Bet your bottom dollar

Day traders are back, and the hot new market is foreign exchange.

Joanne Fournier awoke one morning in late November at her house in Toronto's upscale Forest Hill and made her way downstairs, still in her housecoat, by her usual time of 7:30 a.m. She put the kettle on for tea. As it heated up, she turned on her computer, checked her e-mail, and logged into an online brokerage account to prepare for the morning's trading. Fournier had a hunch about the release of U.S. non-farm payroll numbers due early that day, so she turned on the TV and started poking around online to suss out opinion.

The buzz was neutral. Consensus was that the report would show 200,000 new jobs were created in September. But when the number was released at 8:30, it was better–for Fournier, anyway–than expected. Only 112,000 new jobs materialized in the United States that month. And that meant chaos was about to break out in currency markets. Fournier sat back to watch the fun.

Almost immediately, the British pound–Fournier's choice of asset, since it's correlated with the euro but tends to move more and faster–banged back and forth against the U.S. greenback, moving a dramatic 35 pips in the first few minutes after the release. (A pip is the basic unit of measurement in the foreign exchange market, representing one one-hundredth of a cent.) Some of the big traders were surprised by the numbers, and moved to readjust or cover short positions. But Fournier stayed on the sidelines–the swings were too big and too random.

By 9:05, trading had settled down a bit and began taking on a more orderly trend. That's when Fournier pounced, buying up five lots of the British pound, or US$500,000 worth of the currency. Don't be misled by the amount. The magic of 100-to-1 leverage put Fournier in control of the money for just US$5,000 of her own cash. By 9:43, when the pound had gained 28 pips, a pre-set order to sell her position was triggered, and Fournier pocketed the capital gains on the half a million that had moved 28 hundredths of a cent–a respectable US$1,400. “I don't want this to sound like hype,” she says in a coffee shop a few days later, “but it was almost too easy.”

Not bad for a morning's work and a couple of taps on a keyboard. But it's no surprise for anyone who remembers 1999 and that era-defining embodiment of “irrational exuberance,” the day trader. Just a few years ago, legions of retail investors, enabled by fast processors and broadband Net connections, made a religion out of bypassing their brokers and trading on their own accounts from home. By jumping in and out of positions all day–and taking a few bucks here and there on the momentum of the dot-coms–many were able to make a living as day traders. For a while, anyway. The crash washed many into the gutter and dried up the momentum available in equity markets, putting many out of work and forcing some back to their day jobs.

But don't count them out just yet. Day traders have come back to life. This time, though, the target isn't equity exchanges, but the currency market, where a massive revaluation of the U.S. dollar is underway in the deepest, most liquid trading environment in the world. The good news for day traders is that the downward dollar and that deep liquidity are bringing together in one market at one time the three things vital to good trading: volume, volatility and direction on an impressively large scale. You thought equity markets were big? Currency markets see US$1.9 trillion shuttled around the world every day on news that really matters. Will the United States get its deficit under control or will the Iraq insurgency force the commander-in-chief to ship out more troops? What's the Chinese government's latest thinking on revaluing the yuan? It's all priced into the currency market, which is now open to anyone with as little as US$300 to put down and the stomach for leveraging that up as much as 400-to-1. Welcome to the big game.

Two storeys above busy Yonge Street in the Toronto neighbourhood of North York sits the trading floor of Questrade Inc., a Canadian brokerage that missed the first day-trading boom but has since made a name as the first to offer retail investors direct-access trading platforms. (That allows them to trade right into the market, rather than have their order-flow handled by the brokerage, as with many online trading firms.) But like everyone in the day-trading community, Questrade's attention is focused on currency these days, says president and CEO Edward Kholodenko. The company just launched a retail-focused foreign-exchange, or FX, trading platform in late December. “We've always been a pioneer in the Canadian market, and we think this is going to be big,” he says. “It's already huge in the U.S., and it's coming to Canada.”

Questrade isn't the first. Refco Group is a U.S.-based futures and commodities broker that has expanded its retail foreign-exchange service and has offered a retail currency-trading platform in Canada since mid-2003. But there's good reason to think Kholodenko could be onto something. Gain Capital Group, a pioneer in retail FX trading in the United States, has seen revenue growth of more than 500%, and its new customer accounts tripled in 2004. In Vancouver, a new company called FX Trainer Financial Services has just expanded its operation into a new space in the tony Bentall 5 Centre in the city's downtown core, where it instructs the uninitiated in the ins and outs of currency trading. It's currently enrolling 400 students a month, up from the 50 pupils it signed to its original class a year ago. The company is also putting on seminars across North America, from Edmonton to New York, which should help the company maintain its monthly double-digit growth, according to executive vice-president Jason Goldsmith. “We're going to see exponential growth in 2005. There's a huge appetite for what we offer.” Goldsmith also hopes to lure back equity day traders turned off by the corruption of the late '90s. “There were a lot of people disenfranchised after the scandals. A lot of people are looking for the next big thing.”

