Our Currency in Cyberspace , part 2
Does hatred of the Clintons affect the value of the dollar? Probably. "Traders think that the Clinton Administration is made up of buffoons," a currency-desk manager at a large Chicago-based bank told me. "We're at the point where there isn't anything the administration can do that would get traders' respect," he added with some glee. He said that his whole young staff "is made up of people making well into six figures and is totally pissed off that Clinton raised their taxes... they regret they missed out on the boom of the Reagan years. It can't help but color their judgment and make them more confident in the dollar's down-ward moves."
The Merc traders, however eager they were to bash Clinton, aren't the big players: only about about 1 percent of all the world's foreign-exchange transactions cross the floor of the Merc. If I wanted to see the next level of currency traders--the ones who place bets in the hundreds of millions of dollars--then I would need to find a trader who worked for one of the big money-center banks. I found Karl Chalupa, an eleven-year veteran of the currency markets who works for the Chicago headquarters of ABN AMRO, the Netherlands' biggest bank. ABN AMRO has built what industry insiders describe as one of the most technologically advanced trading rooms in the world. Chalupa is a proprietary trader. His job is to speculate with money his bank has given him to trade. As long as he makes money, he has latitude to trade it almost any way he pleases. Chalupa, atypically, invests for the long term, carrying large currency positions for several months or more. About his job he said, "The real thrill is saying the market is going down, selling $10 million, and riding it down." Although Chalupa thinks government intervention is his "tax money going right down the toilet," he says he has worked hard to factor his disgust with Clinton out of his trading.
On Chalupa's desk are two large computers that track news, price information, and economic data, running selected market numbers through electronic hoops he has set up for them. (The economies wrought by new number-crunching and information technology have been a major factor driving down the price of transactions and greasing the growth of trade.) The computer model Chalupa and his team at ABN AMRO have devised to conquer the currency markets is a hybrid of the two most prevalent forms of trading. The first is technical analysis, in which traders extrapolate the future from the zigzags of price histories. Sometimes called "charting" or "chicken-bones and pig-entrails reading," technical trading purposefully mandates an ignorance of forces underlying the market. In contrast, the second type of trading, fundamental analysis, incorporates economic, political, and psychological data. Surveys of forecasters done by Eurornoney magazine have shown that traders who rely on technical analysis outnumber fundamentalists 12 to 1--reflecting, perhaps, a market so complicated that most professionals throw up their hands, believing that it's better to have! the discipline of a chartist than the meager understanding of an economist.
Chalupa said his computer model reconciles the conflict between charting and fundamental analysis by applying stochastic measures, non-linear time-series analyses, and some other things I didn't understand- He's one of a growing group of financial professionals who comb scientific literature for theories and formulae to plug into their market analyses. Chaos theory, the physics that explains how the flapping of butterfly wings can stir a hurricane, is hot at the moment.
Chalupa told me his model had created some great successes. He rode the entire bull market in stocks up in the 1980s, was short during the 1987 crash, and had predicted and capitalized on the fizzling dollar. To rule out any emotionalism in his trading, Chalupa rigorously follows the instructions spit out by his computer each morning, placing his trades by 9:15 and letting them ride until his model tells him to change his position. "I don't wear a pager or pocket quote machine," he told me. "I can't stand them."
Chalupa said that with so many traders watching the same charts, it was crucial to have a different system, one that predicts--reasonably well at least--the direction of the dollar before the stampede into the market by the chart-watching technical traders and news-watching fundamentalists. Chalupa cited a Federal Reserve study showing that only 25 percent of the dollar's price changes have anything to do with quantifiable economic indicators, such as inflation, interest rates, and what economists call purchasing power parity, the ability of a currency to buy the same items in its own country as it would abroad. (Purchasing power parity seems particularly meaningless lately between the United States and Japan; the price of a decent personal computer in New York equals the price of Cur watermelons in Tokyo.) The other 75 percent of the dollar's moves defy quantification, Chalupa added. I found this notion interesting, given that my government was committing huge sums to the stabilization of its currency.
Broadly speaking, Karl Chalupa at ABN AMRO and other bank traders work the same market as Cliff Besser at the Merc, but there are significant differences between them. The Merc trades publicly, which banks, protective of their clients and information, do not. The bank market is also one hundred times larger. The Merc's marketers, like Besser, claim that the agent behind the great growth in currency trading is the internationalization of business, which causes a burgeoning population of exporters and importers to hedge their mounting foreign-exchange risks. Recent surveys, however, reveal that only between 5 and 10 percent of the money traded was for a non-financial customer, such as an importer or exporter; the rest was speculative, mostly bet by banks.
Jeffrey Frankel, former senior international economist at the Council of Economic Advisors and now at the Institute for International Economics, says the huge speculative trade among financial institutions may mean that much of the trading is "noise trading"--that is, institutional speculators acting on data before knowing whether it's material or trivial. Since speculators bet billions on information that never amounts to much, the currency market swings more wildly than economic circumstances warrant, as the market both diminishes old noise and pumps up new.
