Foreign Currency Trading Volume

Currency traders concerned about the uncertainty of the markets have stayed home in large numbers during the last month resulting in low foreign currency trading volume. Figures released by US banks that trade foreign currencies show a distinct reduction in revenue due to decreased Forex trading. What does generally reduced foreign currency trading volume mean for the individual Forex trader? Does reduced foreign currency trading volume change how to trade Forex? First of all remember that traders are not staying out of the market because volume is low. They are staying out of the market because they think that the market too volatile, especially in trading the EUR/USD, EUR/YEN, EUR/CHF and other currency pairs that include the Euro. Nevertheless, Forex technical strategies work best in high trading volume and high liquidity. So, to a degree we might be seeing a domino effect. Traders watching the fundamentals leave the market because of confusing reports about resolution of the European debt crisis. Then technical traders leave the market because trading volume is low. This sort of thing could become a vicious circle of cause and effect leading to ever lower foreign currency trading volume.

However, the fundamentals in Europe will eventually change. The situation is driven by the fact that debt instruments in various nations of the PIIGS group (Portugal, Italy, Ireland, Greece, and Spain) are coming due. In Greece, especially, the problem is acute as creditors are demanding severe austerity measures in return for debt forgiveness and debt extension. The value of Greek government notes has fallen drastically. The concern of the Forex markets is that if the Greek government defaults on its debts there will be a ripple effect throughout the EU and even the world. Greece could be forced to withdraw from the EU. The situation will resolve itself for good or for ill. At some point the fundamentals will become less chaotic and less vague and trading of the Euro will pick up again. The downward direction of the Euro will probably stop. Because the majority of trading in Forex markets involves the US dollar an increase in foreign currency trading volume will include the USD. The US dollar could fall versus the Euro in an EU recovery. Traders bullish on the Euro could prosper in such a situation.

There is a sort of fatigue that sets in when markets are constantly chaotic, hard to predict, and unprofitable. Lack of profit and perceived potential for profit is often more important in driving down foreign currency trading volume than the specifics of trading themselves. Forex traders work with a trading strategy. Successful traders back test their results. When they are not making profits and do not understand why, the better choice is to sit on the sidelines until things become more clear. Many traders who stay in the market in such situations use options. For example in trading options on the falling Euro a trader might buy calls on the Euro with dollars. If the debt crisis resolves itself well the Euro will rise and the trader will profit. If the situation worsens the trader has limited his risk to the cost of the options contract.