Why are we trading FX?

Is it just because of the low transaction cost? Is it because the FX manager area used to be unregulated?

Nope. Here's why we trade it. Here's why no investment manager can not afford not to invest in FX as a source of uncorrelated alpha.

FX is the largest market in the world. It trades more than 4.000 billion USD per day.
It's liquid, the amount of market participants is high, there is a natural trading demand (from corporates, individuals, businesses that need to buy other currencies), it's easy to price/value.

FX has been a cash cow in investment banking for decades. Investment banks have had always FX prop and FX flow trading and it is a core element of investment banking.

In Asset Management FX it's only something to hedge, to control exposure, to be aware of the risk – rarely traditional asset managers see FX as a core source for yield. Strangely only few managers have discovered FX investment products as a source for uncorrelated yields....yet.

Today fixed income rarely lives up to the asset-liability-management (ALM) requirements (approx. 4% p.a.), equities are too volatile and the returns are too unstable, alternatives are often illiquid and hard to price (mark to market, mark to model). So let's look at the chances FX has to offer...

Compared to the size of the market there are not enough FX managers and FX products. The EU retail market offers approx. 9.500 funds for retail investors. Every strange investment theme like rare earth or diabetes is being especially covered by funds and certificates and there are thousands of nameless xyz long only funds. Any small investment nichs is being addressed but the biggest market in the world is under represented. Only very few of the retail funds are FX funds and most are even FX cash plus products (with short term bills in other currencies in it).

For traders FX offers the advantage that on days where e.g. Dax goes down 5% and loses 25% in three weeks with low liquidity and without the chance to exit positions due to a lack of a buyside in such extreme conditions, FX stays liquid, tradeable and unaffected of the major market decline.
 
In years like 2008 when Dax went down -40% and bonds were illiquid or in weeks like August 2011 when Dax lost 25% in three weeks, the FX products tend to do well. Even if there were losses in such a month there should be no direct correlation to the slaughter in equity or bond markets.

A phenomenon like deleveraging in 2008 (when everything fell simultaneously including Gold, Silver, etc.) did not mean a loss of value in all currencies. "FX" investments do not per se lose value if people exit the market.

It seems it qualifies as a diversifier. Who can afford to ignore FX?

Liquidity, uncorrelated yields, low costs, transparency. This is why we trade FX.
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