Still, the NFA fined Gain $459,000 last October after issuing a complaint that detailed what it called abusive practices “that benefited Gain to the detriment of its customers.”

The NFA complaint alleged that Gain set its trading program to allow certain trades when they went in Gain’s favor, while not allowing the same trades when they went in the customer’s favor, costing clients $169,502 during one three-month stretch in 2009. The NFA also alleged that another Gain practice caused $425,000 in customer losses over three days.

Of course, it comes back to market structure again. Banks via prime brokerage have controlled the supply chain on FX since the early 1990′s. With Regulation NMS, they began to control the supply chain in the stock market, and they way they strangle the supply chain in the corporate and muni bond market. Trading against your customers is a path to profit for banks. A couple of enterprising firms, FXCM ($FXCM) GAIN ($GCAP) mimicked the structure and became so profitable they became publicly listed. ($NYX, $NDAQ) Until the government regulators say that trading against your customers isn’t a conflict of interest, then the practice will remain an industry standard.

GCAP Stock Chart by YCharts

Would these customers of GAIN and FXCM made money if they hadn’t been traded against? It’s doubtful, but at least they would have gotten a better entry and exit point. Odds are they would have just lost a bit less money. The article focuses a bit on customer turnover at each firm, which is over 70%. That doesn’t surprise me since around 90% of everyone that trades anything loses money anyway.

FXCM Stock Chart by YCharts

In the old days, they called operations like this “bucket shops”. They are banned when trading regulated futures. If you want to take a shot at trading currencies, by all means do your research first. Trade only at an established regulated futures exchange($CME, $ICE). CME Group offered a new product recently, micro-currencies, which are perfectly sized to the customers that are getting ripped off by GAIN and FXCM, and all the other bucket shops out there. If you are determined to try your hand at trading currencies, at least do it at a place that you know you are getting a fair shake at. You might be part of the small percentage of people that are successful. Do your research. Over my trading career, I have met quite a few people that were fabulous currency traders. There is a lot of money to be made, if you are good.

Full disclosure, I have traded for 23 years, and own shares in CME($6J_F,$6C_F, $6S_F, $6B_F, $6N_F, $6M_F, $6E_F) ($EURUSD, $USDJPY, $USDCHF, $GBPUSD, $AUDUSD, $NZDUSD, $USDCAD, $EURJPY, $GBPJPY, $AUDJPY, $EURGBP, $AUDNZD)

thanks for the link Faith Might!

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