Foreign Currency Exchange Trading

The Foreign Exchange Derivatives Market Offers Rewards and Risks

The foreign currency FOREX trading market is open to individual traders but do perform due diligence research before entering into this risky financial investment market.

The foreign currency exchange market is the global trade in currencies. It is also called FOREX or FX and is primarily designed to facilitate international trade transactions by allowing international business buyers to convert local currency to the foreign currency of the seller. In addition to companies, actors in the foreign exchange market include central banks, governments, financial institutions, and a growing number of currency speculators, such as hedge funds, small retail speculators, and individual traders.

The Bank of International Settlements (BIS) reports that the daily average transactions in the brisk global foreign exchange market amounts to nearly $4 trillion, according to its Triennial Central Bank Survey of Foreign Exchange and Derivatives Market Activity, published in December 2007
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Beware of Foreign Currency Trading Frauds

While much foreign currency trading is legitimate, various forms of foreign currency trading have been used to defraud individual traders. The U.S.'s Commodity Futures Trading Commission (CFTC), the federal agency that regulates commodity futures and options markets, warns consumers to take special care when entering the foreign currency trading market.

Reacting, in part, to the complexity of financial investments and the growing number of reported foreign currency trading scams, Congress enacted the Commodity Futures Modernization Act of 2000 (CFMA) to give the CFTC jurisdiction to take action against unregulated firms offering foreign currency contracts to the public in the futures and options market.

State Regulation in the Foreign Exchange Derivatives Market?

What does the derivatives market have to do with the exchange in foreign currency? Certain foreign exchange contracts would fall under the derivatives market header. While the derivatives market has many types of contracts, one is foreign exchange derivatives. This includes contracts for currency futures, forward contracts, currency option contracts, and currency swaps.

On November 20, 2009, Sen. Maria Cantwell (D-Wash.) wrote the blog “Unregulated derivatives are holes in our economic boat,” published at The Hill’s Congress Blog. She noted that prior to the CFMA’s enactment all derivatives were traded on regulated central exchanges under federal law, unless CFTC regulators made an exemption. After the CFMA was passed, all derivatives trades were exempted from federal regulation and the states were preempted from regulating derivatives trades under their gambling and bucket shop laws.

Passage of the Commodity Futures Modernization Act of 2000 and Growth of the Derivatives Market

The derivatives market has been accused by many to have played a major role in the recent global financial crisis. After passage of the CFMA, the derivatives market increased from $80 trillion to more than $600 trillion, according to a November 10, 2009 press release from Sen. Maria Cantwell (D-Wash.). Between April 2004 and April 2007, BIS reported an 71% increase in traditional foreign exchange markets which reached $3.2 trillion - in great part due to FX swaps growth.
Sen. Cantwell, with Sen. Ron Wyden (D-OR) and Sen. Bernie Sanders (I-VT), introduced bill S.2763 on November 10, 2009 to repeal the CFMA’s preemption of State authority to regulate the derivatives market.

“In theory, [Cantwell’s bill] would put things back at the state level as far as determining whether various derivatives constituted gaming,” said Joel Telpner, a partner at Jones Day in New York.
Due to the complexity of foreign currency trading many individual traders will place a great reliance on the foreign currency account adviser. While individual traders are not advised by the CFTC to not enter the foreign currency exchange market, they are encouraged to exercise prudence and due diligence to ensure that the advice being given is from a reputable source.

General Disclaimer: This article is for informational purposes only and should not be used as a substitute for tax or legal advice.

Foreign Currency Exchange and U.S. Trade Deficit

Does an increase in U.S. demand for foreign imports while the dollar is weak against foreign currencies signal a bottom to the recession or is it just "shoptimism"?

While economists differ on the effect of foreign currency exchange rates on trade, among many a rational consumer market would be discouraged to purchase imported goods when the price for those goods go up due to the increase in value of the foreign currency. Well, maybe the U.S. market isn't acting rationally.

U.S. Trade and Foreign Currency Exchange Rates

From February 2002 to May 2006, there was an 18% depreciation of the U.S. dollar against foreign currencies that helped boost U.S. agricultural exports, reports Mathew Shane and William Liefert in the article "Weaker Dollar Strengthens U.S. Agriculture," Angus Journal, March 2007. While U.S. exports have increased due to the weaker U.S. dollar, U.S. import consumption has also increased. This interplay keeps the U.S. trade deficit gap from shrinking.

The Wall Street Journal’s Mark Gongloff notes, that the U.S. deficit with China rose 33% between 2005 and 2008, while the dollar fell 18% against the yuen. In November 2009, the U.S. Commerce Department reported that the U.S. trade deficit grew 18 percent to $36.5 billion, a $5.7 billion increase from January 2009 – the biggest surge in 16 years even in light of a weaker dollar.

Consumer Market Rationism vs. "Shoptimism"

The market doesn’t always seem to act in accords to rational economic assumptions. There are complex factors in play.

Lee Eisenberg, author of Shoptimism: Why the American Consumer Will Keep on Buying No Matter What, would likely argue that American consumers are imbued with a high level of what he calls “shoptimism.”

Delivered with the level of wit expected of a former editor-in-chief of Esquire magazine, Eisenberg offers a treasure trove of insight and research on assessing American buying behavior that sounds nothing like economist’s rational market exploration of the consumer mind.

The Bottom of the Economic Recession?

In any case, maybe the increase in the U.S. trade deficit is a good sign that Americans are looking up from the bottom of the recession.

“Longer term, there’s no question the weak dollar is a big plus for U.S. export growth,” said Nigel Gault, chief U.S. economist at IHS Global Insight. While U.S. manufacturers have seen some gain from a weaker dollar, it has been offset by a rebound in U.S. demand for foreign goods, which Gault states is a sign of economic recovery from the downturn.

“Sometimes what looks bad on the surface is actually quite good,” said Sal Guatieri, senior economist at BMO Capital Markets. “I think that’s the case this time around.”
References:

• "The Case for a Weak U.S. Dollar Isn't Strong," by Mark Gongloff, Wall Street Journal, (Nov. 13, 2009)
• “Weak dollar no quick fix for narrowing trade gap,” by Christopher S. Rugaber and Martin Crutsinger, Associated Press (Nov. 13, 2009).

General Disclaimer: This article is for informational purposes only and should not be used as a substitute for tax or legal advice.