“Trading” is an English word, but it has become part of the common language of finance in France. It refers to the buying and selling operations carried out on the financial markets by a market operator or “trader.”
These operations are carried out from the trading room of a bank or financial institution, either on behalf of clients or – more rarely since the 2008 market crisis – on the bank’s own behalf.
Trading thus corresponds to the negotiation of financial products by traders in the hope of making a profit based on market fluctuations. Speculation has been very limited since the banking crises of 2007-2009 and this profitability will be based on very limited risk-taking and, above all, on the new market regulations that have appeared in the last 15 years.
Risks related to trading
In 2010, the U.S. passed the Dodd-Frank Act aim at reforming Wall Street and protecting investors. This legislation included the so-called “Volcker Rule,” which prohibits commercial banks from engaging in certain kinds of speculative trading on their own account. As a result of these new rules, traders now take positions in front of a client in order to cover any risks linked to the client’s operations. For example, a European exporter of products to the U.S. in dollars will have a foreign exchange risk linked to the fluctuations of the euro against the dollar.
By selling a derivative product to this exporter, the trader can “absorb” the company’s risk.
This trader will be ordered by his or her risk manager to hedge this risk. But in order to make money, we always come back to the endless notion of the risk/return ratio: If the trader fully and completely hedges the risk induced by the client’s position, the potential gain seems extremely limited.
Moreover, all risks cannot necessarily be covered. Some grey areas exist when, for example, the trader opts to partially cover the risks induced by the product sold to the customer.
By dynamically managing these risks, the trader will aim to maximize the profitability of his or her financial market activity.