the forex trader

Main Players In The Forex Market

Online Retail Broker-Dealers
In the previous sections you have come to understand how the Forex market works. Now let's see how its inner workings can affect your trading by learning more about retail Forex brokers.

If you want to exchange one currency for another and make some profit, just like most individuals, you are unable to access the pricing available on the interbank market. You can't just barge into Citigroup or Deutsche Bank and start throwing Euros and Yen around, unless you are a multinational or hedge fund with millions of Dollars. To participate in the Forex, you need a retail broker, where you can trade with much inferior amounts.

Brokers are typically very large companies with huge trading turn over, which provide the infrastructure to individual investors to trade in the interbank market. Most of them are market makers for the retail trader, and in order to provide competitive two way prices, they have to adapt to the technological changes afoot in the industry, as we have seen above.

What does it mean to directly trade with a market maker? Every market maker has a dealing desk, which is the traditional method that most banks and financial institutions use.
The market maker interacts with other market maker banks to manage their position exposure and risk. Every market maker offers a slightly different price in a particular currency pair based on their order book and pricing feeds.

As trader, you should be able to produce gains independently if you are using a market maker or a more direct access through an ECN. But nevertheless, it's always essential to know what happens on the other side of your trades. To gain that insight, you first need to understand the intermediary function of a broker-dealer.

The interbank market is where Forex broker-dealers offset their positions, but not exactly the way banks do. Forex brokers don't have access to trading in the interbank through trading platforms like EBS or Reuters Dealing, but they can use their data feed to support their pricing engines. Enhanced price integrity is a major factor traders consider when dealing in off-exchange products, since most prices originate in decentralized interbank networks.

In order to quote prices to their costumers and offset their positions in the interbank market, brokers require a certain level of capitalization, business agreements and direct electronic contact with one or several market maker banks.

You know from chapter A01 that the Forex spot market works over-the-counter, which means there are no guarantors or exchanges involved. Banks wanting to participate as primary market makers require credit relationships with other banks, based on their capitalization and creditworthiness.
The more credit relationships they can have, the better pricing they will get. The same is true for retail Forex brokers: depending on the size of the retail broker in terms of capital available, the more favorable pricing and effectiveness it can provide to its clients. Usually this is so because brokers are able to aggregate several price feeds and always quote the tighter average spread to its retail customers. 1, 2, 3,

The Main Players In The Forex Market

Main Players In The Forex Market

Businesses & Corporations
Not all participants have the power to set prices as market makers. Some just buy and sell according to the prevailing exchange rate. They make up a substantial allotment of the volume being traded in the market.

This is the case of companies and businesses of any size from a small importer/exporter to a multi-billion Dollar cash flow enterprise. They are compelled by the nature of their business - to receive or make payments for goods or services they may have rendered - to engage in commercial or capital transactions that require them to either purchase or sell foreign currency.

Fund Managers, Hedge Funds and Sovereign Wealth Funds
With Forex trading surging in recent decades, and as more individuals earn their living trading, the popularity of riskier investment vehicles like hedge funds has increased. These participants are basically international and domestic money managers. They can deal hundreds of millions, as their pools of investment funds tend to be very large.

Because of their investment charters and obligations towards their investors, the bottom line of the most aggressive hedge funds is to achieve absolute returns besides of managing the total risk of the pooled capital. Foreign exchange advantage factors like liquidity, leverage and relatively low cost create a unique investment environment for these participants.

Generally speaking, fund managers invest on behalf of a range of clients including pension funds, individual investors, governments and even central banks. Also government-run investment pools known as sovereign wealth funds have grown rapidly in recent years.

Internet Based Trading Platforms
One of the great challenges to the institutional Forex and how exchange related businesses are being handled has been the emergence of the Internet-based dealing platforms. This medium contributed to form a diverse global market where prices and information are freely exchanged.

As evidenced by the emergence of electronic brokering platforms, the task of customer/order matching is being systematized as these platforms act as direct access points to pools of liquidity. The human element of the brokering process - all the people involved between the moment an order is put to the trading system until the moment it is dealt and matched by a counter party - is being reduced by the so called "straight-through-processing" technology.

Similar to the way we see prices on a Forex broker's platform, a lot of interbank dealing is now being brokered electronically using two primary platforms: the price information vendor Reuters introduced a web based dealing system for banks in 1992, followed by Icap's EBS - which is short for "electronic brokering system"- introduced in 1993; replacing the voice broker.

Both the EBS and Reuters Dealing systems offer trading in the major currency pairs, but certain currency pairs are more liquid and are traded more frequently over either EBS or Reuters Dealing. For instance, EUR/USD is usually traded through EBS while GBP/USD is traded through Reuters Dealing.
Cross currency pairs are generally not quoted on either platform, but are calculated based on the rates of the major currency pairs and then offset through the legs. Some exceptions are EUR/JPY and EUR/CHF which are traded through EBS and EUR/GBP which is traded through Reuters. 1, 2 , 3 , next

Central Banks

The Main Players In The Forex Market
Central Banks
The majority of developed market economies have a central bank as their main monetary authority. The role of central banks tends to be diverse and can differ from country to country, but their duty as banks for their particular government is not trading to make profits but rather facilitating government monetary policies (the supply and the availability of money) and to help smoothen out the fluctuation of the value of their currency (interest rates).

Central banks hold foreign currency deposits called "reserves" also known as "official reserves" or "international reserves". This form of assets held by central banks is used in foreign-relation policies and indicates a whole lot about a countries' ability to repair foreign debts and also indicates a nation's credit rating.

