When University of Toronto computer engineering professor Michael Stumm decided to launch an online currency trading platform for individual investors in 2001, he had no idea of the regulatory obligations involved. Nor did he have any experience in dealing with the powerful international banks that dominate foreign exchange—forex—the world's largest, fastest and most liquid market, with a daily global trading volume of about $4 trillion (U.S.). Stumm spent a modest $250,000 to have four of his former students help him write the software.
Now, 12 years later, Oanda Corp.—the company he co-founded with a high school friend from Switzerland, financier Richard Olsen—is one of North America's largest retail forex trading firms. Still privately owned, Oanda has offices in Toronto and six other cities around the world. Its computers handle up to 1.7 million trades a day, with a value that has reached $10 billion. Stumm, 59, is one of the most successful tech entrepreneurs in Canada, and has a stake in the firm that exceeds 10%—a slice that is likely worth close to $50 million.
He is also out of a job. Last May, Oanda's board of directors—on which he still sits—asked him to step down as CEO. The qualities that made Stumm such a big success as the driving force behind a start-up—technical brilliance, vision and a fierce determination to barge through any
obstacles—had become a wild card for a maturing company. It's one thing to put in long hours over pizza, writing computer code with a handful of fellow geeks; it's quite another to deal professionally and patiently with employees, clients and investors. Even colleagues who still admired Stumm were fed up with being lectured and badgered as if they were lethargic undergrads.
Of course, many innovators—from Thomas Edison to Mike Lazaridis—have stumbled as their bootstrap operation swelled into a large corporation. Even Steve Jobs, who was fired as CEO of Apple in 1985 (and rejoined the company in 1996), eventually admitted that he was so arrogant that he deserved to be shown the door. As Stumm looks back at his rise and downfall, he shows signs of beginning to understand what happened. "I was at a pretty severe stress level the past few years," he says. "I never had a plan to do anything. I just got sucked into it."
Like a lot of game-changing entrepreneurs, Stumm and partner Olsen started by identifying a market need that was simple and obvious, yet somehow unaddressed: Why was it so expensive to change money from one currency to another? Almost every Canadian traveller has seen the forex booths at airports that sell U.S. dollars to departing passengers for, say, $1.01 apiece, but will only pay arriving passengers 93 cents for their greenbacks. Or maybe you've opened a credit card bill after a vacation and fumed over markups of 2% or so on foreign purchases.
Fat buy-sell spreads on forex should have evaporated in the 1990s, as they did on stocks as the Internet revolutionized trading. But large banks and currency dealers managed to maintain their spreads for retail customers, even as they squeezed the gap down one-100ths or two-100ths of a percentage point when trading with one another. That's because then, as now, there were no central and transparent exchanges for currencies that retail investors could access—as there were for stocks—so individuals and small businesses got hosed.
Stumm's original idea for Oanda in the mid-1990s was purely informational: Why not become the standard for
forex prices and provide interbank exchange rates online? That way, the hoi polloi could at least see reference points.
For help, Stumm turned to Olsen, his school friend from Zurich. Olsen has degrees in law and economics, and his family owned Bank Julius Baer, one of Switzerland's largest private banks, founded in 1890. In 1995, Stumm developed an online currency converter that quoted daily spot prices for forex, as well as historical figures. Olsen subscribed to several online financial information services that quoted exchange rates, and the program gathered those rates and stored them. The company was incorporated the following year in Delaware. Oanda was short for Olsen and Associates, but the firm notes on its website that the name also translates as "just in time" in Turkish.
For the first few years, Oanda made money on a subscription-based computer application that fed data on more than 180 currencies directly into companies' accounting systems, and an online currency converter that clients could host on their own websites. Early customers included airlines and AOL, as well as several major auditing firms, which needed independent data to review their clients' forex transactions. Public auditing firms such as Price Waterhouse and Ernst & Young were early adopters. Even tax departments of some countries signed on. By 2000, Oanda had more than 13,000 clients, and was generating almost $1 million a year in revenue. Its currency converter was getting 25 million hits a month.
Those early successes also allowed Stumm and Olsen to see the potential of jumping up to the next level: creating an online forex trading platform of their own. Despite the availability of more accurate rates from Oanda and other new online sources, large spreads persisted at major banks and currency dealers. Then, as now, the latter charged a range of fees, depending on the size of the client. Interbank spreads on major currency pairs, such as U.S. dollar/euro or euro/yen are typically between one-100ths and two-100ths of a percentage point of the transaction value. This means that for a $100,000 transaction, the bank offers to buy a currency for one price, and sell it for $10 more. For companies affiliated with them, banks might offer a 0.25% spread, or $250. Then there is a wholesale rate for commercial transactions with, say, a 0.5% spread, and a retail rate for small individual transactions—credit card purchases, exchanging actual cash, and buying and selling foreign securities—where spreads can range from 1% to 4%.
