Author Bio

There’s a massive amount of commentary in the news and among market participants about JP Morgan and the big loss it reported earlier this week. The politicians, and anyone else calling for stricter regulation of the banks, are having a grand old time with this development, suggesting that Dodd-Frank and the Volcker Rule were exactly intended to avoid this sort of thing happening. Actually, I’d argue that they are (or should be) designed to ensure the security of the financial system (FDIC insurance being there to protect depositors). To that end, here we are with no risk to the financial system from the JPM loss because the bank has a “fortress balance sheet”.

Isn’t that what every bit of discussion and legislation has been about the last few years? Shouldn’t we be looking at this case as being a perfect example of why all banks should have such strong balance sheets?

We cannot possibly expect banks to never have losses. In this case it was a bad trade/hedge decision and execution. In another case it could be a higher level strategic business decision (acquisition, entry into a new market, etc.). Just as we cannot prevent individuals seeing negative consequences from either rational or stupid activities, we cannot expect companies (banks, automakers, or otherwise) to have every decision produce a positive result. It’s a question of risk management and having the cushion to ensure the inevitable issues don’t get transmitted through the system.

That’s my political/social rant for now.

Getting into the trade
As for what JPM actually did to suffer the loss, it’s a pretty convoluted thing that most individuals won’t understand well and really don’t need to in any case. I won’t try to explain the details of it here because frankly I’m trying to work through what the Thomson Reuters reporters have pulled together thus far and we may never get the whole story regardless. What it seems to come down to is JPM having a short position in the credit default swap (CDS) market, which essentials is akin to going long a bunch of corporate bonds (taking credit risk). It’s hard to see this as any kind of hedge since JPM would have credit risk in its portfolio from the lending it does.

The hedge aspect seems to be from using different CDS instruments to go long later, but there was a maturity mismatch. It’s kind of like trying to hedge 10yr Notes with 2yr Notes in that it is different than a simple interest rate hedge because you have created a yield curve exposure (yield curve could flatten or steepen). JPM seems to have been caught out by events influencing the two maturities of CDS in different ways.

And of course all of this tends to get exacerbated by relatively illiquid market conditions and the fact that JPM essentially became the market at a certain point. This is part of what created the problems in 2007 and afterwards when the financial crisis began to unfold. There was suddenly no one to take the other side when institutions wanted to get out of their positions, and actually folks (read hedge funds) actively working against them.

Focus on the hedge structure
The hedge mismatch is something worth thinking about if you look to do hedging in your trading or investment activities (most individuals don’t, but some do). One thing I hear often among forex traders is their action (or intention) to use one currency pair to hedge a position in another.  For example, a trader might go long USD/CHF to hedge a long position in EUR/USD. The rationale here is that you remove the USD-related risk because you have a long USD position matched up with a short USD position.

Here’s the problem, though. While you do remove the USD risk, you have now added a short CHF exposure. You’re now long EUR/CHF. This is an entirely different trade than the one you started with.

Hedging should be about reducing or eliminating a certain risk, not about creating a new one. JPM seems to have made two mistakes. They introduced a “curve” risk by hedging with shorter-dated CDS, and they introduced a liquidity risk by being so big in a relatively illiquid market. Make sure you don’t create new risks with your own hedging.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

In the webinar a couple weeks ago a question came up from one of the attendees as to when the best time of day is to trade. This is a question that comes up a lot among forex day traders, though obviously most folks who seek to operate in that arena are constrained by the time zone in which they live. I’m going to present two distinctly different answers to the question – ones that contradict each other.

First, conventional wisdom
When the question of best time of day comes up the answer often put forward is the London/New York overlap period. The reason here is a combination of volume and volatility. London is the center with the highest average forex market trading volume, and New York comes in second (see The Most Traded Currency Pairs for specifics on which pairs are the most active globally and across regions). As such, there is maximum liquidity during this time of day for the major traded currency pairs.

