Why Forex Traders Should Keep Pace with Current Affairs

It is easy for Forex traders to fixate on the movements of currency pairs, investing on that basis alone.

But this would be to miss an enormous resource, particularly in predicting long-term trends. The reality is that fluctuations in the currency market are inextricably linked to current affairs. Why? Because the value of a currency can be seen as the relative price valuation of a national economy.

Broadly speaking, currencies grow stronger as confidence in the country's economy increases. They grow weaker in an economic downturn. And the economy is affected by everything from direct economic policy to technological disruption and social change.

Let's take a look at some of the most common and significant events Forex traders should pay attention to, and why.

Economic Policy

The most obvious events Forex traders need to pay attention to are changes in economic policy. A recent example is the expected tapering of the USA's quantitative easing (QE) program.

Although a reduction in QE displays growing federal confidence in the strength of the economy, it introduces uncertainty, deviating from a policy that has remained constant for five years. Tapering too quickly also runs the risk of hyperinflation. As such, in the run up to what most pundits thought was the Federal Reserve's announcement on tapering, the dollar weakened, falling to a two week low against the yen. As soon as the Fed announced it would continue QE at the same level the dollar rallied.

In contrast, the pound strengthened due to a leaked Bank of England memo judging that no further stimulus was needed – reflecting confidence in a tentative recovery – and that QE should be kept at the same level: meaning no new uncertainty.

Elections

Naturally, unless there is cross-party consensus, with known quantities as candidates, elections are periods of tremendous economic certainty.

Elections are important firstly because of the possibility of change in economic, monetary and fiscal policy. Even an independent central bank – such as the Bank of England – will be influenced by the government of the day.

Secondly, markets can be influenced by overall confidence in the economic abilities of a new leader and/or chancellor. Particularly significant is if the prospective leader has not been in power before, meaning their real-world abilities are unknown.

Germany's status as lynchpin of the eurozone meant that their elections are a particular point of concern for currency traders. If public opinion had swung towards the some party, which is anti-EU, things could look very different.

War

Needless to say, nothing affects an economy, and therefore currency, quite like a war. Although there are examples of war positively affecting economic growth – WWII pulled America out of the Great Depression thanks to the emergence of the military-industrial complex – the effect is generally deleterious, for obvious reasons. The loss of life, expertise and resources, social and economic uncertainty and the necessary re-tooling of the economy all play havoc with a nation, its currency, investors, trading partners and competitors.

As a relatively minor player in the oil market, Syria's current crisis — and the prospect of military action — is having less of an effect on the currency markets than may be expected. General uncertainty has sent many investors into 'safe haven' currencies such as sterling, particularly attractive following Britain's ruling out of military action, and other oil producing countries such as Canada are looking strong, but so far the effect is minimal.

However, conflict in the Middle East has a habit of spilling over national borders, and that means volatile oil prices, one of the biggest causes of economic change. Should the situation escalate, the Syrian crisis could have a highly significant impact.

Natural Disaster

Similar to war, natural disasters have an enormous economic and consequent currency effect.

The expected market response is a weakening of the currency as traders anticipate the cost of re-building, coupled with the loss of property, life and employment; much as happened to the dollar following Hurricane Katrina. But it is not always as predictable.

For example, the initial effect of the Fukushima reactor leak in 2011 was actually a strengthening of the yen. The theory ran that this was due to nervous domestic investors re-patriating investments, bringing money back into the country. There was also speculation that the strengthening could be due to large Japanese insurance firms exchanging foreign-denominated holdings for yen to cover the cost of handling the crisis.

Competitive Advantage

All these events impact the currency markets and need to be taken into consideration when making investment decisions. As can be seen from the examples given, the effect is not always predictable, which only makes the case for watching with a keen eye all the stronger.

It is important to remember that all this information is publicly available in the mainstream and financial media and is therefore just as accessible to your competitors as it is to you. As such, keeping watch on world affairs is just as much about denying a competitive advantage as it is gaining one.

And in a world of rolling news and real-time updates, it is not enough just to keep up with current affairs — you have to keep pace too.

by Sarah Willis

Sarah Willis writes on a number of subjects relating to finance and business on behalf of GO Markets, provider of Forex services including margin and FX and commodities trading.