The Unspoken Truth about the World's Largest Market

The ubiquity of online financial trading is undeniable. Possibly one of the greatest series of SuperBowl commercials was born from online trading. Meanwhile, movies like “The Big Short”, “The Wolf of Wall Street”, “Boiler Room” and much more portray the lives of the traders, brokers and investors. When we hear about financial markets - the stock market is what we imagine. What many don’t understand is that the volume generated by the stock market is incredibly small when compared to the currency market. The later one has got a lot of dirty secrets.

The Nature of the Currency Market

Unlike the New York Stock Exchange or The NASDAQ which trade in New York City, currency trading is not centralized, there is no particular address of for this market. Rather, the money market is based on a few exchanges located globally in the US, UK, Australia, New Zealand and Japan just to name a few. The currency market is the world’s largest market generating trillions of US dollars daily. In contrast, NYSE makes roughly $140 billion daily.

Institutional vs. Retail Volumes

Unlike stocks which are chiefly designed for investments and speculative trading, most of the volume in the currency market is purely transactional. There are millions of counter-parties that need to exchange their local currency for a foreign one to make settlements. There are many countries, and these countries have to trade with each other, while each of the countries has a different currency. However, there is also quite some speculation involved in the currency trading, and this is where the ugly truth lies.

How Does the Retail Currency Market Work?

The market is operated by the brokers. These brokers are, generally, the intermediate between the trader and the market. Their main task is to provide some trading software, price feeds and support. But not so fast. Next to this, brokers also provide traders with the financial leverage, and sometimes it can be as high as 500:1. That’s right, by having only $1000 on your account it is possible to trade $500,000.

The ugly truth is that most of the retail brokers are actually market makers. Market making is a process of betting against the client’s success. In other words, if a trader incurs losses, they become broker’s income and vice versa.

How Do Brokers get Clients?

Even though brokers are considered to be financial companies, their advertising and marketing efforts are pretty much different from what one would expect from a bank or an insurance company. One main distinction is that most of the brokers will try to get people into trading by all possible means.

Like in other industries, there are sites that aggregate all possible offers. When taking a look at one of the Forex bonus offers aggregators, we can clearly see that there are dozens of brokers offering all types of deals. Some brokers will double your deposit; others will offer you to start without making a deposit at all.

When it comes to commissions, many brokers will pay its partners anywhere between $300 to $800 for a funded client. Both of these activities to some may seem more like gambling than trading.

What About Regulators?

You may assume that it is crazy that people without proper financial knowledge can trade online without adhering to any rules or understanding of risk management, and you would be right. How do financial regulators look at this? Some regulators think alike too. In the US, the NFA and the CFTC have limited the use of marginal trading to the maximum of 50 to 1. Also, the US regulators have placed quite high capital requirements, and this results in cleaning up the market almost completely. Now there are only some five brokers that still operate in the US.

When it comes to Europe, things don’t seem as bright. Brokers have much more freedom, and the whole licensing process is much easier. This is why there are over one hundred regulated currency brokers in Europe. However, things are changing. Just a few days ago Belgian authorities decided to ban retail currency trading, CFDs, and similar products. It is expected that other EU members will follow soon.

The Final Thought

While people look for get-rich-quick schemes online, they can easily end up day trading currencies. It may look quite simple from the first glance, yet it does feel more like going into a force-eight gale with a surfboard. The chances of success are very small. Some regulators have already addressed the issues, and either banned the whole activity or limited it so hard that it became safe. Nevertheless, there is more need for the regulator’s attention in Europe, Asia and most of the offshore territories.