Stumm and Olsen figured they could offer the little guys the interbank rates and still make money if their trading platform was completely automated. They were also one of several upstart online forex firms that were trying to attract individual day traders. Many of those traders had cut their teeth on soaring North American stock markets during the 1990s. But they were starting to shift over to currencies in the wake of the dot-com bust of 2000 and the switch to decimalized pricing by major stock exchanges. That switch was completed in 2001, and it shrank price increments and profit margins to fractions of a penny per share.
The biggest attraction of currency trading is that it allows the use of hefty amounts of leverage, which can greatly magnify profits from even tiny shifts in exchange rates. In those days, leverage of up to 100-to-1 was common, meaning you could buy a $10,000 currency contract by putting down a deposit of just $100. If you buy the U.S. dollar at parity with the Canadian dollar, and the U.S. dollar gains one cent, that's a 100% profit. (Lately, U.S. regulators have limited leverage on major world currencies to 50-to-1, and it's 30-to-1 in Canada. Even that reduced leverage means that only a small fraction of the $4-trillion global daily currency trading volume actually changes hands.)
There wasn't much competition for the retail forex traders' business from big banks. They weren't—and still aren't—interested in catering to the little guys, who represent less than 5% of global trading volume. None of Canada's Big Six banks offers online accounts targeted at day traders. The banks have their own currency trading teams, with vast amounts of capital at their disposal. They still charge high rates to their individual retail customers.
Olsen's Swiss banking family didn't want to fund a competitor, no matter how small, so he and Stumm gathered up some of their own money. Then they paid four of Stumm's former students $50,000 apiece over nine months to develop software.
Several major elements were needed for the platform, but they weren't too difficult for sharp programmers to write cheaply. The system had to accept cash from clients (even from credit cards, which Oanda still does), shoot it into the firm's bank account, monitor market exchange rates, offer users immediate price quotes (with a small spread), execute trades instantaneously, yet prevent clients from risking too much money.
Limiting that risk was actually fairly simple, too. Every major online trading platform has some form of automatic stop-loss order. If a client put down $100 (Canadian) to buy a $10,000 (U.S.) contract at par, and the greenback declined by one cent, thereby wiping out the deposit, Oanda's system would then sell the contract—easy to do instantly in the highly liquid market for major currencies. As is also standard practice in the industry, clients had to close all their positions by the end of the day. (Approximately 90% of all currency trading is intraday. Margin charges discourage traders from holding positions overnight.)
Yet Stumm also included several unique features that tempted clients to borrow and trade quickly. Customers could start by depositing as little as $1, and Oanda charged them interest on levered trades that was calculated by the second. That meant that the borrowing cost was very tiny at first, but started climbing steadily right after a client took a position, encouraging them to get out fast.
Oanda launched its platform, called fxTrade, for users anywhere in the world in March, 2001. It was an immediate hit. Over the next four years, its volume grew to 250,000 trades a day, and Oanda's workforce expanded to 50 employees.
But even in those early years, Stumm was behaving unusually for a CEO. His obsession with technical correctness helped drive the company forward, yet it also intimidated and alienated many of the firm's staffers. For the most part, they considered him brilliant, and tried to shrug it off if he blew up at them.
There was also a great deal of uncertainty about regulation, which Stumm hadn't factored into the business model or the trading system. To be fair, retail online currency trading was a new frontier in the early 2000s, and it wasn't clear in Canada or the United States what rules should apply to it, or even which agencies should regulate it. In 2003, Stumm phoned Katten Muchin Zavis Rosenman, a Chicago law firm renowned for its expertise in regulation of futures and options trading, to ask for advice.
He reached a senior partner, who was astonished at what Oanda was doing. "You're serious? You're already operating?" Stumm recalls the partner asking. "You have to shut the thing down immediately, apply for a licence and start again." But Stumm simply refused. "There was no way we were going to stop the business," he says. That attitude unnerved the senior partner, who didn't want to risk his reputation with the National Futures Association, the U.S. self-regulatory organization for futures and options contracts on commodities and currencies, by taking on the case. So he passed the file on to a junior partner, who convinced the association that Oanda had made an honest mistake by not registering with it.
Stumm also intrigued many potential investors with Oanda's product, but worried them with his management style. Danny Rimer, a principal with the London-based venture capital firm Index Ventures, started taking a close look at Oanda in 2005. He is also Swiss, and now an Oanda director, yet back then he had trouble persuading his colleagues at Index Ventures to overlook Stumm's quirks.
But Oanda's expanding revenues and Stumm's technological wizardry were too promising to pass up, so Index Ventures invested $17 million in September, 2005. Oanda had just introduced its cleverest trading innovation to date: a patented process called BoxOption. It allowed a trader to draw a box of any size or shape ahead of the trend line on the day's chart of a currency's value. If the actual line went into the box, there was a payoff on whatever deposit the client put up. The smaller the boxes, and the further they were drawn ahead of the live trend line, the bigger the potential payoff.
