The end of this month and the beginning of May are traditionally a slow time for the Japanese markets as the Golden Week holiday makes forced time off from financial markets in the country. This year, however, the situation is somewhat different and retail brokers should be mindful of some additional risks to the financial markets stemming from an unusual event.
The Japanese financial market will be closed for ten full days, due to the May 1 Japanese imperial transition. The event will be the longest market closure since the Second World War.
With the event widely expected, firms are making preparations for it ahead of time. That said, a bit of extra mindfulness about poor liquidity conditions during the Asian session between the 27th of April and the 6th of May is warranted.
Flash Crash Scenarios
In the first holiday day for Japan this year, which was January 2, foreign exchange markets collapsed across the board driven by poor liquidity in Japanese yen crosses. The flash crash event caused financial harm to some of the largest forex brokers in Japan, as clients received margin calls and some positions were closed out at a negative balance.
Two industry experts in the field, shared their thoughts with Finance Magnates about the upcoming risk event. Highlighting the challenges that brokers are facing, Demetrios Zamboglou and Jeff Wilkins from IS Risk Analytics elaborated on the 10-day gap during Japanese hours.
“The upcoming 10 day holiday in Japan could very well present liquidity issues in the broader market, especially during the 5 pm EST rollover, also known as the witching hour,” said Jeff Wilkins who is the Managing Director of IS Risk Analytics.
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With his vast experience in the industry’s risk-management segment, Wilkins highlighted that brokers should be wary of the events from January of this year.
“I have been very vocal with brokers on making sure their risk protocols, trading systems, and liquidity are prepared to handle this type of event. It is paramount for brokers to be prepared for a black swan type event at all times, but if they are not 100% sure on how to handle any potential upcoming issues, this 10 day stretch should be a catalyst to make the changes necessary to ensure their brokerages and clients are protected,” Wilkins elaborated.
Illiquid FX Markets
Poor liquidity conditions are also likely to affect spreads during Asian hours and make it more difficult for traders to apply certain strategies. As to brokers, a key risk would be a black swan event in the rest of the world, that would affect globally forex and futures markets.
Long-time industry professional, Demetrios Zamboglou, elaborated that the markets can become more illiquid, translating into larger spreads for JPY crosses, especially during the rollover period.
“During these illiquid times, demand and supply will be highly affected by market participation, which could lead to temporary trends and possible gaps in pricing. On the practical side, brokers should enhance their filtration due to the expected spikes in the pricing of Yen pairs and set a spread maximum to enhance the retail traders’ experience and not to force unwanted liquidations due to the temporary price widening from liquidity providers,” Zamboglou elaborated.
Regardless of whether a flash crash is imminent, the Japanese 10-day break from financial markets could prolong the massive decline in FX volatility. Brokers have been especially worried over the past three months as the increasingly tight ranges across major pairs have driven traders away from the market.