Introduction

FX Market Size and Structure
According to the Bank for International Settlements (BIS), the global daily currency turnover reached 6.6 trillion dollars as of April 2019. The figure is 25 times the global average daily stock trading volume of 265 billion USD as of Q1 2019, making the FX market the largest and most liquid asset market in the world.
1.Adjusted for local and cross-border inter-dealer double-counting (ie “net-net” basis). 
2.The category “other FX products” covers highly leveraged transactions and / or trades whose notional amount is variable and where a decomposition into individual plain vanilla components was impractical or impossible. 
3.Non-US dollar legs of foreign currency transactions were converted into original currency amounts at average exchange rates for April of each survey year and then reconverted into US dollar amounts at average April 2019 exchange rates. 
4.Sources: Euromoney Trade data; Futures Industry Association; The Options Clearing Corporation; BIS derivatives statistics. Foreign exchange futures and options traded worldwide.
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By currency, the U.S. dollar took an overwhelming 88.3% of the total settlements, while the euro and Japanese yen accounted for 32.3% and 16.8%, respectively. The British pound accounted for 12.8%, followed by the currencies of Australia, Canada, Switzerland, China, Hong Kong and New Zealand to complete the top 10.
Today’s forex market follows the structure depicted in the diagram below. At the top are the central banks (i.e. the Fed, ECB, etc.), and also there are large banks (shown as red boxes) that work directly with them. On behalf of their corporate customers, commercial banks in the respective country (shown as green boxes) conduct FX transactions with domestic banks or large global banks. Under these commercial banks are FX brokers through whom individuals actively participate and trade in the foreign exchange market.
The exchange rates between the large banks working directly with central banks and the rates between individuals at the bottom vary significantly. The more banks and brokers that are involved in a transaction, the more margin that is added to the overall cost of the trade. As an example, the spread for a currency pair would vary significantly for someone who wishes to exchange money at a retail bank (the spread for the USD/KRW pair was 3.56% for Hana Bank Korea as of October 28, 2020). For trades between large banks, in contrast, the spread only ranges from 1 to 4 pips (about 0.00085%~0.0034% for interbank EUR/USD spread as of October 28, 2020. While USD/KRW and EUR/USD pairs are not an apple-to-apple comparison, wholesale prices are much more favorable than compared to retail for any pair regardless).
As shown in the table above, transactions for over 180 currencies quoted to five decimal places take place around the clock between banks, companies, and individuals around the world. Currency-based derivatives are also actively traded in the futures and swaps markets, which are much larger than the spot market. This is why foreign exchange continues to be the top financial instrument with daily trading volume of 6.6 trillion USD, overwhelmingly much more than that of stocks and bonds.
Like other financial assets, the foreign exchange market is seeing a higher proportion of automated trading. The BIS released the results of its study on the FX spot market and the proportion of automated trading in September 2011, where 24.7% (393 billion USD) of the total daily spot exchange trading (1.59 trillion USD) was done through automated trading. Considering that the daily FX trading has increased more than 60% from 4.1 trillion USD in 2010 to 6.6 trillion USD as of April 2019, the proportion of automated trading today is expected to be much higher.
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Cryptocurrency Market Size and Structure
As of August 23, 2020, the market capitalization value of the cryptocurrency market stands at 375 billion USD with a daily trading volume of 74 billion USD(CoinGecko). A total of 5,859 cryptocurrencies exist in the market while 487 of them see a daily trading volume of more than 1 million USD and 1,205 of them over 100,000 USD. Just as the ten major currencies account for 88.45% of all currency trade in the FX market, the top ten crypto currencies take up 82.87% of all cryptocurrency trading. It is worth noting that the cryptocurrency most traded in a day is Tether, not Bitcoin. Tether is also called a stablecoin as it was originally designed to always be worth 1 USD, ensuring more consistent value.
On this day, the trading volume of Tether was 30 billion USD, which is 1.68 times that of Bitcoin (18 billion USD). This indicates that even in the cryptocurrency space, USD can be considered the key currency, not Bitcoin. Although Bitcoin closely follows Tether in terms of trading volume, Tether is more widely used in lieu of USD to transfer the fiat equivalent between personal wallets, exchanges, and other market participants and protect against price volatility in the cryptocurrency market at the same time.
