Using an FX company – and choosing the right company – will probably make you one of the biggest savings associated with your project.
Whether you are buying a house or a car, starting a business, making regular payments or looking to make ongoing but irregular payments in the future, you need to understand FX.
What is FX (foreign exchange)?
FX stands for foreign exchange.
The foreign exchange market is a vast global market. Every day people need to pay for container loads of goods that they have shipped from A to B. Every day people are buying houses or businesses or cars where they are paying the price in (say) Japanese yen and converting (say) euros in order to do so. Some may be making regular transfers from one country and currency to another to make a mortgage payment or provide for their children. Others may be moving their entire savings from one country to another when they retire. They may be protecting a future position; if they know that they are going to have to find €100million later in the year, they may want to buy the money now and secure a fixed (and, more importantly, known) exchange rate.
Or they may just be gambling. Do not underestimate the last category. It is by far the largest component of the FX market.
The FX market is so large that it is hard to understand. In December 2016, it reached $5.1trillion per day. To put this into context, the entire GDP of the US – the world’s largest economy – is about $19trillion per year. The daily size of the foreign exchange market is larger than the annual GDP of the world’s fourth largest economy (Japan), twice as large as the UK GDP and over five times as large as the annual Turkish GDP. Remember, that is every single day!
It is also increasing. In 2010 it was only $4trillion.
What is an FX company?
An FX company is a company that specialises in foreign exchange: converting money from one currency to another. Of course, banks deal with FX transactions but that is only one area of their activity. FX companies do nothing else.
Some foreign exchange companies will deal with almost every currency in the world (there are one or two that cannot be readily exchanged) whereas others specialise in dealing with just one or two ‘pairs’ – for example, they might deal with conversions from dollars to euro or dollars to yen but nothing else.
What are the typical FX services offered?
Most larger FX companies will offer four main services.
Their analysts can advise you about likely future exchange rates and when it is a good (or bad) time to buy a particular currency. They can often set up their system so that, when a currency hits a trigger point, they automatically make the purchase for you.
They can buy and sell currencies for you – so-called ‘spot trades’.
These are trades where you buy one currency (say, US dollars) using another currency (say, euros) at the rate prevailing at that very moment. This fluctuates by the second, sometimes quite dramatically.
Forward contracts (fixed price buying)
You can enter into a ‘forward contract’. This is a contract where you agree to buy a certain amount of currency (say, US$100,000) on a certain future date (say, in three months’ time) for a certain fixed price (say, €75,000).
The way this works internally for the FX company is quite complicated but, from your point of view, it is quite simple. You will normally be expected to pay a deposit (perhaps 10% or 20%) and to make the rest of the payment on the date you’ve agreed to take the currency.
It’s important to note that once you’ve entered these contracts you do have to honour them. If the exchange rate agreed moves against you and so the purchase at that price looks expensive, you still have to buy. If you don’t, at the very least, you’ll lose your deposit. You may face legal action.
Generally, the maximum period for which you can buy forward is two years.
They can make regular payments for you, sometimes at a fixed exchange rate covering the next 12 or 24 months. For example, if you’re moving abroad you may want to transfer your pension income from your ‘home’ bank to your new foreign bank every month. Alternatively, you may be making payments under a mortgage in another country or by way of child support.
Why should I use these services?
Forward buying your FX (foreign exchange)
Basically, using an FX company is likely to save you lots of money and/or to give you a fixed budget to aid your forward planning.
For example, forward buying allows you to know how much you’re going to have to pay in your own currency for future services being paid for in another currency.
Imagine that you live in the US but are buying a house in France for €1million. The exchange rate between the dollar and the euro is volatile. For example, on 5 May 2014 the exchange rate was 0.7212. This means that to buy €1million would have cost you $1,386,578.
On 16 March 2015 the rate was 0.9391. The cost of buying your €1million would have been $1,064,849. This is a difference of over $320,000.
You might not be prepared to take that risk and prefer to know exactly how much that €1million is going to cost you on (say) 1 July 2019. A fixed rate forward purchase contract will give you that certainty. Of course, you may do better or worse than you would have done if you had waited and taken the spot rate when the money was actually needed, but you will, this way, know the extent of your exposure and be able to plan accordingly.
The problem with regular payments is not only that you may not know, in advance, how exactly much you’re going to have to pay but also that, for small payments (say a few hundred dollars to pay your mortgage) the bank charges can be completely disproportionate to the amount you’re sending.
A regular payment plan can eliminate one or both of these risks.
You can take a regular payment plan at a fixed rate (just like a forward buying contract) that will apply for the next year or two years, or you can just make arrangements to pay the money regularly on whatever date happens to be the day. In either case, the FX company can usually arrange for the payment to be transferred free of bank charges or at bank charges very much lower than normal because they will simply include your payment along with many others in one large transfer.
Why use an FX company and not a bank?
Generally, FX companies are a lot cheaper and they have the additional advantage that they can often give you a lot of useful guidance as to when it is best to make the exchange.
Foreign exchange companies tend to be cheaper than your bank for three reasons:
First, they are specialist. They don’t have to fund a whole range of banking services and so their overheads are, generally, comparatively low.
