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Futures are traded on special markets set up to trade them, the most important of which are the Chicago Board of Trade (CBOT), the Chicago Mercantile Exchange (CME), and the New York Mercantile Exchange (NYMEX).
Why You Should Care
Commodities markets serve the economy as an important way to set prices on key materials that the economy depends on, both now and in the future. Ultimately, the price of the coffee you drink or the gas you buy is determined by what happens in the commodities markets. Commodity futures also provide a way—albeit not the only way—to invest in the perceived future scarcity of materials like oil, and in the performance of the economy in general.
Commodity traders like to point out that there is less “headline risk” in commodities—that is, there’s no CEO or CFO to be caught fudging the books, for instance. Many of the human factors that add risk to stocks, bonds, and other investments are not present in commodities; investors consider commodities to be more of a “pure” investment.
81. CURRENCY MARKETS/FOREX
The exchange of national currency is vital in the course of national trade, and thus in the course of international economics. We ca
What You Should Know
The dynamics of currency exchange and exchange rates are complex and covered in more depth in Chapter 8. Here, we’ll talk about the foreign exchange markets themselves (known as “FOREX” or simply “FX”), and how they work.
Like commodity futures (see #80 Commodities, Futures, and Futures Markets), foreign exchange is a bigger market and plays a greater role than simply as a place for buyers and sellers of foreign goods to acquire the needed currency. Banks, large businesses, central banks, and governments use the FOREX markets to hedge positions, and even to implement policy, buying or selling currencies to achieve an exchange rate objective. And also like commodities, a considerable number of speculators and short-term traders “bet” on moves in currencies with relation to each other, adding market volume and liquidity to make exchange rates truly reflect the supply and demand of the moment.
Foreign exchange markets have grown enormously with the increase in international trade and the tendency since the early 1970s for countries to let their currencies “float”—that is, trade freely with a market-determined exchange rate. The average daily volume of FOREX transactions in 2013 was about $3 trillion, up from $2 trillion at the end of 2011 and $761 billion in 2008—phenomenal numbers. More than half of that volume is represented by dollar-euro and dollar-yen trades, according to the Foreign Exchange Committee’s Survey of North American Foreign Exchange Volume.
Foreign currencies can be traded outright as “spot” trades, or as futures, forwards, or swaps. FX markets are more like bond markets than stock markets—a loosely co
Why You Should Care
The exchange of currency is vital to the function of the growing global economy. While outright currency trading is complex and best left to specialists or dedicated individuals, the outcome of FOREX trading can have a big effect on what you pay for foreign goods, and on the greater health of the economy.
82. BROKERS, BROKER DEALERS, AND REGISTERED INVESTMENT ADVISERS
Your good friend John Smith, a registered investment adviser, wants your business. He wants to help you by investing your savings and managing those investments.
Your good friend Mary Jones, a broker working for YouNameIt Securities, a registered broker-dealer, also wants your business. She also wants to help you manage your investments.
What should you do? What do these people do, and what is their premise and promise in the management of your assets? Broker-dealers and registered investment advisers perform an important role in helping individuals (and corporations and institutions) manage their money, since perhaps they don’t have the time, expertise, and interest in doing so. It’s a service like any other service. But it’s good to know a few things about what these folks do, how they’re regulated, and what the pitfalls are before you pick one, if you decide that the “do it yourself” choice isn’t an option.
What You Should Know
A broker-dealer is a company set up and in business to trade securities—stocks, bonds, and commodities—for its customers (as “broker”) or on its own account (as “dealer”). Most broker-dealers participate in the markets to make money for their own benefit. A broker-dealer is a corporation or some other business form, not an individual. Many broker-dealers are actually subsidiaries of larger firms—banks or other financial services companies.
Broker-dealers are regulated under the Securities Exchange Act of 1934 by the SEC (see #43 and #44). They are also self-regulated to a degree through a familiar trade industry group known as the Financial Industry Regulatory Authority (FINRA), formerly known as the more familiar National Association of Securities Dealers (NASD).
Registered investment advisers (RIAs), on the other hand, can be individuals or firms registered with the SEC or a state regulatory body to manage the investments of others. RIAs can work independently, for RIA firms, for broker-dealers, or for other non-RIA firms.
An RIA must pass an exam (FINRA’s Series 65 Uniform Registered Investment Adviser Law Exam) or show equivalent professional competence, fill out forms, and pay filing fees, but there is no required curriculum or technical standard of performance. The standards are more centered on customer care, including the commitment to act in a “fiduciary capacity” by always placing the interest of a client in front of personal interest. There are also standards for disclosure and avoiding conflicts of interest. These legal responsibilities are well known but can be difficult to enforce in practice; RIAs must keep accurate records and file periodic reports. RIAs are usually paid on a fee-for-service basis, while broker-dealers are typically compensated by per-transaction commissions.
The key difference between broker-dealers and RIAs in practice is liability: RIAs can be liable for the advice they give, while broker-dealers as firms are not. Further, there is no clear regulation of the conflict of interest in a broker dealing in the same securities for its own account while advising you to buy or sell them; it’s a bit like doctors making money from the drugs they prescribe for you. Not that this conflict comes into play continually, but it happens, and it’s something to be aware of.