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Lower leverage still answer to foreign exchange market

By October 28, 2020 No Comments

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Lower leverage still answer to foreign exchange market


Customers at a forex bureau in Nairobi. FILE PHOTO | NMG

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Summary

  • Solving the “almost 90 percent of FX traders losing money” problem cannot properly begin without first addressing the excess leverage issue.
  • Traders need discipline, dealers need strategy, they need patience but equally, need a “speed governor”.

In the past two weeks, I have taken some flak for my October 14, 2020 article in this newspaper headlined It is time to change foreign exchange leverage ceilings.

In the article, I posited that leverage curbs, as implemented in other trading spots successfully, could yield similar returns for both the broker and client.

The point was never aimed at throwing “headwinds” at an industry that is just beginning to crawl. Not to be misunderstood, I am 101 percent behind the retail foreign exchange (FX) world. That said, I genuinely remain concerned with the high trader mortality rate.

Frankly, solving the “almost 90 percent of FX traders losing money” problem cannot properly begin without first addressing the excess leverage issue.

Yes, traders need discipline, dealers need strategy, they need patience but equally, need a “speed governor”. Otherwise, they’ll keep crashing and how does that build an industry? It’s a win-lose situation in favour of the broker.

I was reminded the other day of this phrase; “if you find honey, eat just enough, lest you have your fill of it and vomit it up.” Well, I discovered that’s a difficult thing in real life.

People are generally undisciplined. Not least in the retail FX world—when presented with a 400:1 leverage, majority of traders lose their self-control.

Recent research by DailyFx (Forex Industry Stats 2020) shows why leverage curbs are needed.

According to its survey of 3,100 traders spread across 32 countries, the reasons why can be seen and well understood. For instance, 90 percent of African retail FX traders surveyed believe they can generate an average of 10 percent per month return – implying heavy use of the leverage.

In fact, this is way off-the-average as the second most ambitious group (European traders) only had 27 percent believing in achieving a 10 percent return per month.

Moreover, the study showed that 72 percent of forex traders had no experience trading any other markets before trading FX.

In fact, when the research divided the total number of traders according to their trading experience, the majority (92 percent) were beginners with less than three years’ experience.

Some 39 percent have been trading for 12 months or less and one percent have been trading for over 10 years. What’s interesting, over 80 percent of the participants believe that they could become rich by trading forex.

About 43 percent of traders placed 9-20 trades per month, 35 percent made 4-8 trades per month and 22 percent made over 20 deals per month. Probability here is in question as over half of the participants surveyed only spent 3-4 hours on daily trading.

In all, although many reasons lead to trader underperformance none is as potent as leverage misuse.

If the typical trader can survive to his/her fourth anniversary (profitable traders spend at least four years before they are able to build a winning trading plan) making minimum losses (as a result of reasonable statutory leverage), then the industry can make up for its “losses” from a wide base of happy and profitable customers.

That’s a win-win. Just to be clear, a win can look like 50 percent of the traders making money as opposed to only 15 percent currently. No industry can stand for long if its dear customers keep falling by the wayside.

Mr Mwanyasi is the managing director of Canaan Capital

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