Similar to the way central banks implement monetary policies to control the supply of their fiat currency, the supply of cryptocurrencies is controlled by predetermined algorithms or through additional issuance or burning, or interest rate adjustments decided by the foundation or company operating that cryptocurrency. In the cryptocurrency space, a unique form of operation called a DAO (Decentralized Autonomous Organization) takes place where cryptocurrency holders are given voting rights in proportion to how much they hold, and all the operational policies, including the cryptocurrency-equivalent monetary policy, are determined in accordance with the voting results.
The figure above is the overall structure of the cryptocurrency market modelled and published by Chain Partners via the Bloomberg Terminal in January 2020. Marked in red are trading participants that are institutional in nature on the left side and retail in nature on the right side.
Retail investors mainly trade through retail exchanges such as Binance, Huobi, BitMEX, and Deribit. Asidefrom spot trading, they can trade a variety of derivatives such as futures, options, and swaps on these exchang es. They also offer comprehensive, one-stop financial services from cryptocurrency deposits and loans to asset management.
Institutional investors trade with counterparties who specialize in and work with institutions such as OTC (Over-the-Counter) trading companies. They mainly provide cryptocurrency trading services to customers such as cryptocurrency exchanges, miners, cryptocurrency payment services providers, and hedge funds, family offices.
What sets them apart from retail exchanges is that OTC companies become the dealers themselves, not an intermediary. While retail exchanges only connect buyers and sellers for commission fees in return, OTC companies that the institutional investors work with become the actual trading counterparties. In other words, they are always ready to swiftly quote prices: buy when a seller offers, and sell when a buyer bids.
Given their role, OTC traders may come across certain market situations where being a trade counterparty is not in their best interests. However, such trades need to be facilitated 24/7 in order to maintain institutional order flow. Understanding this, OTC traders quote prices 24/7 all year round to process orders and serve their clients in a timely and efficient manner.
OTC companies generally offer overnight credit to institutions, meaning unlike retail traders, institutions can buy or sell cryptocurrencies without actually depositing capital or cryptocurrencies at the time of the transaction. They are required to finalize the settlement on the day after the time of transaction.
It is not necessarily the OTC companies that provide credit. Large institutions that only act as a credit provider in the process, called prime brokers, may be involved. The concept of a prime broker originally comes from the traditional financial market, where securities firms usually assume that role. The cryptocurrency market is slowly evolving into a similar structure.
As institutions find it risky to hold cryptocurrencies on their own, they use third-party custody services such as BitGo and Coinbase Custody. Just as the exchanges in which retail investors entrusted their cryptocurrencies to have expanded their business from spot trading to derivatives trading, staking and lending, and asset management, a similar trend is taking place for the institutional trader market. Institutional custody providers are building on and expanding from their core custody business.
The leading custody provider BitGo began to sell staking and management products to institutions using the vast number of cryptocurrencies their institutional customers have entrusted, and launched payment and clearing services between their customers. By establishing cryptocurrency trading services between its customers, BitGo is continuously developing itself into a comprehensive cryptocurrency finance platform.
Market participants marked in red on the bottom of the above diagram are cryptocurrency payment services. Although the size of these payments is yet to be significant, this area holds great potential as it has great competitiveness in the cross-border market (explained in detail in Sections 3 and 4). Along with these crypto payment services, the transaction requirement that institutional customers find important is whether prices can be set in advance.
When buying something at a store, no person would buy it without knowing the exact price. As cryptocurrency prices constantly change, establishing final exchange rates would be key to the mass adoption of payment services. The minimum amount traded for a single transaction in the institutional OTC market is typically 50,000 USD, while the maximum can be tens of millions of dollars per transaction. As the range can be so wide, it is crucial for institutions to set the price in advance just as it would be for payment services. Finding out prices after transactions have been completed carries significant risks for institutions that trade millions of dollars at once.
The retail cryptocurrency market is generally characterized by two-way quotes where supply and demand, and the most recent price in the deal struck between the buyer and the seller shapes the price. The institutional market is on the other hand one-sided, meaning dealers are the ones to offer ask prices, and traders accept them to strike a deal and finalize the transaction.
This is much comparable to the difference between a stock exchange and a bank. While price constantly changes based on buy and sell prices on the stock exchange, customers exchanging currencies at a bank cannot influence the exchange rate. It is the bank that announces the exchange rate, and the customer only gets to accept it or not at that price. The retail and institutional cryptocurrency markets much resemble that of stock exchanges and banks in this regard.
How are the two markets similar?
