By SARAH MORGAN
In the U.S., currency> trading is still a fringe bet for just a handful of traders. But almost 7,000 miles away, the Japanese are practically pros -- staying up all hours to short the yen against the lira, obsessively following central bankers' moves, and wielding such force they're moving currency prices around the world.
For a nation of 127 million, the power of Japan's currency traders may seem astonishing. Globally, household, or retail, currency trading accounts for less than 10% of the $4 trillion daily forex transactions, but Japanese traders are so active they account for significant moves in currencies they favor. For example, 4% of the daily turnover of the British pound, can be traced to Japanese retail investors, as can 5% of turnover of the Australian dollar, according to a 2009 study by the Reserve Bank of Australia. All told, Japanese investors account for a whopping 30% of spot trading in the yen, according to the Bank for International Settlements.
To Americans, that sounds nearly impossible. But to those familiar with the Japanese forex scene, it's not surprising. "They are sizable like that," says Javier Paz, a senior analyst with the Aite Group, a financial services consulting firm. And enthusiastic: Despite new restrictions on the amount of leverage traders can use (and therefore, how profitable or risky their trades may be), the number of retail traders rose 15% from 2009 to 2010, according to the Aite Group.
Why are Japanese investors so crazy for currency trading? First, Japanese households are, in the aggregate, flush with cash. The household savings rate has historically been high up to 15% in the early 1990s, though the rate has dropped to 2% in recent years, according to the IMF. (During the same period, the U.S. household savings rate was never higher than 8%.) At the same time, savers in Japan have also been stuck with extremely low interest rates, Paz says. And with the domestic stock market relatively flat, and an economy that depends heavily on trade, currency trading piqued Japanese interest. "By default, Japanese citizens are much more accustomed to trying to understand and follow what happens in other parts of the world," Paz says.
Of course, enthusiasm doesn't necessarily beget success. Japanese brokerages there aren't required to report investor performance like American ones are, so there's no way to know if they're actually making money. But one thing is certain: Americans aren't. Roughly 65% of currency trading accounts in the U.S. lose money, according to a recent SmartMoney.com investigation. For that reason alone, it couldn't hurt to see what Japanese retail traders have learned from years of experience:
Consider the carry trade (but be careful). Low yields in Japan have made the "carry trade," in which investors borrow one currency at a low interest rate to buy a higher-yielding currency, a popular move, says Dean Popplewell, the chief currency analyst at Oanda, a retail foreign exchange dealer. The most direct way to do this is to take out an actual loan in a country with low interest rates, like Japan, then open a savings account in a country where interest rates are higher, like Australia, so you'd earn more in interest abroad than you were paying at home. Forex dealers simplify this process (for a fee, of course), allowing investors to earn the Australian dollar's interest rate just by buying it against the yen (the dealer takes the other side of this trade). "In the currency world, a carry trade using very low leverage is a conservative investment compared to other kinds of trading," says John Jagerson, the founder of Learning Markets, LLC, and co-author of the book "Profiting With Forex." When exchange rates stay relatively stable, this kind of trade can be very profitable, as it was for many Japanese investors between 2003 and 2007.
But these carry trades still carry plenty of risk. An investor using 50-to-1 leverage would be wiped out by a 2% drop in the price of a currency he had bought, Jagerson says. At 5-to-1 leverage, it would take a 20% change in the exchange rate to wipe out a position. Moves that size are rare, but difficult to predict, Jagerson says. The Australian dollar's sharp fall against the yen in 2008 caused huge losses for Japanese retail investors, according to the Reserve Bank of Australia.
Don't forget emerging market currencies. While the U.S. dollar has slowly fallen from 90% of all currency transactions in 2001 to 85% in 2010, turnover in a few emerging-market currencies has been growing -- including the Turkish lira, Chinese renminbi, Korean won, Brazilian real, and Singapore dollar, according to a triennial report by the Bank for International Settlements as investors chase higher yields. The Turkish lira isn't likely to be on the average American investor's radar screen, but Japanese investors are increasingly willing to place bets on the lira, real, or other more "exotic" currencies, Paz says. Turkey's current interest rate is 6.5%, while Brazil's is 11.25%, higher than Australia's 4.5%, and far outpacing Japan's 0.1%. Of course, the less liquid the currency, the riskier the carry trade. Japanese investors are now actually supporting the price of the Turkish lira creating a risk of a sharp drop if the trade falls out of favor with the herd, Jagerson says.
Watch out for central banks. Currency traders tend to be "obsessive" central bank watchers, and Japanese traders in particular have had a lot of practice, Jagerson says. The Bank of Japan has historically been much more heavy-handed in its intervention than the Fed has, regularly pushing the yen as much as half a percent in a single day, he says. Over the long term, the Bank of Japan's desire to keep the yen weak has been a fundamental support for carry-traders selling the yen against other currencies, Jagerson says. These days, the U.S. Federal Reserve is also aiming for a weak dollar, which could provide support for investors thinking of selling the dollar against a higher-yielding currency. Those kinds of big-picture central bank goals are most useful for investors pursuing longer-term trades, Jagerson says.
Look for clues in the "cloud." Investors can conduct a currency trade based on fundamental analysis a view on rates remaining higher in commodity-rich economies, for example but many traders will also want to use technical analysis to help figure out the right timing for a trade, Paz says. As they do in stock trading, technical analysts look for mathematical patterns in price movements to attempt to predict where prices will go next, and most forex firms provide charting tools on their trading platforms. In Japan, traders use a technique that, while little-known in the U.S., can be very useful for currency traders making medium-term moves over several weeks or months, he says.
Called "ichimoku," or "one-glance cloud chart," the strategy relies on a system of moving averages that show the recent direction of the market, says Brian Dolan, the chief currency strategist at GAIN Capital. Traders take the average prices over the past 9, 26, and 52 days and then take those trend lines and project them forward into the next 26 days. The visual space on the chart between those lines is called a "cloud," and traders look at where within that space current prices are moving, Dolan says. The system provides buying and selling signals that traders won't get from other charting techniques, he says. "What the ichimoku has going for it, especially for the yen pairs, is you've got a lot of Japanese traders looking at these trends and placing orders off them," so it can become a self-fulfilling prophecy, Dolan says.