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Everybody Always Manipulated Everything, Basically

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When I was growing up the phrase "market manipulation" really meant something. To be a "market manipulator" in the grand style you needed to corner a market, or pump and dump, or organize a bear raid, or do some other cigar-chompy mustache-twirly 1920s-y thing, I don't know, it was never really my thing. But there was always a sub-manipulation category of just, like, trader skulduggery. Trading is about eking out tiny advantages over your counterparties by any means that you plausibly think might be legal, and the occasional pounding of the close or conducting of imaginary negotiations was all part of the game. "He's a scumbag, but he's our scumbag" was a genuine compliment.

The Libor manipulation scandal has really messed with that, huh? For one thing, Libor manipulation was a pretty uninspired brand of manipulation; all you had to do to manipulate Libor higher was to say "hi our Libor is higher." Not a lot of imagination there. For another thing, it's so obviously bad that anyone can understand it and get mad about it. "Wait, you just lied about an imaginary number and made billions of dollars at the expense of now-bankrupt municipalities? You really suck, you know that?" said everybody, basically. Then they all sued.

Which is all bad enough but the real problem is that now every bit of garden-variety scumbaggery immediately gets branded manipulation. And then investigated and, like, reformed and stuff. Today, for instance, there is this Bloomberg article about how FX traders manipulated the WM/Reuters close in certain currencies to basically clip a little bit of money off of clients who had put in orders to execute at that fixing:

One trader with more than a decade of experience said that if he received an order at 3:30 p.m. to sell 1 billion euros ($1.3 billion) in exchange for Swiss francs at the 4 p.m. fix, he would have two objectives: to sell his own euros at the highest price and also to move the rate lower so that at 4 p.m. he could buy the currency from his client at a lower price.

He would profit from the difference between the reference rate and the higher price at which he sold his own euros, he said. A move in the benchmark of 2 basis points, or 0.02 percent, would be worth 200,000 francs ($216,000), he said.

Well of course he would, right? I mean, that's what that order is; it's:

  • Client takes the risk that the WM/Reuters close won't be all they'd hoped it would be,1 and
  • Bank takes the risk that it won't be able to fill client at the WM/Reuters close.

The bank can choose to sell at the WM/Reuters close - that is, sell over the 60-second period where trades are sampled to create the fixing - to minimize the risk of missing the price. Or it can do whatever it wants, hope to trade at better than the WM/Reuters fix, and run the risk of trading at worse - but in any case pass on the benchmark price to the client. Either way, though, if the bank can sell its euros to the market at a higher price than it can buy them from the client at the fixing, it has made money. And its job is to make money. So it might as well work on both sides of that equation.

And so the fixing was, I guess, manipulated a little bit. A little bit:

“I’m skeptical of the ability of traders to manipulate the major currencies in a meaningful way given the massive size of this market,” [finance prof Andy] Naranjo said. “Governments themselves often have a difficult time moving foreign-exchange markets through their interventions, yet they have the additional ability to create fiat money and alter both monetary and fiscal policies.”

I mean it's all relative, Andy; governments are rarely trying to make 10 pips on a trade or whatever. Anyway this seems to have happened mostly in less-liquid currencies, as you'd expect, because the returns to manipulation there are bigger.

Anyway now this is being investigated and, probably, reformed. Sort of:

“The FCA is aware of these allegations and has been speaking to the relevant parties,” Chris Hamilton, a spokesman for the agency, said of the WM/Reuters rates. ... State Street [which owns World Markets, which distributes the data] hired London-based Freshfields Bruckhaus Deringer LLP to ensure that the rates comply with the set of draft principles for financial benchmarks published in April by global regulators following the Libor scandal, according to a person briefed on the matter.

Bloomberg News contacted foreign-exchange traders and investors after some market participants expressed concern that the WM/Reuters rates were vulnerable to manipulation. The traders and investors said they expected their market would be the next to be scrutinized.

The investigation is hampered by the fact that the spot FX market is entirely unregulated, or so everyone says, though I guess tell that to Bank of New York. So maybe they'll get away with it. Or maybe they won't? It's sort of hard to know what that would entail, though. "Your client gave you an order to sell euros at 4pm, and you sold euros at 4pm to manipulate down their selling price, gotcha!" I dunno. Of course there will be emails - there are alwaysemails - but the manipulation here, I submit, doesn't grab the imagination the way Libor manipulation does. Seems pretty blah, no? I guess the post-Libor manipulation scandals mostly will.

Traders Said to Rig Currency Rates to Profit Off Clients [Bloomberg]

1.Alternately: client doesn't care because he's measured based on that fix. There's a metaphysics of who the "client" is, I guess, but the investment manager whose portfolio is priced based on the WM/Reuters close just needs to execute at that close; getting a better or worse price is irrelevant.