Currency Traders: The Fed Has No Clothes! Part 1

(Or, in other words: What's Going To Happen With the US Dollar?)

I recently spoke at The New York Traders Expo and once again, one of the most frequently asked questions was: 'have we seen the bottom in the dollar and if not, won't the Fed step in soon and stop the decline of the dollar against the major currencies?'

Before I tell my answer, let me go back a little over twenty years and tell you how the idea that the central banks stop and start trends in the currency markets became a popular myth. In the mid-1980's, I was one of the four or five largest currency traders in the world. When the Fed wanted to intervene in the currency markets in the US time zone, they rang my desk and got instant execution. I regularly intervened for the Fed in both the cash FX markets and the currency futures markets. Intervention then was not a new idea or concept-it was a normal part of the markets. The institution I traded for regularly intervened for the Fed in the currency markets, the interest rate markets, the debt markets, the stock indices futures markets and even the foreign debt markets. The thinking at that time was that the Fed would generally help smooth market moves, because disruptions were viewed as a bad thing.

If you want to know what it's like being one of the four or five largest cash currency traders right in the middle of a world wide economic event, keep reading! If you want to know why the central banks are unable to put together meaningful coordinated intervention packages these days, as they did in the Plaza and Louvre Accords that rocked the currency world in the 1980's, read on!

In the summer of 1985, I was not only running the cash FX trading operation but I was also the Head of Execution for the Risk Committee for the bank's proprietary trading portfolio. I carried a satellite phone around with me any time I was not at the bank-they were very heavy and were housed in a bulky box, but the reception was always great. I also had one installed in my midnight blue Jaguar, even though the antenna had to be drilled through the trunk and stuck well above the convertible top. I was a slave to the bank's directive that I always be available.

I loved to fish back then; in fact, I still fish every chance I get. I particularly like to fish for trophy musky and walleye in the fall so in late September of 1985, I drove up to a large lake in northern Wisconsin on a fishing trip with my wife. We had time to check into the house we had rented for the two week vacation, get something to eat and we were just packing our fishing gear to go out and unwind after a seven hour drive when the satellite phone rang. My wife gave me a glare that would have melted a steel bar, but I picked the phone up-I had to! It was the President of the bank I worked for and he told me he needed me back at the bank first thing in the morning. I reminded him I had just gotten here and I had not taken a vacation that summer. And of course, I'd have to drive most of the night just to get home. He told me to forget all the excuses, get in the car and get back to the bank.

'Something has come up.'

I tried one last time: I told him I was on vacation with my wife-we'd only been married two years and hadn't taken a honeymoon-and she wasn't going to like riding back home all night on a Sunday night.

'Let her stay and fish', was his reply. 'I need you here in the morning.' Then he hung up.

I started to explain to my wife but she told me she had heard the conversation and she wasn't going to stay if I was heading back. We packed quickly, got in the car and spent most of the night getting back. I had enough time to take a long hot shower, dress, and then get back into the car and head to the bank.

I got to the bank around 5 am and parked in my spot underneath the bank, then took the elevator up to the trading floor. The trading floor was usually dark at this time of the morning and today was no exception: there were a few eerie halos of light here and there shining in the dark where a few managers sat and talked but the floor that normally housed over 350 noisy traders was nearly empty and you could hear a pin drop. If there was a crisis, it wasn't evident by the state of activity on the trading floor. I went into my office and dialed the bank president's office. He answered on the second ring and told me he was glad I had gotten back safely and that he'd be down to see me later in the morning. He didn't tell me what was up, nor did he give me any instructions.

I was a bit puzzled but I assumed he would not have told me to drive back from vacation in the middle of the night unless I was needed, so I assumed when he wanted me to know what was going on, he'd tell me. I sat down at my desk and began preparing for my trading day. The trading floor slowly began filling up over the next few hours and by 7 am, the floor was bright and noisy-it looked and sounded like the beginning of any normal trading day.

There were economic numbers out at 7:30 am and again at 8:30 am that morning and these brought out a little extra volatility but all in all the day had settled down to its normal rhythm by a little after 9 am. After my normal pre-market preparation, I began selling US dollars against the German mark, initiating a new position purely based on the technical analysis tools I use in my trading. I got up from my seat at the trading desk, handed my trading sheet to my assistant and told him I was going to my office to grab a diet coke and get a few minutes of quiet time. As I stood up and turned around, I caught eye contact with the president of the bank up in the 'news ticker' area. This was a raised platform area that oversaw the entire trading floor and held a huge screen that scrolled the latest news throughout the day and when we had visitors, it was a great place to take them to give them an overview of the large trading floor. He was standing with another gentleman and he motioned me over.

As I approached the pair, I recognized the second man as Hans Tietmeyer, Finance Minister for the Bundesbank or the 'Buba' as we called it back then. He was a close friend of the president of the bank, so he visited the bank whenever he was in Chicago. As I approached the pair, he smiled briefly and after greeting me warmly, he said he understood I had cut short a fishing trip to get back today to trade. I admitted I had driven all night to get back today to trade but so far, the trading seemed rather subdued. Although the US dollar had rallied to all time highs earlier in the year, it had already given back more than twenty percent of its recent gains over the spring and summer and there was no indication anything explosive was in the works.

Dr. Tietmeyer asked me if I had a view on the German Mark and I told him I was currently long Deutsche Marks. He nodded his head at the president of the bank and then said to me quietly, 'we are quite fond of the German Mark. I like your position.' I smiled and then we continued with some small talk about his trip and my shortened fishing trip. Then he reached out, shook my hand and said again, pointedly, 'we are quite fond of the German Mark. Be well.' Then he and the president of the bank left.

Several hours later, I got a call from upstairs, confirming that I was still long German Marks against the US dollar. Then I was told the bank was interested in adding onto this exposure for the Risk Committee and I had complete discretion regarding size and timing but that they wanted me to be aggressive, since they agreed with the German Finance Minister. I was told in no uncertain terms that I had the full use of the bank's risk limits if I wished. I was not to discuss the position with any of the other traders or managers but at the end of the day, I was to call and report the size and P&L of the position.

I ended up the day with a very healthy profit on my original position and I also bought a sizeable amount of German Marks against the US dollar for the bank's Risk Committee that were also profitable at the end of the day. I called upstairs, reported my position and profits and was told that I should continue to be aggressive with the bank's position until they told me their views had changed. It had been a very long day, so after balancing my positions, I headed home, ate a nice dinner and went to sleep.

More in part 2.

By Timothy Morge