This week I arrived back in London after a two-week teaching trip to the Philadelphia campus. I decided to pop into the London campus to catch up with the team based there. I joined them halfway through the Professional Forex Trader class, which was being taught buy a former student of mine and now a fantastic instructor in her own right, Louise Carr. I was asked to pop in for a few minutes or so to have a chat with the class and discuss how I use FX trading in my own market speculation and we got into a great session about why we all need to take an active understanding or how the currency markets really work.
This got me thinking on my way home about just how huge the FX market really is. As many of you may already know, the currency markets account for around $4 Trillion in market liquidity, which easily dwarfs the US Equity Markets $25 Billion market and that’s certainly not small by any means! This is an arena which literally has some impact on us all whether you are a trader speculating for financial gain, a traveler needing exchange currency for a trip or vacation, a large worldwide corporation dealing in multiple currencies across the globe, or even if you don’t actually trade the markets in any way, shape or form, you are still affected in some way as currencies both strengthen and weaken thus greatly impacting the value of goods and services in our day to day lives.
I thought it would be fun to take look in a little more detail at just how a slightly deeper understanding of the FX markets can make a massive difference in lives from the retail level all the way up to the corporate level. Let’s take a look at how the average holiday maker is affected and pretty much manipulated by a lack of understanding when it comes to going on a trip abroad. Check out the screenshot below:
I pulled up this website to get a quote for buying US Dollars in exchange for my British Pounds, using the regular channels of the typical currency exchange dealer. As you can see from the example, according to this dealer I could get $1.5032 for £1.00. However, is this quote the true representation of the actual spot market GBPUSD rate at the time? The answer is absolutely not. When I checked I saw the actual spot rate for the GBPUSD was 1.5570, around 550 pips in difference. So the next question we need to ask ourselves is why would anyone in their right mind want to buy US Dollars 550 pips more expensive than they are, unless they didn’t actually know about how the FX markets really worked? Most FX traders in the active markets today hate paying more than a 3-4 pip spread on the GBPUSD, yet when it comes to exchanging currency for vacations and trips, people are more than happy to accept it, mainly because they are actually unaware of the real prices, where to find them and how to get around them.
It is almost shocking to see the above company also promoting the fact that they charge 0% commission on the exchanges and that they do a free home delivery service on all orders over £500 – no wonder they are if they are taking such a huge profit from another angle! Yet, are we to blame these currency exchanges if people are actually willing to use them? I say not at all. In fact I would stress to aspiring traders out there to emulate their business methodology.
Let’s remember after all that if you are in the business of buying and selling anything, you do need inventory to carry out your transactions in the first place. Where do you think these companies buy and sell for their own inventories? It’s hard to say for sure but if they were smart they would keep an eye on the markets if they wanted to really amp up those profits. Take a look below:
In the above chart of the US Dollar Index, we can clearly see major areas of Supply and Demand where Institutions were selling the US Dollar around 84.00 and buying it around 78.50. Now think about this: If you were in the business of providing retail currency exchange services which involved you buying and selling Dollars, sure you could make a decent return on the spreads (which we know they do) by just facilitating the trades through a spot dealer and then charging the client a large mark-up on the spread. However what if you were prepared to actually buy and sell your own inventory for currency as well? Does it not make sense to buy as many dollars as you can at an area like say, the above demand zone when dollars are cheap? Then you could sell some of those dollars back at price levels where supply is greater than demand and profit in the speculation as well as making money on the spread itself. Now obviously I am just throwing around some ideas here but I do find it hard to believe that a currency exchange business would not have at least a little interest in this kind of speculation, especially as it involves the one thing which is the fulcrum of their business itself: Currency.
So what is my point here? Well if anything I hope that I have raised awareness of just how much travelers are forced to pay when they exchange their money in spread alone and that if you don’t want to pay these kinds of charges then just do a little research online. If you are a regular traveler there are brokers out there who will allow you the luxury of holding multi-denomination accounts which are exchanged at prices much nearer to the underlying spot levels. On the other hand, maybe I have shown you that no matter who you are, what you do and what your plans are, keep one eye on Supply and Demand and when you understand how that really works, you’ll be amazed at just how much more sense everything else begins to make. In 2 weeks we will take this a little deeper, with a look into exchange rates and the International Corporate World. See you then.
All the best,