Who Are the Major Players in the Forex Market?

Aug 24, 2023

The forex market is the largest and most liquid financial market in the world. According to the Bank of International Settlements, the forex daily turnover exceeds $6 trillion. Who are the major players in this market? Read on to find out!

1. Central Banks

Central banks serve as the monetary authorities of their respective countries, responsible for formulating and implementing monetary policy. The US central bank, the Federal Reserve, has the dual mandate of maximizing employment and keeping inflation at a low and stable value of 2% per year.

Central banks operate via several channels:

Setting Monetary Policy

Monetary policy is a major driver behind a currency’s short-term interest rates.

High and rising interest rates attract capital inflows and therefore currency appreciation, while low rates do the opposite.

Interventions

Central banks may intervene during periods of extreme volatility, or when its currency is misaligned with monetary policy goals. This usually happens in times of crises when rapid fluctuations of currency value can affect the economy.

For example, interventions to weaken the currency will boost exports and stimulate economic growth.

Communication

Central banks can adopt a softer approach to influence currency rates by communicating their preferences to the market. Hints about potential policy changes or shifts in interest rates can lead to market speculation and subsequent currency movements.

Pay attention whenever a prominent bank member speaks, or whenever the bank releases its minutes of meeting.

Reserves Management

Some countries hold massive foreign currency reserves, which are holdings of foreign currencies or assets dominated in those currencies. These reserves act as a buffer against economic volatility and can be used to stabilize the domestic currency.

Central banks might buy and sell various currencies in the open market to diversify risk and capitalize on projected future currency moves.

2. Banks

Most forex trades are facilitated by banks, through one of these types of activities:

Market Making

Market makers provide liquidity by offering to buy/sell a particular currency pair at any given time. They quote the bid and ask prices. The difference between these prices is the spread, which is the bank’s profit for facilitating the trade.

Interbank Trading

Banks also trade large volumes of currencies directly with one another. Interbank trading brings about price discovery, whereby benchmark exchange rates that are used globally are determined.

Hedging

Banks assist clients in hedging currency risk through derivatives like forward contracts and options. For example, a multinational company might use forward contracts to lock in a specific exchange rate for future transactions, ensuring that currency fluctuations don’t adversely affect their profits.

Proprietary Trading

In proprietary trading, banks use their own capital to speculate on currency price movements, employing in-house strategies and platforms.

According to a 2018 EuroMoney survey, here are the top 10 liquidity providers in the forex market:

3. Business Corporations

These major players have ongoing operational forex conversion needs. A common example would be an exporter selling goods to a foreign buyer.

Let’s say Toyota sells USD 10 million worth of cars to America. That’s a sweet chunk of revenue, but Toyota disburses salaries and dividends to its stakeholders in JPY. They will regularly transact with banks to sell USD and buy JPY.

Cross-border mergers and acquisitions also contribute a significant portion of turnover. In 2017, U.S. healthcare giant Johnson & Johnson acquired Swiss biotech company Actelion in a $30 billion all-cash deal. To compensate Swiss shareholders, J&J would have had to sell billions of USDCHF, probably over the course of many days. Since there can be impactful repercussions on the market, corporate entities tend to approach forex dealings with some restraint. 

4. Hedge Funds

Hedge funds pool money from investors and engage in speculative trading, employing a wide array of strategies to capitalize on currency fluctuations. Here are some prominent types of hedge funds operating in the currency markets:

Global Macro Funds

Macro funds base their trading decisions on analysis of global macroeconomic trends and geopolitical events. They use a top-down approach, studying factors like interest rates, inflation, and political stability to forecast currency movements. They make bets on the overall direction of economies and currencies, often involving currency pairs and commodities. 

Currency Carry Funds

Currency carry funds focus on the interest rate differentials between currencies. They borrow in a low-interest-rate currency and invest in a higher-interest-rate currency, with the goal of earning the interest rate differential as profit. These funds often have a longer investment horizon and can be exposed to significant risk if interest rate differentials change unexpectedly.

Systematic Funds

Systematic funds use rules-based strategies to make trading decisions, relying on algorithms and quantitative models to analyze market data. Trend following was a mainstay in the 80s and 90s, though its performance has suffered since then. 

If you want insights into the trend following approach that some systematic funds adopt, check out “Following the Trend: Diversified Managed Futures Trading“. Most strategies are not as secretive or fancy as they are portrayed. 

5. High Frequency Traders

High frequency traders capitalize on fleeting price discrepancies across the currency markets. Strategies such as arbitrage, market making and news trading are common. Most of these strategies are extremely short-term and non-directional, bringing about more noise than actual directional movement.

HFTs contributes a significant amount of trading volume and liquidity, albeit controversially due to concerns about market instability during volatile moments. 

6. Retail Traders

Yes, that’s you and me, at the bottom of the food chain, making up about 6% of total forex turnover. It’s unlikely we’ll ever see a GameStop moment in the currency world. 

Nonetheless, retail trading has boomed in recent years, with an abundance of brokers to choose from. The Japanese account for about a third of world retail currency trading volumes, and drive much of JPY movement during the Asian hours (perhaps using their favorite Ichimoku indicator?). Traditionally, Japanese retail traders, collectively referred to as “Mrs Watanabe,” have been carry traders who profit by selling the low interest JPY and holding a higher yielding currency, such as AUD or NZD. 

With improving broker regulation and information distribution, the proliferation of retail trading is set to continue. 

Conclusion

By following the activities of forex’s major players, i.e. the central banks, financial institutions and multinational corporations, traders can better navigate the complex landscape of the forex market and make more informed trading decisions.

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