A look at Forex Market Relationships with other Markets
Posted by | Posted in Forex Trading | Posted on 03-05-2009
Trading in the market does not happen in a vacuum. This mantra applies to all investment markets; the usual suspects like stocks and commodities, but also Forex. There are a variety of events in any given environment that could affect the values of items in any of these markets. The phenomenon we are looking at here though has to do with the effects the markets have on each other. Understanding these correlations will help you be more profitable in your task to learn how to trade forex better.
Spreading risk is an important concept in investing circles. You want to ensure that you spread your investments, or at least the basis for investments, across a variety of markets and sources. There is also the idea of hedging. Basically, it involves trading in the opposite direction e.g. buying another asset when you have a sell position opened, to smooth out the risk. One might look at this and work out that the net result would be zero, but savvy investors obviously expect to get out of the losing position quickly, and stay in the winning position for longer.
The point here is that the ideas above can be applied to trading Forex, even without directly owning assets or accounts in the other markets. For example, take the relationship between commodities like Gold and Oil, and currencies from Australia and Canada. Rising Oil prices help to increase the Canadian Dollar’s value against the dollar. This occurs because Canada is one of the World’s largest producers of Oil. Canada is also the biggest supplier of it’s neighbor, the US.. When Oil is on the rise, it is good for Canada, as much of Canada’s Economy depends on it. The end result is, you can trade the US Dollar/Canadian Dollar currency pair armed with this information.
This can be applied to a lot of other forex pairs. You can do some mixing and matching as well. Rising Gold tends to be good for the Australian Dollar and bad for the US Dollar, so one can buy the Australian Currency against the Dollar under such circumstances. Also, when US Equities are doing well, the Dollar tends to gain on the Japanese Yen because people would sell the Yen for Dollars so they can buy US Based Assets which offer a high rate of Interest than Japan.
The thing to note here is that this correlation is not absolute. Sometimes, they will flip over without much warning, or a disengagement will occur. This might be due to fear in the markets or just general change of mood. This was the case in January 2009, when Gold and the Dollar began to move up at the same time. Not everyone is fond of these interrelationships. Some people claim they are of little value, and do not apply. However, they are can be of value. As a Forex Trader, you have to make use of all tools that come your way. I think there are times when it is best to go with the established trends. Like any other situation, the trader has to be constantly vigilant and pay attention to the surroundings. As long as you manage your risks accordingly, you will be able to stay in good shape, regardless of what happens.
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