1) Fully Decentralized 24-hour Global Trading Market
To trade stocks, both institutional and retail investors go through the stock exchanges in their respective country. While most of the transactions are completed online these days, orders made through securities brokers’ applications are sent to the exchange in a centralized manner to be completed. The trading hours are set by the exchange, and the stock market is closed outside these hours. In times of steep price movements, the exchange also eases volatility and alleviates overheated investor sentiment using control mechanisms such as sidecars and circuit breakers.
The FX market is quite different. With the absence of centralized exchanges, traders do not have to assemble at one market. From banks to large corporations, SMEs, ATMs, currency exchange offices, hotels, casinos, and local currency exchangers, currency exchange can take place anywhere. Exchange hours are not fixed. Trade occurs 24 hours a day in all cities around the world. There is no one who can step forward and say “the exchange rate is too volatile, let’s take a break for five minutes.” Even if someone suggests it, no one would listen.
Just like foreign exchange, cryptocurrencies are traded anywhere around the world 24 hours a day. Anyone can open an exchange, and no one has the authority to stop trading because of rapid price changes. Even if certain exchanges decide to do so, too many other exchanges continue to enable trading around the world rendering it impossible to stop everyone from trading. There are large exchanges with high market shares, but even if they are hacked or have to stop trading, the world at large would not stop trading. There are many options and alter natives, and trading will continue elsewhere. Likewise, cryptocurrency and the FX markets are much similar in that they are completely decentralized and fragmented, and that trade can happen around the clock globally.
2) Free Market with No Trading Limit
While stocks can be purchased in decimal units in some countries through certain securities companies, traditional financial products such as bonds, futures, and options still have trading or contract units. For example, crude oil futures, one of the popular trading products on the Chicago Mercantile Exchange (CME), can only be traded in units of 1,000 barrels. All products that can be traded on CME in fact have a predetermined contract unit.​
The reason for having the trading units standardized is to simplify transactions and promote trading. If people have different units that they intend to trade, it can make them wait much longer until they find someone who wishes to trade in that exact amount (for example, if someone wants to sell 350 barrels, he or she will have to either find someone who would buy exactly 350 barrels, or three people who would to buy 100 barrels and one person who would to buy 50 barrels at the same time, making the process extremely inconvenient and inefficient).
The FX market, however, has no trading limits. It did at first before the 1980s, when the central bank and large banks had to trade currencies over the phone. The minimum trading unit was 1 million USD for the same aforementioned reason. At that time, people wishing to exchange 50,000 USD or 5,000 USD could only do so at a local bank, not through interbank FX transactions.
With the development of electronic trading in the 1990s, ways to go about the minimum trading requirement evolved. Online brokers serving retail traders and small businesses facilitated transactions between these traders or grouped a few of the small transactions into one large transaction to have it traded with higher-level banks. With this process having been gradually automated, individuals and SMEs can also engage in small sized FX transactions as long as they comply with their country’s foreign exchange regulations.
Due to the size of the transaction, it is usually difficult for a retail trader to enjoy a more favorable exchange rate than the interbank rate. It would be easy to think of this as the difference between wholesale and retail prices. Nevertheless, the fact that retail investors can now participate in FX trading with only 100 USD or 1,000 USD is clearly a breakthrough brought about by technological advancement.
The same goes for the cryptocurrency market. While OTC companies that work with institutions usually apply the minimum trading unit of 50,000 USD per transaction, most cryptocurrency market participants can easily find places to trade that match their preferred transaction size. This suggests that the entry barrier to the cryptocurrency and FX markets is relatively low compared to that of other investment products such as stocks, bonds, and derivatives.
3) Market with Only Relative Value (Exchange Rate), Without Underlying Assets
Traditional financial assets such as stocks, bonds, futures, options, ETFs, and ETNs all have underlying assets. Stocks are the ownership of a company and bonds are loans to a company. Futures are contracts for what is to be traded at a certain point in the future, while options are rights to choose or not choose to trade at a certain point in the future. Almost all financial assets and investment products that have existed so far — not to mention gold and real estate — have underlying assets.
It can be said that the only two financial assets that are exceptions are foreign exchange and cryptocurren cies. Foreign exchanges used to have underlying assets in the past during the Bretton Woods system (the Fed paid 1 ounce of gold for every 35 USD). As the global economy developed and the demand for fiat currency increased, it became difficult to keep up with the demand using money linked to gold. As a result, then-U.S. President Richard Nixon ended the dollar convertibility to gold in 1971, and the era of relative value without underlying assets began.
