Central Banks are Key
Some traders may think there’s nothing more uninteresting than listening to the head of a central bank commenting about the economy. However, it may be one of the most vital pieces of information they can consider as part of their analysis.
Central banks release economic statistics in order to assist traders in better analysing the current market conditions. They also offer a great opportunity to listen to the leading global economists’ opinions on different topics. Such comments, whether obvious or disguised, can create high levels of volatility and long term trends in the currency markets.
There are 3 factors that traders should concentrate on, in order to establish what type of trends are likely to form in the near to long term future.
Interest rates are the first factor, and tend to be the easiest and frequently analysed out of the three factors. The central bank is the authority which controls interest rates. Most central banks have a monetary committee which will analyze the economy and alter interest rates accordingly via a vote. Interest rates have a strong and direct influence on the value of a currency. Even a hint by the central bank at potential interest rate alterations is able to cause large amounts of volatility.
When interest rates rise, it can be seen as an indication by investors that the economy is witnessing healthy economic growth and market confidence. Economic growth and confidence can trigger an increase in interest rates in order to control the level of high inflation.
This fact increases the demand for the local currency as investors want to invest in a currency which is backed by a strong and stable economy. The second reason the increase in interest rates can cause a rush in the currency is that the investor could obtain a higher investment yield from their investment with the bank.
When interest rates are decreased, traders are likely to witness the opposite effect. Lower interest rates signal an underachieving economy which does not provide consumers and investors with confidence. Also the investment yield is lower, resulting in traders looking to deposit funds in other regions with higher interest rates.
The second factor to look at, are the comments made by the central bank. These could be coming from the head or even in general, as an announcement by the bank. Central banks are interviewed and have conferences continuously, updating the public on the condition of the economy. The banks are likely to comment on interest rates, inflation, GDP and employment.
Comments on these four economic components are known to create high levels of volatility and trends in both directions. Therefore it is important to keep informed on these comments even if this analysis is not included in your trading plan.
Your trading plan and strategy may be based on trading trends and analysing the price charts. However, comments from the central bank can quickly change a bullish trend and a buy indication, all the way to a collapse and potential sell indication. Therefore as a trader, you must keep informed in order to be prepared
The third and last factor is represented by the predictions made by the central bank. The Chairmen, President or Monetary Policy Committee will not only state the current market conditions but will also give their prediction on how the market is likely to perform in the future. This can create even more volatility and overshow current market conditions.
For example, the central bank could advise that we are currently achieving all targets in terms of economic performance but they see an increased risk that the performance will drop in the near future. A comment like this could cause a “bearish” trend amongst the regional products even though they are currently hitting all necessary targets
The Main Global Central Banks
- US Dollar – Federal Reverse – Jerome Powells
- Euro – European Central Bank – Christine Legarde
- Japanese Yen – Bank of Japan – Haruhiko Kuroda
- British Pound – Bank of England – Andrew Bailey
- Swiss Franc – Swiss National Bank – Thomas Jordan
- Australian Dollar – Reserve Bank of Australia – Philip Lowe
- Canadian Dollar – Bank of Canada – Stephen Poloz
Currency trading can be volatile and sometimes as traders we experience unexpected price movements. The aim of this blog is to make traders aware of the importance of listening to central banks in order to establish current and future market conditions.
Knowing this information you are able to take this into consideration when analysing the market. In doing this you may decrease the chances of experiencing unexpected movement due to lack of information.