While in the past reserves were mostly held in gold, today they are mainly held in Dollars. It is common for central banks nowadays to possess many currencies at once. No matter what currencies the banks own, the Dollar is still the most significant reserve currency. The different reserve currencies that central banks hold as assets can be the US Dollar, Euro, Japanese Yen, Swiss franc, etc. They can use these reserves as means to stabilize their own currency. In a practical sense this means monitoring and checking the integrity of the quoted prices dealt in the market and eventually use these reserves to test market prices by actually dealing in the interbank market. They can do this when they think prices are out of alignment with broad fundamental economic values.

The intervention can take the form of direct buying to push prices higher or selling to push prices down. Another tactic that is adopted by monetary authorities is stepping into the market and signaling that an intervention is a possibility, by commenting in the media about its preferred level for the currency. This strategy is also known as jawboning and can be interpreted as a precursor to official action.
Most central bankers would much rather let market forces move the exchange rates, in this case by convincing market participants to reverse the trend in a certain currency. 1 , 2 , next

Commercial And Investment Banks

Commercial And Investment Banks
The Main Players In Forex (the big trader)
There are hundreds of banks participating in the Forex network. Whether big or small scale, banks participate in the currency markets not only to offset their own foreign exchange risks and that of their clients, but also to increase wealth of their stock holders. Each bank, although differently organized, has a dealing desk responsible for order execution, market making and risk management. The role of the foreign exchange dealing desk can also be to make profits trading currency directly through hedging, arbitrage or a different array of strategies.

Accounting for the majority of the transacted volume, there are around 25 major banks such as Deutsche bank, UBS, and others such as Royal bank of Scotland, HSBC, Barclays, Merrill Lynch, JP Morgan Chase, and still others such as ABN Amro, Morgan Stanley, and so on, which are actively trading in the Forex market.

Among these major banks, huge amounts of funds are being traded in an instant. While it is standard to trade in 5 to10 million Dollar parcels, quite often 100 to 500 million Dollar parcels get quoted. Deals are transacted by telephone with brokers or via an electronic dealing terminal connection to their counter party.
Many times banks also position themselves in the currency markets guided by a particularly view of the market prices. What probably distinguishes them from the non-banking participants is their unique access to the buying and selling interests of their clients. This "insider" information can provide them with insight to the likely buying and selling pressures on the exchange rates at any given time. But while this is an advantage, it is only of relative value: no single bank is bigger than the market - not even the major global brand name banks can claim to be able to dominate the market. In fact, like all other players, banks are vulnerable to market moves and they are also subject to market volatility.

Similar to your margin account with a broker, the banks have established debtor-creditor agreements between themselves, which make the buying and selling of currencies possible. To offset the risks of holding currency positions taken as a result of customer transactions, the banks enter into reciprocal agreements to quote each other throughout the day on preset amounts.
Direct dealing agreements can include that a certain maximum spread will be upheld, except under extreme conditions, for example. It can further include that the rate would be supplied in a reasonable amount of time.

For instance, when a costumer wants to sell 100 million Euro, the procedure is as follows: the bank's sales desk receives the costumer's call and inquires the dealing desk at which exchange rate they are able to sell to the costumer. The costumer can now accept or deny the offered rate.
As a market maker, the bank has to handle the order in the interbank market and assume the risk for that position as long as there is no counterpart for that order.

Let's assume that the customer accepts the bank's buy price then the Dollars are immediately credited to the customer. The bank has now an open short position over 100 million Euro and has to find either another costumer order to match with this order, or a counter party in the interbank market. To do such transactions, most banks are nourished by electronic currency networks in order to offer the most reliable price for each transaction.

The interbank market can therefore be understood in terms of a network, consisting of banks and financial institutions which, connected through their dealing desks, negotiate exchange rates. These rates are not just indicative, they are the actual dealing prices. To understand the uniformity of prices, we have to imagine prices being instantaneously collected from crossed prices of hundreds of institutions across an aggregated network. page 1 , central bank

The Forex Player (big trader)

The Main Players In The Forex Market
When the US Dollar went off the gold standard and began to float against other currencies, the Chicago Mercantile Exchange began to create currency futures to provide a place where banks and corporations could hedge the indirect risks associated with dealing in foreign currencies.

More recently, currency gyrations have centered on a massive move away from currency futures to more direct trading in the Forex spot markets where professional currency traders, alongside with forwarding contracts, derivatives of all kinds, deploy their various trading and hedging strategies.

The idea of currency speculation has been actively marketed, and this is having a profound effect on the foreign exchange planning not only of nations - through their central banks - but also of commercial and investment banks, companies and individuals. These are the main categories of participants - a geographically disperse Forex clientele - and as a consequence so is the market as a whole. In practice, the foreign exchange market is made up of a network of players clustered in various hubs around the globe.
The key difference among these market participants is their level of capitalization and sophistication, where the elements of sophistication mainly include: money management techniques, technological level, research abilities and level of discipline.

Among the market players it is the individual trader who has the least amount of capitalization. In the absence of this strength, besides of emulating those other elements of sophistication of the institutional players, individual traders are forced to impose discipline on their trading strategies.
Those who can impose discipline will gain the ability to extract positive returns from the Forex markets. fxstreet.com

What is a market maker? To be considered a foreign exchange market marker, a bank or broker must be prepared to quote a two-way price: a bid price which is the market makers' buying price and an offer price is their selling price to all inquiring market participants, whether or not they are themselves market makers.
Market markers capitalize on the difference between their buying price and their selling price, which is called the "spread" . They are also compensated by their ability to manage their global FX risk using not only the mentioned spread revenues but also netting revenues and revenues on swaps and conversions of residual profits or losses.
The exchange rates can be declared through foreign exchange dealers across the globe over the telephone or electronically via digital dealing platforms. next