Bretton Woods Conference held from 1 July to 22 July 1944 Source: https://library.worldbankimflib.org/
As examined earlier, the US dollar, which accounts for more than 88% of global FX transactions (based on a 200% scale), remains the key currency in the forex market and the value of most currencies in the world are changing 24/7 relative to the dollar. In the process, market participants such as speculative investors, arbitrage investors, and hedge investors are actively trading the dollars and other currencies, gaining or losing profits from exchange rate changes. Their trading activities aggressively seeking profits add to the liquidity of major foreign currencies. Abundant liquidity means that anyone can exchange what he or she holds into another currency at any time, which significantly contributes to ensuring trust in the respective currency. The cryptocurrency market is similar to the FX market in this regard. Popular cryptocurrencies like Bitcoin and Ethereum are designed in ways that when their network flourishes and demand exceeds supply, their price rises accordingly. Such a design is however only a cryptocurrency monetary policy, and it is difficult to consider these cryptocurrencies as essentially holding or being connected to underlying assets.
The value of cryptocurrencies, just as foreign exchange, is only determined relatively. As of October 28, 2020 (6 PM UTC), one Bitcoin was worth 13,195.72 USD (CoinMarketCap). At the same time, the value of the Japanese yen for 13,195.72 USD was 1,376,577 JPY(Integral OCX). For the same amount of Japanese yen, 1.00026812 bitcoins can be purchased (Liquid.com). All these prices are determined relative to each other.
4) Bid/Ask 2-Way Quotation
Just as the EUR/USD pair in the FX market, two currencies are traded in pairs in the cryptocurrency market, for example, ETH/BTC. Each trading pair has a base currency (displayed on the left) and a quote currency (displayed on the right). The amount of the quote currency that holds the same value for a unit of the base currency is the exchange rate (ex. EUR/USD = amount of USD that holds the same value of EUR1; ETH/BTC = amount of BTC that holds the same value for 1 ETH).
Exchange rates slightly differ when selling the quote currency and buying the base currency from buying the former and selling the latter. Prices constantly change 24/7. Because different ask prices are offered when buying and selling, this trading method is referred to as a “2-way quotation.”
Unlike retail exchanges such as Binance, transaction fees are not charged in the cryptocurrency OTC market. OTC companies make profits through the subtle price difference between the buy and sell prices offered, which is referred to as spread.
Example of Crypto OTC Trading Platform
The figure above is an example of bid-ask quotes in the cryptocurrency OTC market. For the ETH/BTC pair on the left, customers can sell ETH and buy BTC, or vice versa. When the customer intends to sell 14.00 BTC (ie. customer buying ETH in the amount equivalent to the value of 14.00 BTC), the OTC company asks for a buy price of 0.03351 ETH per 1 BTC. If the customer intends to buy 14.00 BTC (ie. customer selling ETH in the amount equivalent to the value of 14.00 BTC), it is asking for a sell price of 0.03313 ETH per 1 BTC. The slight difference between the buy price (0.03351) and the sell price (0.03313), which is 0.00038, becomes the OTC company’s profit. On the right side of the figure above are the prices for trading the XRP and USDT pair.
Examples of FX Trading Platform
In the FX market, the 2-way quotation system also runs 24 hours a day. Transaction fees are not charged in this market, too, for the same reason provided earlier. Let’s say a customer buys 10,000 USD and sells it back immediately. As the buy and sell prices slightly differ, the customer will mostly incur that much of a loss, which on the other side becomes the profit of the OTC company for cryptocurrency trades, or banks and brokers for foreign exchanges.
The presence of a counterparty able to automatically trade makes trading in both the FX and cryptocurrency markets very easy and convenient. Anyone can always go to the bank within its business hours to exchange currencies. It would be very troublesome and inconvenient if banks choose to exchange only when they want to, prior to travelling to another country for leisure or a business trip.
In both the FX and cryptocurrency markets, the company that always acts as the counterparty to the customer wanting to trade is called a market maker. Cryptocurrency OTC companies and FX intermediaries can act as market makers themselves or they can partner up with or subcontract a 3rd party company specializing in market development. There are also market makers who voluntarily participate and promote trading for their own profits.
Because market makers offer prices 24/7 in both cryptocurrency and foreign exchange markets, customers can trade whenever they wish to. Market makers sometimes have to accept unwanted transactions as the customers want them. This means that the cost of such risks is included in the profits they make from the buy-sell spread.
Unlike at the exchanges where individual counterparties meet and bargain prices, prices are unilaterally quoted by market makers around the clock in the FX and cryptocurrency markets. The two markets share the same quotation and trading methods, and this is a strong reason why they can be easily connected.
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