Foreign Exchange Trading
Enter the little guy
Apr 12th 2001
From The Economist print edition
Could online foreign-exchange trading have saved Turkey’s citizens from the brunt of the country’s financial collapse late last year? Richard Olsen thinks so. His company, the Olsen Group, last month launched a trading platform aimed at small investors in need of currency hedges. Daily volume has already reached millions of dollars, he says, with trades being placed from Alaska to Yemen. The new exchange’s honeymoon might not last long, however.
The Olsen Group’s platform, called fxTrade, is not the first attempt to bypass the banks that dominate the currency markets. Nevertheless, it offers investors some novel features. They can buy and sell all the most popular currencies in amounts as low as $1, with no minimum deposit and with leverage of up to 20-to-1 there for the asking. Traders can (for a fee) also use their accounts to pay for goods and services anywhere in the world, doing away with the need for accounts with the big banks. What is more, Mr. Olsen provides tighter spreads than the broader markets—as low as 0.02% of a currency’s value. He still makes money, he says, because his computers are so efficient.
That said, fxTrade probably would not have saved Turkey. You can only open an FXTrade account with dollars. Once you get rid of your lira, though, the battle is already won—with or without Mr. Olsen’s help. Starting a new exchange does not give a country’s population any prescience about market movements. Anyway, Mr. Olsen does not trade in lira yet.
FXTrade’s real usefulness lies elsewhere. Legions of investors badly need to hedge currency risks but cannot put up the capital needed to play in the big markets. These include small import/export businesses, people who work outside their home countries and companies that rely on foreign suppliers. With only an Internet connection, any of them can now start trading.
Given its narrow spreads, you might think that fxTrade would spark interest even among the heavyweight traders. That is unlikely. They care more about what Jim Turley, head of European foreign exchange at Deutsche Bank, calls the “hassle factor”. He doubts that the big banks will pay attention unless FXTrade’s software, which is meant to work with online businesses, can fit neatly into the banks’ own confirmation and settlement apparatus. Moreover, fxTrade’s computers, which can easily cope with 100 trades a second, might not be so effective at handling a much bigger chunk of the $1.5 trillion-a-day market.
For the moment, fxTrade’s small size means that it cannot be entirely autonomous. The amounts of a given currency that are bought and sold on its exchange each day do not always balance, so the Olsen Group must clear some of the transactions on the broader market. Without the right countermeasures, fxTrade’s small size would also leave it open to manipulation: unscrupulous investors could fix rates and then force the Olsen Group to clear transactions at a disadvantage. To prevent manipulation, fxTrade’s rates are pegged in part to the broader markets. A cursory glance this week revealed discrepancies ranging from 0.01% to 0.06% between fxTrade’s rates and global spot rates. That is not enough for speculators to stiff Mr. Olsen, but an exceptionally volatile day on the market could leave his correcting mechanisms struggling to catch up.
The one bugaboo that fxTrade has yet to conquer is tax liability. IG Index, a British bookmaker that offers bets on financial markets as well as on sporting events, claims to have solved that problem. The company makes its money from a different kind of spread—in this case, the amount that a given index or currency must rise or fall before a bet on its value is “in the money”. Punters can place bets as small as £1 ($1.43) for every hundredth of a yen gain by the dollar. IG Index claims to pay all betting duties, but the burden of tax is the same—customers just pay their share through wider spreads. Still, IG Index’s system has one true, if unadvertised, benefit: it’s a lot easier to explain to your mates down the pub.