None of that speculation would be worth undertaking if the cost of betting were high. Banks, for instance, don't wager big on currencies that are subject to state-enforced exchange controls, such as the Chinese renminbi, or on the illiquid currencies of smaller economies, like the Zambian kwacha. By contrast, the trade in the world's leading currencies, especially among banks, glides in the interbank market, where traders can reverse the course of their own millions almost instantly for just a few pennies. Ironically, it is the same efficiencies government planners have urged for the rest of America's businesses that have increased the non-economic, purely speculative trade in money. The changes have opened a sluice for a tide of speculative money so large that it taxes all government efforts to control it. The news crossing traders' computers, whether budget data, job statistics, interest-rate hikes in the United States, political assassinations, a bribery scandal in Tokyo, or saber rattling in Iraq, is all worth taking a shot on. If the noise ends up news, the trader may catch a trend. If not, what the hell? There's more noise/news coming.
By now I understood most of the short-term causes of currency volatility, but I still hadn't seen the weight of the largest market players. "The super-successful traders," David Lucas, the senior mark trader at First National Bank of Chicago, told me, "are the guys who take the orders they have, such as a customer who wants to sell $100, and they sell $120. That way they risk $20 dollars of their own and get $120 worth of oomph from the trade." ForLucas, like all interbank traders, $1 is shorthand for $1 million. He wouldn't say exactly how much foreign-exchange business First Chicago does every day, only that it is roughly equal to the value of everything traded daily on the New York Stock Exchange. And his is just one bank with sixty traders.
When Lucas gets an order that gives his trade "oomph," he, like Merc trader Cliff Besser, hopes to ride it only a short distance for a quick profit. "The sexy way to trade," Lucas said, "is to have a proprietary account and catch a big move. But, to be honest, the way to make money is to buy and sell as many times as possible."
First Chicago has a sweepingly graceful headquarters, curving up from a wide base into a slender skyscraper at the heart of Chicago's Loop. The building sits beside a sunken white plaza and a pastel mosaic of angels and spirits Marc Chagall designed for it. On the seventh floor is the bank's vast trading room, called its treasury. I'd been warned that banks hide their trading operations--in part to protect trading customers, Put also because they fear the banking public would take unkindly to the mammoth, free-wheeling way that banks trade their money. One secret that banks have kept well is that throughout the 1980s and early 1990s, trading operations--along with consumer-credit divisions--were the top profit centers at many large banks and propped up their core business of lending.
Lucas, a husky six-footer with a round baritone voice, moved through the trading room nodding and joking with his coworkers. I noticed that he was remarkably relaxed about what I was seeing, given the sums involved. His trading room was as big, although not as chaotic, as the trading floor of most major exchanges, and it was obviously managing a flood of business. Lucas saw me shaking my head as I looked around. "Some people here worried that letting you in would compromise our customers or reveal things about the business we don't want public," he said, amused. "But I thought you wouldn't understand most of what you were looking at anyway." He was right.
Whereas ABN AMRO's much smaller trading room was built from scratch with the latest technology, First Chicago's room was jerry-built with multiple generations of equipment. Four computer monitors, from small to large, and two keyboards cover Lucas's desk space. He can speed around in his chair from screen to screen. To his left, just next to his desk, is a square console that looks like a 1950s transistor radio. Attached to it are small, hand-tom masking-tape labels, with names like Noonans and Bierbaum scrawled on them--identifying the garbled, overlaying voices of the world's top currency brokers, the billion-dollar go-betweens in the interbank market. They don't trade much themselves, but they tell the big boys what the other big boys are doing. To me, their chatter sounded like the static of a subway P.A. system. But the prices quoted hit Lucas's ears loud and clear. "I can hear it in the bathroom," he said. Two switchable microphones snaked out of the voice console, allowing Lucas to play the brokers against one another.
Unlike the futures markets, which are strictly regulated by the Securities and Exchange Commission and the Commodity Futures Trading Commission, the much larger interbank market is governed by a slender, voluntary rule book. No regulator can rein in banks all over the world, and domestic regulators fear that placing controls on their countries' banks would send business abroad. What keeps banks honest is the need for players to play again. "We really rely on other banks for liquidity," Lucas said, "and they rely on us."
Lucas's growth as a trader paralleled First Chicago's. He said that when he started, a $20 million trade was enough to perk up the desks, but now $50 million trades are routine, and $250 million trades can occur without a move in the market. Oddly, though the interbank market handles the world's largest transactions, banks charge no commission for their currency trading. "It's worth it for us just to have the information about what others are doing," Lucas said. As for his trading system? "Everything I need to know," he said, "I learn from the orders customers have given us." That luxury, getting an advance read on the psychology of the market, is what Lucas calls "the franchise." It means he has hard data,/n the form of customers' instructions, which tell him where and when there will be heavy dollar buying and selling.
For the most competitive banks, one of the customers asking for prices can be none other than the Federal Reserve. The banks that then get the Fed's considerable business are those that offer it not just the best price but the best intelligence. For the banks that get the trades, receiving the first signal of an intervention is a bonanza, for the banks can piggyback on the Fed's order. Or they may see the intervention as creating an artificial level in the market, and trade against it. Or do both, in succession. Talk about a franchise.
