Why Do Some Firms Engage in Currency Trading?

Video Transcript

"I'm Roger Groh and today we are talking about how do firms engage in currency trading? How do you actually do it? Well if you think about it you don't want to carry around piles and piles and piles of money trading currency because you are talking about the biggest banks in the world and countries that are doing this along with individuals so nobody carries cash. What you do is you trade pieces of paper that say I will deliver to you cash, dollars, yen, or whatever it might be on this date at this price. Those are called options and that is typically the way that currency is traded locally. In the old days until a year ago it used to be that the biggest banks in the world were the biggest customers in the business and if Citibank gave you a note that said that they would deliver yen to you tomorrow then they would do it because it was Citibank and they were reliable but the problem is Bear Stearns also did that and the problem Lehman Brothers also did that and the problem is Security General also did that and they're bankrupt. So along with options today you have to be very careful on who in fact is on the other side. Are they really going to be there? That might mean that you keep the option date short. You don't look for it a year because I don't know if Bank of America is going to be healthy in a year or not. To me that is a big bet but a week, o'kay, I can deal with a week, a month, maybe a month, but keep it short and sweet and make sure you are dealing with a reliable institution on any option that you buy."