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Operating in the over-the-counter FX market, brokers build up long or short positions in the short-term FX swaps market as they do business with their client base.
The price of the swap is determined not only by the short-term interest rate differential but also by its internal positioning.
Some brokerage firms build up positions that make them natural sellers of short-term FX swaps, while others develop positions that make them natural buyers.
This difference between brokers who are naturally long the swap and are inclined to offer it cheaply vs. those who are short and willing to pay up creates an arbitrage opportunity.
The strategy is implemented without any directional bias, one way or the other, and it gets rolled over daily for as long as the inefficiency exists. The strategy does not depend on leverage but involves some minor counterparty risk.
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