Join the new world

Dear readers,

I have been thinking a lot lately about the limitations induced by the horrendously ridiculous 10 limitations imposed by our (supposedly all knowing) overlords.

While it is still possible to be, rather handsomely, rewarded for providing liquidity to he market by selling 10 for currency and selling it back, the most efficient method to generate income trading monetary markets is by arbitraging the crosses.

What does this show off jargon mean?
Basically, a lot of currency traders have recycled themselves by selling currencies against one another rather than against gold. While this is a good idea and we need such liquidity for our daily dealing (import/export), it is even better for the astute trader. Indeed, one can take advantage of these offers in two separate ways.

Providing liquidity
The first method is the traditional one. As these markets are highly inefficient, the bid-ask spread is fairly huge. By identifying the most liquid markets, one can benefit from free income. The indicators one would look for to identify such markets are the following.
1. Population - it stands to reason that the most populated countries are those which offer the highest trading volume amongst themselves.
2. Industrial tissue - if one can identify companies that export/import a lot, one can take advantage of the associated currency flows. In this case, the trader acts almost as a traditional bank or broker by posting offers and then informing the company managers and trying to sell their product to them.
3. Trade balance - again, it stands to reason that countries that export a hell of a lot are likely to have more active currencies. The problem lies in working out which counterparts the money is flowing in or out of.
In all cases, warranting a lot of primary, on the ground research, it is possible to pick decent markets to trade in. Of course, the sales side of the business is almost as important as the research side.

Arbitraging
One of the side effects of the 10 limitation is, as I stated above, that markets are hardly efficient. Because of the lower liquidity, both the the spread and volatility of domestic ( for ) and external ( for ) markets have been blown up. This means that cross currency (eg. vs. ) spread traders have to adjust very quickly and constantly to variations in domestic and external markets of both currencies. While they are rewarded for taking this risk by collecting a handsome fee (the spread), when one or both the currencies experience a sharp move, it may possible to profit from the sellers slowness. Let's look at an example.

Let's try and make this simple
Assume the markets stand as follow.

1 = 150 and 1 = 150. One can clearly see that 1 = 1. Making a market for these currencies, a trade might post the following offers. Selling 100 @ 1 = 1.10 and selling 100 @ 1 = 1.10.

In this case, the trade would be earning 1.10 x 1.10 = 1.21 or +21% on each cycle. However, what happens if the the British markets goes to hell and suddenly 1 = 200? Then, by purchasing 200 with 1, one can buy 200 / 1.10 = 181. these 181 can then buy 181 / 1.1 = 164. A free 64% profit. However, to find these opportunities, one must fairly constantly be reviewing domestic, external and cross offers. Of course, the eAPI framework might offer the possibility of automated surveillance.

An after thought
Maybe the 10 limitation isn't such a bane after all. For traders at least, it translates into wider spreads, and more arbitrage opportunities as the markets have become a lot more inefficient. Whether you want to devote the time and energy to turn the profits one could in the past, in particular with a large capital base is up to you. I know I will.

Best regards,
John Sykes