1 Forex in the Future: Implications for Asset Management Campbell R. Harvey Duke University, Durham, NC USA National Bureau of Economic Research, Cambridge MA USA

2 Forex in the Future: -----Current landscape Market $1.500 trillion in forex transacted every day* $0.020 trillion stocks transacted on NYSE *Does not include forwards, swaps, and options!

3 Forex in the Future: -----Current landscape Trading Basic technology has not changed in decades Phone around to banks/investment banks and get a quotation Take the best price

4 Forex in the Future: -----Trading technology Trading Basic technology has not changed in decades Phone around to banks/investment banks and get a quotation Take the best price

5 Forex in the Future: -----Trading cost Components Clearing fee (say on 1 million €) $9-25 Bid-ask spread largest component –90% of the time 2-5 pips ($ ) –median is 5 pips

6 Forex in the Future: -----Trading cost Frequency in % one pip is 100 USD

7 Forex in the Future: -----Trading cost Frequency one pip is JPY (about $80)

8 Forex in the Future: -----Trading cost Frequency one pip is 100 CAD (about $65)

9 Forex in the Future: -----Trading cost Frequency one pip is 100 CHF (about $60)

10 Forex in the Future: -----Trading cost Frequency one pip is 100 USD

11 Forex in the Future: -----Trading cost Frequency one pip is 100 CHF (about $60)

12 Forex in the Future: -----Trading cost Frequency one pip is JPY (about $80)

13 Forex in the Future: -----Trading cost Frequency one pip is 100 CHF (about $60)

14 Forex in the Future: -----Trading cost Why are trading costs so high? Banks provide: Clearing Credit monitoring Bear inventory risk Plus, they make a pile of money!

15 Forex in the Future: -----New forces in the market Two consoritia: FXall and Atriax Similar product, different partners Using the Internet, press a button and get the best two way quote (bid-ask) from consortia members FXall has been around one year Atriax launched in July 2001

16 Forex in the Future: -----New forces in the market Two consoritia: FXall and Atriax Advantages: Saves time in doing phone around Electronic execution

17 Forex in the Future: -----New forces in the market Two consoritia: FXall and Atriax Disadvantages: Does not necessarily reduce spread cost Makes collusion among consortium partners a possibility (current DOJ investigation) No cross quotes between the two consortia Basically, it is the same old market facilitated with the Internet

18 Forex in the Future: -----New forces in the market Reverse auction Forexster.com Applied for several patents for a reverse auction type of system for FX trading Two types of systems –Type 1 client communicating to many banks –Type 2 many clients communicating with bank

19 Client Forexster Bank 2 Bank 3 Bank 4 Bank 5 Bank 1 Type 1 unit

20 Client Bank 2 Bank 3 Bank 4 Bank 5 Bank 1 Reverse auction Type 1 unit Forexster

21 Client 2 Client 3 Client 4 Client 5 Client 6 Client 7 Client 8 Client 9 Client 1 Bank Forexster Type 2 unit

22 Client 2 Client 3 Client 4 Client 5 Client 6 Client 7 Client 8 Client 9 Client 1 Bank Forexster Direct trade Type 2 unit

23 Bank Client Type 1 Type 2 Direct trade FXLin e Interconnected Type 1 and Type 2 units

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31 Forex in the Future: -----New forces in the market Further reading Ben Wright, “Unlocking the C2C forex riddle” Euromoney on-line, July 25, 2001