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Foreign Exchange

Don’t think, trade and BE LUCKY!

A great deal of 2009 was a bit gloomy for the FX market. As Derek Sammann, managing director, financial products and services at the CME, pointed out in a media briefing this week, the spike in volatility at the end of 2008 was followed by quite a significant drop-off in volumes as 2009 got under way. And of course there was the fact that FX was caught up in the desire of a bunch of ill-informed zealots – sorry, let me rephrase that – FX found itself under the same legislative spotlight as other assets.

To an extent, the surge in volumes in November, which did carry through into much of December, plus the fact that there is a little bit more clarity in the US at least following the passing of the Wall Street Reform and Consumer Protection Act of 2009, has led to a healthy degree of optimism at the start of 2010. So far, there’s no clear trend but there’s been some really decent two-way business, and apparently there’s also been a healthy number of larger-ticket trades going through. There is also talk that certain central banks are still actively playing in the market.

The next issue of Euromoney magazine has a piece about legislation. In a nutshell, it looks like only options and non-deliverable forwards (NDFs) will be have to be cleared through a central counterparty (CCP) in the US, but increasingly I reckon that such legislation will prove impossible to enforce.

Obviously most banks are keeping quiet, given the sensitivities around the taxpayer support they have received. However, mandated clearing of a global product through for-profit entities such as CME Clearing, which are also not multinational, is starting to increasingly look unrealistic, as I have argued in this column and elsewhere before. Of course, the legislators and regulators cannot be ignored, but will the European Central Bank, the Bank of Japan or the Bank of England really allow their currencies to be cleared exclusively through a US-based clearing house?

The fact is the CME is growing its FX business at a faster pace than its rival over-the-counter (OTC) platforms, so it should be questioned whether mandated clearing is really necessary. Sammann says the mitigation of counterparty risk achieved by the use of a CCP is a major reason why. The fact that the CME has seen a good increase in its exchange-for-physical (EFP) business – as has ICE – supports this claim.

But for the moment there are no plans to allow interoperability with other clearing houses. So a trade done in Europe, for instance, through one clearing house is not fungible with an offsetting trade done and cleared through Chicago. Sammann denies this is monopolistic and points out rightly that users will have a choice of which CCP to use. But it will curtail the choice end users have about where they trade.

Anyway, back to the CME’s conference call. I must admit, by the time I got onto it, I was in a very bad mood. I was nursing a black eye from Christmas and I wasn’t ecstatic about being back at work. Also, the exchange gave me the wrong telephone number, which meant I had to dial the US directly; and when I got through I had to listen to music by Rodrigo y Gabriela, which I like but can hear for free at home rather than through an expensive transatlantic call.

But Sammann is a shrewd operator – I only wish he’d also sorted out the telephone numbers – and he soon hooked me on his line. As the volume data shows (see Volumes: Healthy December), he does have an interesting story to tell.

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