BREXIT – A possible second episode of Black Thursday for small-mid size FX

Claudiu Ghebaru discusses the possibility of a second Black Thursday and its impact on mid-size FX brokers as Brexit looms.

This guest article was written by Claudiu Ghebaru who is a veteran in the FX industry.

Less than a year and a half has passed since the infamous 15th of January 2015. At that time, the SNB took a sudden decision and stopped keeping the Swiss franc around the 1.20 level. Everybody knows what happened and a nightmare became the new reality in less than an hour. Some of the most prestigious companies announced huge losses, while others lost as much as 90 percent of their market capitalization and were forced to rise additional funds, in order to keep running their operations.

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Back to the present, a historical event with global-scale consequences is going to happen on the 23rd of June: the referendum for the UK leaving or remaining in the EU. In comparison with the SNB decision, BREXIT is an anticipated event and the entire industry had time enough to get prepared.

Just to remind ourselves, in 2014, the pools were announcing the Scottish independence referendum was running head-to-head, while the result was still clear, with a major winning by the non-independence camp. Being given the data which we have until now, combined with the certain huge impact which the Brexit might have for the British economy, to remain in the EU is highly expected.

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Now, when this 75% certainty transforms itself in a 100% certainly after the results are announced, the market will face aggressive movements. With an anticipated result of the winning the referendum by the anti-BREXIT camp, the quotes for the pound could explode like crazy. When SNB announced its decision, we saw movements of 4.000-4.500 pips drop (30 percent) in the pairs which included the Swiss franc. Now, because the event is anticipated, but still has implications on a global scale, the value of the British pound could increase by 3-7 percent easily. Which means the FX industry might expect movements between 500-1500 pips for the major pairs, especially for GBP/USD, EUR/GBP or GBP/JPY. Since these pairs are traded now around the bottom line for last year, while the value of the pound was kept undervalued by 20 percent by the possibly massive impact of this event, the markets will receive the result as a major psychological release.

And the immediate consequences will appear: high volatility and market gaps driven by low liquidity, increased spreads by the liquidity providers or servers overloading.  All these factors will serve to test the abilities of the dealing desks and risk managers, which have to find quote feeds to execute their orders. The prime brokers will have to face and deal with huge volumes, but with a massive increase in their turnover, while the small-med size brokerage companies will suffer huge losses if their risk policies are not correctly adjusted to the dimension of the event.

There are still plenty of small-midsize companies in the market which offer 1:200 leverage and 0.5 percent required margin for the retail clients, only one day ahead of the official announcement. Without adjusting the margin requirements, not to mention the improvement of the liquidity pool or the associated risk with the B Book business model, is it possible for them to suffer severe damage? One more day and we’ll find out. The odds and risk/rewards ratio don’t look too friendly in these circumstances.

 

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