• What is a Managed Forex Account?
• Who should invest in Managed Forex Accounts?
• Are Managed Forex Accounts suitable for everyone?
• Are Managed Forex Accounts a good short term investment?
• Can IRAs and other self directed plans invest in Managed Forex Accounts?
• What is an Alternative Investment and why is forex labeled as such?
• How is a Managed Forex Account different than other Alternative Investments?
• What is Notional Funding?
• How are gains and losses on forex trades taxed?

 

What is a Managed Forex Account?

Managed Forex Accounts are a type of alternative investment established to trade in the forex markets in which successful performance does not depend on continued upward movement in traditional equity or bond markets. Unlike other investments, however, in a managed forex account, a professional trader known as a commodities trading advisor (CTA) or a Portfolio Manager is responsible for determining what trades to make and when, pursuant to a power-of-attorney or limited trading authorization.

With a managed forex account, it's an easier, more transparent way to help you divest in the forex markets and simplify your investment, so you don't have to monitor the various markets 24/7.

 

Who should invest in managed forex account?

We believe that many investor groups, including individuals, corporations and institutional investors, can benefit from including managed forex accounts in their portfolios because foreign exchange, as an asset class, can provide valuable diversification to a traditional portfolio of equities and fixed income investments.

 

Are managed forex accounts suitable for everyone?

The simple answer is “No”. Although managed forex accounts can provide badly needed portfolio diversification to many portfolios, only investors with risk capital who understand and can deal with the risks and rewards involved in trading foreign exchange should invest in managed forex accounts.

 

Are managed forex account a good short term investment?

Because foreign exchange markets tend to be cyclical, we recommend that investors hold a managed account investment for at least two to three years and treat a managed forex accounts as a “core” investment instead of as a short term trading opportunity.

 

Can IRAs and other self directed plans invest in managed forex accounts?

Yes. But an investor must ensure that his/her plan permits such investments. If the investor's plan custodian does not accept alternative investments, he/she will have to open an account with another custodian that does.

Here are a few custodians specializing in handling alternative assets in Managed Forex:

Security Trust Company
Satchie Carvounis
Regional Manager
223 N. Prospect Street, Suite 202
Hagerstown, MD 21740
Corporate Office: 301-665-2830/866-682-3683
Direct: 301-356-8989
Satchie.Carvounis@SecurityTrustCompany.com

Millenium Trust Company LLC
Attn: Libra Carter
820 Jorie Blvd.
Suite 420
Oak Brook, IL 60523
New Accounts: 630-368-5600
newaccounts@mtrustcompany.com

Sterling Trust Company
Attn: Arthur Hadden
7901 Fish Pond Road
Waco, TX 76710
800.955.3434, option 2
254.751.1505, option 2
Direct 254.399.5212
IRAServices@sterlingtrustcompany.com
http://sterling-trust.com

 

What is an Alternative Investment and why is forex labeled as such?

The term “alternative investment” generally refers to any investment the successful performance of which does not depend on continued upward movement in the stock market. Alternative investments are also described as “absolute return” strategies, meaning investment strategies that should perform well each year whether the stock market goes up, down or sideways. This does not mean that alternative investments always make money—it merely means that a continued decline in the stock market should not present a material risk for a true alternative investment strategy. In uncertain times like these, alternative investments can make a big difference in the performance of overall portfolios.

Alternative investments include investments such as real estate, venture capital, hedge funds, fund of funds, and managed forex accounts. These comments focus on managed forex accounts —what they are, why they are becoming the preferred alternative investment strategy.

 

How is a forex managed account different than other Alternative Investments?

Similarities
There are many similarities between managed forex accounts, hedge funds and fund of funds. All of these investments provide:

1. Diversification to a typical portfolio of stocks and bonds
2. Professional investment management
3. Access to different investment strategies, styles, and markets
4. Returns that are highly dependent on the talent and skill of specific managers instead of general market appreciation.

Differences In addition to these shared characteristics, managed forex accounts offer greater accessibility, transparency, liquidity and security than most alternative investments.

• Managed forex accounts trading is more accessible to investors because managed forex accounts have lower commitment requirements than many other alternative investments and managed forex accounts may accept daily subscriptions and redemptions.

Most alternative investments require a bigger capital commitment and offer far less liquidity than managed forex accounts. Investors can open individually managed accounts and add additional capital to or redeem capital from that account anytime the investor so desires. Most hedge funds and fund of funds, on the other hand, accept subscriptions from new investors and additional capital contributions from existing investors' capital only on a monthly basis. Further, many hedge funds and fund of funds are closed to new investment and the open funds only accept new capital contributions monthly or quarterly after they begin trading. Typically, hedge funds and fund of funds only allow for monthly or quarterly redemption.