That's a fitting description of Fournier, who first appeared in Canadian Business back in 1999 in a feature charting the rise of equity-based day trading. Fournier got into trading as a sideline to her career as a business development consultant and was smart about it; she took her money out of the market just before the crash, moving it to energy trusts. But she still liked the idea of making a living trading, so once liquidity and the general upward price trend in the dot-coms disappeared, she began looking around for something else to trade. There were options and futures, something many former day traders looked into, but Fournier found those securities massively complex. She once took a class on trading options that included 800 pages of instruction and 15 CDs worth of material. “It was too much,” she says. Then she heard about the FX market. “I have never looked back.” Since May 2004, she's been focusing solely on currency trading.

Or rather, the inter-bank foreign exchange market. To allow currency trades between banks, the world's largest financial institutions maintain a network where blocks of the world's currencies are passed around in US$100,000 chunks. The market was created when the U.S. left the gold standard in 1971, and has become more global and more free over the past 30 years as governments dismantled currency controls. There's no trading floor, only listing services on financial news networks like Reuters and Bloomberg. The core of the market is a group of 13 major institutions, around which are arrayed thousands of smaller banks, insurance companies and hedge funds. In a sense, it's the world's master market, registering all the transactions between countries and between the economic actors within those borders. “There's a huge river of currency trades flowing by us all the time,” says Fournier, “and I think of my job as dipping in and taking out a thimbleful every day.”

It's a deep river. That US$1.9 trillion (which has increased from US$1.5 trillion in the past few years) is far larger than any equity market. The New York Stock Exchange, by comparison, trades only US$48 billion a day. But it's the massive number of market participants that's attracting day traders turned off of equity markets, since it allows them to get in and out of positions easily. “You've got virtually unlimited liquidity, which means you can always trade a currency at any price,” says Goldsmith. “If you've got a stop loss order on, 99% of the time you'll get that, unlike equity markets, where you can blow right through that price.” As well, because the fundamentals of currency markets are world events–not the corporate accounting numbers prepared by options-loaded managers–there's no insider information or manipulation of the numbers or events. The relevant info, available on your television, is distributed to everyone at the same time. “You don't have to worry about other numbers floating around the Street. There are no other numbers,” says Fournier. “The price is what it is in this market.”

But what's most appealing right now for day traders is the big cherry on top of this market: the devaluing U.S. dollar. It's a nearly universal assumption that the greenback is going lower, and when people think alike in a market, it creates a strong, singular direction–kind of like the techno-utopianism that led to the uptrend in equity markets in the late '90s. Fournier only gets into the market when there's a shorter downtrend–the bad jobs report, for instance–reinforcing the larger downtrend in the U.S. dollar. That's one of her rules. “When you find a trend reinforcing the larger trend, hop on. Don't bet against trend. Get the wind at your back.”

But how long will it last? It now costs US$1.34 to buy one euro, compared to 2000, when you could buy a euro for US82¢. That's already a major depreciation and suggests the end could be near.

But is it? There's one event looming–the big bang of FX markets–the revaluation of the Chinese yuan. If there's an insider in the market right now, it's Hu Jintao, the president of China, who is wrestling with the question of how and when to unpeg the currency from the U.S. dollar. China's “fixed-rate” policy has created a huge circular flow of money: Americans buy cheap Chinese imports and the Chinese invest that money back into U.S. securities (which has kept interest rates low and allowed Americans to keep taking equity out of their homes to buy more cheap Chinese goods). Undoing that peg, or loosening it, will allow the yuan to float closer to its natural level–universally assumed to be higher than it is now–and undo that particular distortion.

This will change the world. Chinese companies will have a stronger currency with which to shop in other economies. But the revaluation may also hasten the dollar's fall. And that has added to worry that the greenback's decline could accelerate into the kind of panic that underpinned the Mexican peso crisis, the Asian Crisis and the Russian currency collapse.

Stephen Roach, chief economist of U.S. investment bank Morgan Stanley, has sounded the alarm. Although he says a sharp decline in the U.S. dollar can be avoided, he harbours no illusions about the speed with which spooked investors can run. “We all hope for a well-managed revaluation of the dollar and a measured rebalancing of the world economy,” he said recently. “But the margin of error is so slim since the balances are so huge.” Peter Bernstein, a respected business author, has called for a new Plaza Agreement like the one signed in the '80s to control the fall of the dollar and head off a crisis. Others scoff at that suggestion, saying the global will that existed back then is no longer there, and that suggests we could even be in for a quick drop not unlike the one that presaged the market crash of 1987.

No wonder the impending revaluation of the yuan is being so closely watched. To day traders, it's one of the biggest sure-shot payoffs they could ever hope to find, but it's also the end of the U.S. strong dollar, the last gasp of the '90s boom and the beginning of a new world order. Maybe even the trigger to a dollar crisis. Who knows? But if you like, step up, put some money down, leverage it up, and take a seat in the ring. Welcome to the really big game.