Richard Olsen and Michael Stumm: FX markets for the masses

Futures, Fall 2007 by Zwick, Steve

Oanda's FXTrade trading platform is more than just a business, and has been from the day Richard Olsen and Michael Stumm launched it in 2001.

"For Michael, it was a chance to prove that all the technical innovations he teaches are real and doable, and that you can build a trading platform of institutional quality on a retail budget," Olsen says.

Stumm says: "For Richard, it's about saving the world."

And that salvation comes in the form of markets that are not only accessible to all, but that treat all users the same regardless of account size, and that accurately reflect the underlying reality they are supposed to represent.

The two men grew up in Switzerland, and met in high school there. Stumm went on to become a professor of computer science at the University of Toronto, while Olsen became an attorney, economist and trader. They teamed up in the late 1990s to launch Oanda as an online trading tool and quote provider, later adding the trading engine, FXTrade.

In 2005, they posted a "Forex Trader's Bill of Rights" on their Web site and published a companion 100-page book fleshing out their philosophy about what markets can and should offer, compared to the reality. It's an admittedly self-serving work, since most of the "rights" are features of their platform, but Olsen contends FXTrade provides a verifiable social good.

It's already shaken up currency trading in Europe by offering the same tight spreads to all and setting minimum account sizes of $ 1, but Olsen exudes the most missionary zeal when bragging about how he pays out continuous interest in real time on the positions taken. If a trader is long Hungarian forints and short the euro, for example, he receives Hungarian interest rates and pays out euro rates, earning the differential, even if only for a few moments.

"Most banks pay out interest at the end of each trading day, when markets are marked to market," Olsen says, "This creates a situation where the markets are creating instability, because the intraday guys pay no interest on their positions."

He says the damage is incalculable, and that lives are being lost in the developing world as a result: "If you have a country that needs to attract capital, it could theoretically do that by raising interest rates," he says. "But if you then go and create a situation where day traders - and most currency trades are day-trades - don't get interest on the positions they take, then you get them reacting to the negative news, namely, that this economy has some kind of emergency, and not the positive news, namely, that you can get higher interest by buying and holding the currency.

"This hurts the country involved, especially if it is a small economy, because it causes a run on their currency; and it hurts the rest of us because it creates the reverse of what you'd expect, which makes it difficult to form a common understanding of what the world looks like. So you have wildly diverging expectations."

Stumm says building a platform that pays out interest second-to-second is a no-brainer.

"Utilities do it all the time," he says. "Can you see an electric company charging you for a whole day based on what you're using at 5 p.m., or a cell phone provider that still bills in threeminute increments? No one does that, and no consumer would accept that, but yet the entire banking system does it all the time."

Both men actually become angry when chiding big exchanges and banks for not building a similar system before they did - and a genuine disrespect for the status quo.

"I've seen bank computer rooms filled floor to ceiling with Sun Microsystems, and the maximum number of transactions they can complete in a day is 40,000," Stumm says. "We have a computer the size of a pizza box than can do several million a day."

Olsen notes that "exchanges are the backbone of the global economy. I'm afraid this backbone won't hold up to the pressure, because the ways they operate today are completely arcane. They've evolved around paper processes, are inefficient, and don't gear and scale up to the 21st Century."

Stumm says he consciously avoided learning the inner workings of existing currency platforms, and instead asked himself what the true services were that exchanges provide, and how he could best provide them.

"We didn't evolve in an environment where all these arcane rules for forex apply," he says. "Instead, we started with a clean sheet of paper, and asked ourselves how we would design a currency platform from scratch," Stumm says.

That means no two-day settlement for positions, and no carrying of swaps at the end of the day. "What a strange system that is," he adds.

FXTrade found a following among retail traders and commodity trade advisors (CTAs) from day one, and it's grown by word of mouth ever since. Larger institutions, however, have been slow to sign on - largely because of Oanda's small balance sheet.

Olsen expects that to change soon, thanks to a $100 million cash infusion from two venture capital groups.

"We don't really need the money to add capacity or anything like that, because our systems are scalable and not too costly," Olsen says. "But if we put that money in the bank, we can beef up our balance sheet. That's what the institutions need to see, because we are market-makers and do carry some risk."