Next, they are usually working on a lower margin than your bank will apply. When making FX deals you do not usually pay a fee. Instead, the dealer makes his profit by a ‘margin’ between what he pays for the currency and what he charges you for it. The margin tends to be a lot tighter with an FX dealer than it is from other sources.
For example, as I am writing this article, the interbank rate for a conversion from US dollars to euros is 0.9310. You will not be offered that rate. Through an FX dealer, you might be offered a 1% spread (the difference between the buying and the selling price). This would make a rate of 0.9217. If you were withdrawing cash from an overseas ATM, you would probably suffer a 2% spread: 0.9124. If you were using your credit card there might be a 3% spread: 0.9031. If you were so foolish as to change the money at a currency exchange kiosk you would probably suffer a 5% spread: 0.8844.
In real terms this means that, at the interbank rate, €100,000 would cost you US$107,412. From your FX dealer, it might cost you $108,497. From your ATM or bank it might cost you US$109,604. From the kiosk, it would cost you US$133,065.
Clearly, there are substantial savings to be made.
Finally, they can often give you good advice as to timing which can, in turn, make a big difference to your net cost.
How big are the savings?
As you can see, they are substantial.
Equally importantly, there can be substantial differences between FX companies.
Comparing those differences can be difficult because of the way the rates change every second. If you phone for a quote and then phone another company for the same quote there will always be a difference between the two figures.
About five years ago, in my office, we carried out an experiment. We simultaneously phoned our own bank and three foreign exchange companies to get a quote for converting £100,000 into euros. The difference between the bank and the worst FX company was well over €1,000. The difference between the best and the worst FX company was also over €1,000. That was an overall saving of €2,000: 2%.
A saving of €2,000 on the transaction probably pays your legal fees on the purchase of a house. It certainly buys a lot of bottles of wine for the house-warming party!
How do I choose an FX company?
There are two main considerations. The first – but less important – is obviously price. If one company is going to charge you US$115,000 and the other is going to charge you US$114,000, you would normally want to use the second.
However, the most important consideration is security. You’re going to be giving this company a large amount of your money. You want to make sure that if they go bust or if one of their people runs away with all the money, your cash is safe.
This means that you need to make sure that the company is properly regulated in the country where you’re living. It’s also a good idea to do one of those wonderful Google searches to see whether people are experiencing any problems with them.
There are a number of good, reliable and highly experienced FX companies. See our directory.
What’s the minimum I can send?
This varies from company to company. For a one-off customer, it’s typically about US$5,000. For regular customers, the figure will be much lower, and for regular payments it can be as little as US$300.
FX regulation in Turkey
At present, Turkey does not come under the EU MiFID guidelines. Hence, FX brokers in Turkey are not allowed to operate in the EU without a valid EU FX broker license.
Turkey has experienced its fair share of FX broker scams during the past decade, which has resulted in the Turkish Government’s introduction of the Capital Markets Board of Turkey (Sermaye Piyasasi Kurulu) (CMBT) into the retail FX trading industry. This organization controls the entire capital market of the Turkish economy under guidelines directly imposed by the Turkish Government.
CMBT is an independent self-regulatory organization that operates on funds generated through membership fees and fines levied on its member firms for deviation from regulatory guidelines.
By law, only CMBT regulated FX brokers can offer financial services to Turkish residents. However, these limitations lead many Turkish retail traders to become unregulated FX scam victims.
In February 2017, the government banned Turkish citizens from excessive gambling on the FX markets by imposing a leverage limit of 10:1 when dealing with Turkish registered FX companies and trying to stop them arranging FX deals via international internet sites.
FX dealers based in other countries
If you’re using an FX dealer based in another country, the laws of that country will regulate it.
How do I transfer foreign exchange to Turkey?
The method varies a little from one FX dealer to another. However, you will usually need to open an account with the dealer. This is usually quite simple.
They will need:
- Your personal information (name, address etc.)
- Your bank account details
- A copy of your proof of identity (usually a passport) and proof of address
- The reason you’re going to want to be making FX transfers
All this is for anti-money laundering purposes.
When it comes to making a transfer, they will need to know the full details of the bank and the person to whom the money is to be transferred:
- Receiving bank name
- Receiving bank address
- Receiving bank’s SWIFT or other ID code (if the bank doesn’t use the IBAN (International Bank Account Number) system)
- The full name of the account holder
- Full details of the account into which the money is to be paid – usually the IBAN
- A short reference to help the recipient track the funds (e.g. “John Smith – deposit on yacht”)
- The reason for the transaction
- The date upon which you wish to make the transfer
They will then book and hold a rate for a few minutes and email you an invoice.
You then arrange for a bank transfer to the FX dealer and they will release the foreign currency funds upon receipt of that money.
If you’re making a regular series of transactions, you can set the whole deal up at the same time.
FX trading ‘as an investment’ is gambling. It is not for the faint hearted. In my view, it is not really sensible for anyone at all, but I am old-fashioned. ‘Leveraged’ FX trading (where you borrow part of the money) is – again in my view – madness.
FX trading is very open to fraud.
However, FX dealing for a specific purpose – such as when moving money overseas to set up a business or buy a house – makes a lot of sense. If you choose a good FX dealer you will save yourself a lot of money. A lot of money. Maybe as much as 2.5% of the amount you are transferring and, very often, 1% or more.
So the challenge is to find a good company. There are, as I’ve said, plenty about.