The Effect of Forex Trading on the Financial Performance of Commercial Banks in Kenya

Abstract

The forex market has experienced major changes not only in size but also in its operations due to structural shifts in the world economy and the international financial system. These changes in the forex market have occurred mainly due to major financial deregulation across the globe including elimination of government controls, fundamental change in the international monetary system from the fixed exchange rates to a more flexible system and development of many financial instruments and derivative products. Commercial banks across the globe have also grown in the adoption of new derivative products to keep with the trends in the forex market and have moved from traditional banking activities to the uptake of more sophisticated derivative products to offer more value to their clients and also improve their financial performance. The objective of this study was to evaluate the impact of forex trading on the financial performance of commercial banks in Kenya. Descriptive research design was adopted and secondary data on the return on asset, spot trading, notional value of derivative contracts, firm size, liquidity ratio and capital adequacy ratio was derived from the balance sheet and income statements of the audited annual financial reports of the commercial banks for the period 2013 to 2017.Return On Asset was used as the dependent variable, spot trading, derivative contracts were used as predictor variables and firm size, liquidity ratio, capital adequacy ratio were used as independent variables. The study established that the forex trading variables investigated by the study namely; Spot trading, forwards, swaps and options, firm size, liquidity ratio and capital adequacy have been constantly changing throughout the study period. As such, both high and low rates have been experienced in the years. The study thus concludes that there is no stability in forex trading variables in Kenya which may be caused by numerous factors. This results in the banks having different levels of performance at different times and periods. The study also established that forex trading variables do have a significant and positive effect on the financial performance (ROA) of the banking industry. The study recommends that the issues related to foreign exchange trading should always be taken into account to improve the banks foreign exchange transactions and hence performance. The study recommends that Forex trading among commercial banks should be continued and capital should be invested in projects that maximize returns. The governance structures need to be put in place so as to enhance returns on capital and assets and in turn maximize returns to the commercial banks. The researcher recommends a study on the effect of Forex trading on the financial performance of other financial institutions in Kenya. This would help compare the results. The researcher also recommends a study on the implications of risk management practices on non-funded income of financial institutions.