Lucas estimates that there are about 2,000 currency traders in the world with enough clout to make them worth watching--a small number, considering the enormity of the market. Traders without a money-center bank "franchise," like Cliff Besser at the Merc and Karl Chalupa at ABN AMRO, run on wits, luck, and chicken bones. Not everyone can siphon profits off this whirlpool of money. "For the most part," Henry Gonzalez, the populist Democratic congressman from Texas, told the House banking committee earlier this year, "the main beneficiaries of currency intervention are speculators, yet the Treasury Department and the Federal Reserve continue to place tens of billions of dollars of taxpayer funds at risk."
But what did it mean to Lucas that he took advantage of the dollar's decline? "The dollar is kind of our national stock," he told me, "and most of my career the dollar has been going down. But I hate that. . . . It's like there's an international referendum on our country, and we're not getting the A's. The down dollar wounds my psyche. . . . But," he added with a naughty smile, "that doesn't mean 1 don't hit the bid [and sell dollars] when I think they're going down."
Paul A. Volcker, the Federal Reserve head beatified by the financial community for reining in the double-digit inflation of the 1970s, has committed his clout to an effort to stabilize exchange rates, precisely because of their tendency to fluctuate excessively. Volcker, through the private Bretton Woods Commission, which was recently established to lobby against the dollar's free float, argues that volatile currency markets waste huge economic resources and, more dangerously, fuel calls for protectionism. Yet neither government bankers nor the world's most sophisticated trading organizations can sort good economic data from bad. What voodoo, one wonders, would the world use to conjure a level at which to fix currencies? The same voodoo that traders use to make their bets? Even the best magic is unlikely to rein in the huge currency markets for long. Fixed rates ended under Nixon because his domestic agenda could not support the Fed's commitment to stabilize all the world's money. Since then administrations have often found their monetary policies at odds with their currency targets. In any case, banks and their traders make money on excessive fluctuation and would no doubt lend their considerable clout to fighting the refixing of exchange rates. And that's not just political clout. More fearsome is the interbank market's new high-volume might, which can breach whatever economic sandbags central banks erect to contain volatility.
In all this, it occurred to me that I had been wrong in thinking that the dollar was my currency and that its losses were my losses. Last year, the United States' economy amounted to 22 percent of the world economy, yet 61 percent of the world's currency reserves are dollars, reflecting a lot of offshore activity by foreign central banks in our nominally national currency. It is also a sign that the world still holds dollars as its currency of choice. Moreover, the dollar has held steady against a broader index of currencies and gained against the currencies of some of our biggest trading partners, like Canada, Mexico, France, and Britain.
Over the long run, traders and economists argue, currencies reach their proper levels as long-range trends play out. But over the long run there are lots of short runs during which manufactured volatility, emotionalism, and mis-readings of data rule the market. And as long as traders can chum volatility up, the more they get of the same. Which is to say, the more money they will make.
Government intervention was until recently a useful tool for quelling dollar volatility, especially if the Fed, acting in concert with the central banks, launched its attack unexpectedly and followed it up with verbal bravado. But in light of the failed interventions of May and June, it is time to reassess what even a perfectly planned intervention might accomplish. There may simply be too much money out there for intervention to be effective. Some market watchers, like Volcker, have suggested that government intervention could work if it were better coordinated and more forceful. One proposed solution would be to create a giant fund so rich, perhaps a trillion dollars, that it would cow the most intrepid private-sector traders. It's a tough call whether such a massive price-support system for money could work less miserably than, say, the price supports for milk or Cuban sugar. One scary prospect of massive government fiddling is that it would increase the dollar's volatility by feeding the pool of money that bank traders chum and skim.
Even if the Federal Reserve had enough money on hand to bully the trillion-dollar marketplace, the method of its intervention may mean that its efforts are virtually guaranteed to fail. To keep intervention from playing havoc with domestic bank reserves, the Federal Reserve "sterilizes" its currency trades, in effect reversing those trades in the domestic bond market. Thus, if the government sells marks and buys dollars on the interbank market, for instance, it counters the resulting drain on the money supply by turning around and buying U.S. government bonds, pushing the money back into the system. Such a strategy is an exercise in impotence. Helen Popper, once an economist at the Federal Reserve and now at Santa Clara University, has studied the data on the Fed's interventions and told me that, at best, the effects of sterilized intervention last no longer than two days.
After the intervention by the United States and other countries in late June, Cliff Besser called me. He was happy. The markets had been wild and the trading was good. I asked him about the intervention. "It proves that the governments are helpless," he said elatedly. The dollar, he added, edged up at first while the central banks were buying dollars, "but the rally back [in marks and yen] was more forceful than the intervention. The market kicked their ass."
I still think I'm destined to be a loser in the market. Not so much because the Japanese and Germans are getting rich at my expense. Even small fry like me can diversify out of dollars by buying a managed foreign-stock fund or a certificate of deposit in marks or yen. Rather, I'm a loser as a citizen and a taxpayer, as long as the U.S. Treasury and the Federal Reserve keep spending public funds on intervention, giving dollars to the guys with the squawk boxes and computers. |
