Forex trading up sharply in 2018 as volatility returns

By Tommy Wilkes

LONDON (Reuters) - Foreign exchange trading volumes have risen sharply since the start of this year, new data showed on Thursday, as investors ramped up bets on a weaker dollar and uncertainty about the end of the era of cheap money stoked volatility.

Foreign exchange volatility has slumped in recent years as record levels of liquidity provided by central banks calmed markets and left investors with fewer ways to wring a profit from trading currencies.

But the continued depreciation of the dollar this year, accelerated by the U.S. Treasury Secretary's comments welcoming a weaker dollar, as well as signs that central banks will begin dialling back their stimulus, have fired up currency markets.

Electronic trading platforms are also reporting a sharp increase in fixed income trading volumes.

CLS, a major settler of trades in the FX market, said the average daily traded volume submitted to it had risen to $1.805 trillion in January, up 24 percent from a year earlier and up 15.6 percent from December.

"This year we've observed a much more substantial increase as FX volatility has risen. For the last six months of 2017, we saw a broader trend of year-on-year increases...but in January the market has really taken off," said David Puth, CLS's CEO.

CLS said trading had accelerated further in early February, possibly as the equity sell-off starting in late January increased volatility even more.

In the first four days of last week, Feb. 5 to Feb. 8, volumes rose by a further 14 percent over January's numbers to $2.054 trillion, CLS said.

Currency market swings, however, have been far more measured than in stocks, with volatility still below long-term average levels.

Thomson Reuters said this week that FX trading volumes on its platforms had hit a record high in January, the first month following the introduction of sweeping European regulations, known as MiFID II or Markets in Financial Instruments Directive II.

Average daily volumes topped $432 billion in January compared with an average of more than $407 billion, the company said.

The new European rules, designed to increase market transparency, have also driven electronic fixed income trading volumes.

MarketAxess, one of the bigger platforms, said this month that average daily trading volumes hit a record $7.3 billion in January, up 22 percent from a year earlier.

RISING VOL

The uptick in volatility will be welcomed by investment bank trading desks, which can make more money when prices swing wider but have faced years of calmer markets.

"January was active because it was the start of the next phase of the dollar’s depreciation, and then you had the ECB," JP Morgan's Head of Currencies and Emerging Markets Trading in EMEA, Stephen Jefferies, told Reuters, referring to minutes from the European Central Bank that raised speculation of monetary tightening in the euro zone.

Still, Jefferies noted that volatility in the world's most traded currency pair, the euro/dollar, remains below its long-term average even after the recent rise.

When stocks tumbled earlier this month, Jefferies said currencies did not move as much as many had expected, suggesting "positions might not have been as big as you thought".

But with central banks expected to accelerate unwinding of their balance sheets as inflation expectations rise, currency volatility is set to rise.

"This shift in central bank thinking has some serious implications for currencies as well," said Neil Jones, London-based head of hedge fund currency sales at Mizuho bank.

(additional reporting by Jemima Kelly and Abhinav Ramnarayan; Editing by Sujata Rao and Gareth Jones)