• Managed forex accounts provide greater transparency than other alternative investments.

Full transparency means that investors can see each individual trade made by a manager. The brokerage firm holding individually managed accounts will send investors confirmations on each trade—ensuring 100% transparency. Depending on the brokerage firm the investor selects, investors in individually managed accounts will likely also have online access to their accounts. Hedge funds and funds of funds often trade exotic over-the-counter (—OTC—) instruments that cannot be easily priced because they are traded in unregulated, non-public markets and many do not report trading activity to investors on a daily or monthly basis. Thus, investors in hedge funds and fund of funds generally do not have transparency into the fund's underlying holdings.

• Managed forex accounts may have greater liquidity than hedge funds and funds of funds.

Spot Forex contracts are highly liquid and can usually be bought or sold in a matter of seconds. The only exception to this rule is when prices are very volatile and a contract trades through some fundamental news announcement that can intermittently show a price gap and delay for minutes around a specific news announcement. Since the interbank currency market is one of the biggest markets in the world and is open twenty four hours, seven days a week, it is also highly liquid. Therefore, it is usually easy to open, roll or offset a currency position. OTC derivative contracts, on the other hand, may be complicated and costly to close out early if a hedge fund manager needs to liquidate a position before it is due to expire.

• Managed forex accounts may provide investors greater security than hedge funds and funds of funds.

Capital invested in managed forex accounts are held in customer's own accounts, not pooled with other investors. Therefore, these brokerage accounts may provide greater security for customer assets than many bank or securities brokerage accounts used by hedge funds and fund of funds. Further, investors control assets in a managed account, whereas the general partner controls assets in a fund.

 

What is Notional Funding?

Notional funding is the term used for funding an account below its nominal value. For example, assume a CTA requires a minimum investment of $1,000,000 (the “Nominal Value”) and the margin requirement is $50,000. The investor can either deposit $1,000,000 to “fully fund” that minimum investment requirement or she can invest only a portion of the $1,000,000, as long as she meets the $50,000 margin requirement.

Now assume that the investor decides to fund the $1,000,000 account with $100,000 (the “Funding Level”). This means that the investor is using leverage of 10X—ten times $100,000 equals the $1,000,000 minimum investment. The difference between the Nominal Value ($1,000,000) and the Funding Level ($100,000) is $900,000. The $900,000 is referred to as —Notional Funding—.

Investors are interested in using notional funding because notional funding capitalizes on the free cost of leverage. The leverage is free because the notionally funded amount (in this case, the $900,000) is not borrowed or deposited—the Funding Level ($100,000) is a good faith deposit for the full value of the account. In other words, the $100,000 trades as if it were $1,000,000, even though the investor only deposited $100,000 and is not paying interest or has not otherwise borrowed the remaining $900,000. If the account is doing well, the investor earns money on the full $1,000,000—even though she only funded the account with $100,000. If the account is not doing well, however, the investor is responsible for the amount lost, regardless as to the original Funding Level, up to the Nominal Value.

For example, assume that the account has a profitable year and the CTA reports profits of 20% ($200,000) for the fully funded account. The account that was only funded with $100,000 also had $200,000 in gains—but the investor's profit percentage was 200%, because the investor earned $200,000 on a $100,000 investment. Investors must be aware, however, that this is a double edged sword. If the account has a drawdown, the investor will suffer a significantly larger percentage decline than the fully funded account. If the example above suffered a 20% drawdown for the fully funded account, the notionally funded account would have a 200% drawdown. In such a situation, the investor would not only have lost her initial $100,000 investment, but also an additional $100,000. Furthermore, to keep the account open, the investor would have to deposit at least enough cash to cover the margin requirement.

In this regard, notional funding significantly increases the volatility of an account. Investors must ensure that they understand how much leverage the CTA is using—and the consequences such leverage might entail.

 

How are gains and losses on forex trades taxed?

You should consult your tax advisor or preparer to determine how your gains and losses will be taxed. If you trade for yourself or have managed accounts, be sure you have all Forms 1099 provided by your FCM reporting trading profits/losses when you prepare your tax return or meet with your tax advisor. If you invested in a pool or fund the CPO will send you a Form K-1 showing your share of profits/losses and other income that should be reported to the IRS.

As a general rule open positions will be marked-to-market as if the unrealized gains and losses were realized on the last day of the calendar year for individual accounts and the last day of the tax year for pools and funds.