Who is selling?

[Shakone]

Slight conceptual problem I'm having with forex movement.

At a basic level, say that an exchange rate is moving up when there is more demand than supply, and down when there is more supply than demand. Or in other words more selling, or very little buying, and exchange rate X starts dropping.

Now suppose that for exchange rate X, we're in a situation like the pound during ERM, or the EuroSwissy not so long ago, where it is 'known' that the central bank will defend a level (say 1.5000). Then I have often read that this level will be tested by the market, and in reality it does seem to happen.

But when it gets close, say to 1.5100, or even 1.5050, who is actually selling and bringing it down to the level 1.5000? Because I can imagine a few people wanting to buy near the defended level, but not many that want to sell. Especially as once the bank intervenes, it will be soaking up a lot of supply, and how is anyone trading in size going to get out of their position? Is it just that various companies who don't care about trading and need a particular currency are bringing it down due to the economic situation, while hedge funds and smart traders entered long ago and are just waiting and watching?

 

[Rhody Trader]

There are loads of reasons why forex trades get done. A great many of them have nothing at all to do with speculating on the future direction of the market. Sometimes folks just buy because they need to buy and sell because they need to sell.

 

[Trader333]

But when it gets close, say to 1.5100, or even 1.5050, who is actually selling and bringing it down to the level 1.5000

In my view you have missed a key issue here and that is no one needs to be selling for the market to decline. All you need is a lack of buying support, so if no one is buying then the price will keep falling until someone does start buying but it does not necessarily mean that there is a lot of selling going on.


Paul

 

[MrGecko]

I guess the trades that are being done at that level are just regular "flow" trades - I mean not a specualtion on the rate, but done as a hedge for something else or because they actually need to change one currency for another.

Just a guess though.

 

[Shakone]

Thanks guys. I recognise it can fall due to a lack of buying, but if nobody is selling around 1.5050, it can just as easily rise from there. As I mentioned Rhody, I did wonder if it was perhaps just the non-speculating companies who need one currency or other currency, but was wondering if there was a more contrived reason for it.

Would a hedge fund push it in that direction, so that they can later sell much more at a higher level, etc.? And I seem to remember in market wizards, that some traders were selling more and more, just as it was knocking up against the level that the Bank of England said they wouldn't let break. If you do that just before it breaks, fantastic, but it seemed quite risky when I was reading it.

If you know a level isn't going to be breached (at least not for some time, or not easily), then going long near the level, gives you a nice tight stop, and great risk reward when the Swiss bank comes in and pushes it 300 pips higher. Of course you may have trouble with where your stop gets filled when it breaks

 

[Rhody Trader]

Given the track record of central banks being able to stop a market move, I would be extremely uneasy with the idea that some perceived CB limit level was any kind of barrier. Keep in mind the varied timeframes of the players involved. There will be folks trading very short term who aren't worried about intervention and there will be those in the longer-term with a similar mindset. And of course some players will try to push the market toward the perceived barrier like they would with a collection of stops, looking to use the quick move a break would trigger from longs bailing out to make a quick buck.