Carry trades boost FX asset class appeal-Deutsche
Friday, February 23, 2007 7:32:06 AM (GMT-06:00)
Provided by: Reuters News
By Toni Vorobyova
LONDON, Feb 23 (Reuters) - Mushrooming carry trades and highly-leveraged "frequency" trades are reinforcing the appeal of currencies as an asset class, fanning growth in the foreign exchange industry, Deutsche Bank's head of FX said.
In an interview with Reuters Zar Amrolia also said banks faced with razor-thin margins and stiff competition are still turning to risky proprietary trading as a money-making tool.
And other investors are increasingly seeing the attraction.
"Now, if I go to any pension fund or any other institutional investor it is absolutely recognised that FX is an asset class, and a significant one. We are not talking 1 to 2 percent allocation, we are talking 10-20 percent," Amrolia said.
"Foreign exchange is a diversifying asset class, it's uncorrelated to equities and bonds ... If your view is that equity markets during some point this year are going to come off the highs that we currently have then FX is a good asset class to be in," he said.
Deutsche Bank <DBKGn.DE> -- the biggest player in the $2 trillion-plus a day FX market, capturing nearly a fifth of total turnover -- earlier this month reported a 25 percent rise in 2006 sales and trading revenue for debt and other products, including currencies, to 8.027 billion euros.
"It was a record year for us in global markets and foreign exchange also," Amrolia said, without disclosing the figure for FX revenue.
Lucrative carry trades, where people borrow the low-yielding yen <JPY=> or Swiss franc <CHF=> to fund higher return investments, are flourishing as people seek profits in directionless markets.
Those who opted for other currency trading strategies did not generate such strong returns in 2006 but Amrolia said that would not put investors off including FX in their portfolios.
"A low volatility environment encourages carry risk-taking," Amrolia said.
TINIEST MARGINS IN THE WORLD
Growing interest in high frequency trading, where investors use huge amounts of cash and high-speed strategies to exploit slender differences in market pricing to eek out profits, is also helping to offset margins and boost volumes.
"Every year I think margins in FX -- which are the tiniest margins in the world -- cannot get any smaller and they always seem to do so. So yes, I think the spread compression will continue. Less so on the cash side, probably more on the options side now, with that being traded increasingly electronically and therefore making it far more price transparent," Amrolia said.
"(But) I am pretty confident that volumes will increase on that side as well."
Turning over large volumes is becoming increasingly crucial for banks as margins shrink thanks to the rise of electronic trading. This makes it easier for investors to compare prices of different providers, forcing banks to offer better prices and thus compressing bid-offer spreads.
TAKING MORE RISKS
Unlike the 2001-04 period which culminated in the dollar hitting record lows against the euro, 2006 was marked by tight trading ranges and volatility falling to record lows for some currencies.
Though low volatility is generally negative for FX returns, it does make investors more willing to take risks.
Amrolia said this has led to increased activity in high-yielding emerging market currencies like the Turkish lira <TRY=> and the Brazilian real <BRL=>,,/i> a trend which has continued in to this year.
Deutsche itself also took on more risk in its proprietary trading last year than in 2005, he added.
((Reporting by Toni Vorobyova; Tel: +44207 542 7958, Reuters Messaging: antonina.vorobyova.reuters.com@reuters.net;editing by Ian Jones))
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