Long-Term Currency Trades

[melo]

Liquidity is one consideration. A three-month tenor compromises between the additional costs of rolling a one-mth, and with 1yr getting locked into a longer-term view which you might wish to change. But ultimately it's whatever's in tune your portfolio strategy.

I believe the leverage depends on an investor's overall situation. After all, the CME Eurocurrency future contract is around 1:85 leverage. One contract held in a $5000 trading account could be damaging; within a US$100,000 portfolio it might be acceptable.

Certainly it is the cash-efficient way to translate a portion of overall portfolio $ exposure into another currency. As long as you can understand the mark-to-market implications, and model the best and worse outcomes.

The carry itself is the same whether the contract is fully-funded or margined - it's embedded in the forward or futures contract.

 

[sim03]

Quote from melo:

Depends on his margin:equity ratio, surely?

His exposure might only be a small proportion of NAV.

No. Not given the way the OP has described what he is looking for.

His target margin:equity ratio is 1:100, in a separate forex account "to buy and hold fx" such that he can "minimize the cash used" and "[not] have much cash tied up." His overall portfolio NAV is irrelevant to the forex account NAV.

 

[melo]

Quote from sim03:

His overall portfolio NAV is irrelevant to the forex account NAV.

Possibly we’ve translated his intentions differently.

From a trader’s perspective, your cautionary words on leverage are very appropriate for the newbie hellbent on speculating his way to a quick fortune in the FX bucketshops.

But an holistic picture of the client's asset allocation and overall net worth isn’t irrelevant in portfolio planning.

Suppose an investor's portfolio size is USD1million of USD assets. 5% is in cash. Has a negative dollar view, and desires about 20% diversification into euro.

CME EuroFX futs are around 1:85 leverage. He puts up margin of $2025 (20bps of his NAV) to translate about $180,000 of $exposures into euro

If after a year of rolling that future, the EURUSD spot rate has sunk from 1.46xx to 1.25xx, and he's stubborn enough to maintain it, he's $26,000-ish down on that position ...a -2.6% impact on his NAV. The cash element of the portfolio is sufficient to maintain the unrealised loss.

Meantime, while bleeding from the mark-to-market losses on the EC futures, he's switching out of US exporters stocks to those who'll benefit from a weakening euro.

If the investor views both activities as complementary in trying to achieve some benchmark return for his portfolio, and is cognizant of and comfortable with the risk and volatility, so be it. Even if you might argue it’s sub-optimal for a number of reasons, it’s not likely to be terminally wealth-damaging under such parameters.

 

[sim03]

Quote from melo:

Possibly we’ve translated his intentions differently.
...
If after a year of rolling that future, the EURUSD spot rate has sunk from 1.46xx to 1.25xx, and he's stubborn enough to maintain it, he's $26,000-ish down on that position ...a -2.6% impact on his NAV. The cash element of the portfolio is sufficient to maintain the unrealised loss.

Anything is possible. The OP stated that his "job precludes [him] from investing in currency futures." For the purposes of our discussion, currency futures and spot forex are numerically similar / equivalent... fine... let's look beyond that rather impractical aspect of your analysis.

More importantly, the OP said that he is looking for a forex broker to implement his plan, while keeping his current (non-forex) investments intact.

Your analysis only applies to a single, universal-type account, combining at least stocks and forex. Besides IB, there are very few such brokers; at IB, carrying that out would be a couple of orders of magnitude less than 100x leverage, as the entire free balance is available as margin for the sinking forex position.

In a separate forex account, the unrealized loss may trigger a margin call within days, hours or minutes, even at a 400:1 forex dealer. "The cash element of the portfolio" is sitting at different broker(s), does him no good and is indeed irrelevant.

This isn't an idealized class on MPT, conveniently stripped of institutional details; this is the real world, where it's all about such details. Cheers.

 

[melo]

Quote from sim03:

This isn't an idealized class on MPT, conveniently stripped of institutional details; this is the real world, where it's all about such details. Cheers.

There's really no need to add the sarcastic veneer to your otherwise fair comments.

In the real world I inhabit (AsiaPac), private investors and their advisers do pursue similar strategies - e.g. the faddish 'portable alpha'.

Such 'universal-type' accounts are widespread here . Retail banks such as HSBC offer their middle-class customers consolidated accounts within which they can trade stocks, mutual funds, forex, structured notes, exotic FX options etc. alongside their checking account.

Cheers to you too, sir.