Those payoffs to clients were slightly less than Oanda could get by hedging its positions with a wholesale bank that would provide the same range of possible outcomes contained in the box. That meant that Oanda had virtually no risk. But the firm discontinued BoxOption last year, after Stumm left the firm.
Despite Oanda's growth, and the risk controls that Stumm built into the trading platform, he just couldn't stop worrying. And his anxieties multiplied as the firm continued to expand.
One of his constant fears was that unsophisticated traders using a lot of leverage might somehow blow up the system, even with the stop-loss mechanism and other restraints. At one point shortly after fxTrade debuted, a Dutch client deposited $3 million and wanted to trade it at 50-to-1 leverage. That would have allowed him to place orders totalling up to $150 million. Oanda had very little capital of its own in case of emergency, so Stumm sent the money back. Indeed, Stumm was worried even if a client put in an order for more than $100,000. So he installed a function that automatically sold off any trade that exceeded that limit to a large bank, sometimes at a small loss, if necessary. When the client reversed the order, Oanda reversed its order with the bank. Stumm also wanted to ensure that the firm's total exposure to euros, U.S. dollars or any other single currency didn't get too large during the day. The solution to that was to automatically batch together client positions in that currency and flatten them out—sell them to a bank at the market rate at that moment.
Olsen's connections with European banks helped in arranging both types of sales. They hadn't heard of Oanda before, but they were excited by the prospect of getting several hundred orders a day, and offered to do the trades at very thin spreads. Oanda also approached Canadian banks, and Stumm now laughs at the reception he received: The Canadians quoted spreads that were much larger. "They just don't get it and still don't," he says.
Employees were another chronic source of stress for Stumm. One Thursday in August, 2006, three members of Oanda's 15-person technical team in Toronto quit, including two of the firm's original four engineers. They were dissatisfied with their pay and the constant pressure. Stumm figured it was necessary to review the computer code for the entire trading system. He offered the remaining programmers $10,000 apiece if they could do it within a week. The first week was frenzied, with the remaining team working pretty much around the clock. But it then took years to completely replace all the previous code.
Despite that bump, Oanda kept growing, and Stumm and Olsen were eager to raise more capital. In early 2007, some serious U.S. private equity investors started sniffing around the company. So the duo hired Allen & Co., a boutique Wall Street investment bank, to seek out offers. When asked why Oanda didn't approach any Canadian banks or investment dealers for help with financing, Stumm smiles. "I still don't think Canadian banks think we're for real."
That September, Oanda announced that a consortium of big-name U.S. investors had invested $100 million in the company for a 20% stake. That meant that the firm as a whole was worth about $500 million. The group was led by Silicon Valley venture capital giant New Enterprise Associates (NEA), and included Legg Mason, T. Rowe Price and Cascade Investment LLC, which holds most of Bill Gates's personal investments.
As is usually the case with big venture capital and private equity investments, the investors got representation on the company's board. Krishna Kolluri, a general partner at NEA, was appointed as a director. "We look forward to a long and successful relationship with this outstanding team," he said in the press release announcing the deal.
Kolluri got the "successful" part of the relationship right, but not the "long." Second-stage private investors typically try to help whip a growing company into shape and polish it up for an IPO, and part of that job often involves managing the egos of the founders.
Olsen and Stumm ought to have realized that their days running the firm were numbered. That said, it was hard to see what was coming, both within Oanda and in the marketplace. The company has continued to expand its business and innovate. In 2008, Oanda announced that it had "broken the sound barrier," by lowering its standard spread on U.S. dollar/euro trades to less than one-100ths of a percentage point. It is the largest retail forex dealer registered with the U.S. Commodity Futures Trading Commission, with about 17% of the U.S. retail currency trading market (by number of clients) as of last October.
But 2007 turned out to be the peak in global financial markets generally. Although Oanda was not slammed directly by the collapse in stock markets and real estate values in 2008 and 2009, the forex business has become tougher and more competitive. And the market for tech IPOs has cooled. Oanda may be worth substantially less than $500 million in the current climate. Many of the online forex trading upstarts that launched around the same time it did have gone out of business.
Last May, both Olsen and Stumm stepped down. Olsen has other businesses in Europe that needed more attention. Stumm was getting tired of running the firm with the board looking over his shoulder, insiders say. Kwamina Duker—who prefers being called just K in all company communications—was named as Stumm's successor. Duker had been managing Oanda's Asia-Pacific division since 2008, and had headed up Deustche Bank's Asia-Pacific electronic foreign exchange business before that.
Stumm declines to discuss the specifics of his departure. Long-time friends and associates say he seems to be mellow these days, although his mood can still sometimes shift quickly from jovial and charming to arrogant and dismissive. When asked what he'll do next, there's no definitive answer. "I neglected the university, so I'm getting more involved in research," he says. "I don't see myself doing another start-up, but I love the entrepreneurial environment, and I love giving advice."
If and when Oanda goes public and Stumm cashes out, he will have a fortune. The sidelines are often the calmest and most rewarding place for a visionary to end up.