On the volatility side of things the London/NY overlap is also the period when many of the most significant data releases and news items are released. Obviously, the NY morning is when most US data headlines post. Most UK and European data hits before NY gets going, but central bank statements and press conferences do happen in the NY morning. Also, key speakers often have their comments crossing the wires during the overlap period. In other words, there is a lot of news and data to move the markets and create volatility.

Thus, the London/NY overlap period offers volatility and liquidity, which many folk see as keys for worthwhile day trading. But wait!

Performance reality
The folks at DailyFX did a study a few months back looking at the performance of FXCM clients based on the time of day they traded. The results they came up with were entirely contradictory to the conventional wisdom noted above. They argue that it’s the lower volume NY afternoon, Asian, and early-European sessions which see the best trader performance.

Why so?

The author’s argument is that most individual traders tend toward a range-trading approach. This style of trading is ill-suited to volatile markets. As such, the news and data induced volatility we see in the London/NY overlap period is actually a negative for trading in the major pairs. They include a graph which shows a clear trough in the success rates of trades in the NY morning and another that shows the relative volatility peaks at that time of day.

Now, as I wrote in Optimize trading performance by time of day selection, there are some issues with the DailyFX article in its focus on win % as its main metric. The authors did include some system performance figures which provide some more results to back up the overall premise, though. As a result, I think it’s worth at least taking a very hard look at how your trading would do in different time frames during the day.

Makes you have to start wondering about conventional wisdom, doesn’t it? It should also have you thinking about opportunities to diversify your trading time of day. This may not be something you can do yourself because of your available time and locale, but using an autotrading system might offer you an opportunity to do so.

Editor’s Note: Originally derived from the webinar, the question examining what time of day is best to trade Forex had been answered by Trade Leader Taylor Growth during the Q&A session. Since he is a range trader himself, his response was congruent with the second part of the above answer, which leans towards the lower volume NY afternoon, Asian, and early-European sessions as yielding the highest trading success rates.

Taylor Growth explained that the best time of day to trade really depends on the strategy the trader is using. Since his conservative strategy is very technical, he believes it fares better in Asian sessions when trading European pairs. Since it is nighttime in Europe while the Asian markets are most active, no European news releases are making their way out and influencing trades.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

A question came up during the webinar last week regarding stop hunting. One of the attendees was curious about it, no doubt having heard the term bandied about among retail traders. This gets brought up on a fairly regular basis, mostly by folks who saw their stop get hit in a market that quickly reverses back in the direction of their trade (see Stop-hunting is NOT the problem some people say). Let me try to clarify things.

A definition
First, let me explain what exactly stop hunting (running) means.

Basically, what we’re talking about here is one or more market participants attempting to manipulate prices such that the market reaches a level where preset orders are believed to reside in order to trigger those orders. Notice I didn’t specifically say “stop” orders there. They could be stops or limits. It doesn’t really matter. Those attempting to hunt those orders are just looking to get them triggered for their own purposes.

Why stop hunt?
So what are those purposes?

Imagine there are a bunch of buy orders residing at 100. What is likely to happen if the market hits 100 and triggers those orders? The market will probably go higher, right? If you know (or think) those orders are there and have the ability to push the market in that direction, can you see how you might want to trip those buy orders and then sell into the subsequent market move either to take profits on a long position or to sell at a better price?

This sort of thing has been going on for many, many years. Stories have come out of the futures trading pits (and probably from stock exchange floors too) for ages. It also happens in the inter-bank market where the primary pricing of forex rates is done.

Where retail forex is concerned, stop hunting is generally talked about more in terms of brokers manipulating prices. The fact that some retail brokers act as counter-party to their customers trades (market-making or dealing desk brokers) rather than acting as middle men (ECN or Straight Pass Through brokers) is seen as incentivizing said brokers to move prices against their customers to trigger their stop loss orders so the broker can profit from customer losses.

The reality
Back in the early days of retail forex there probably were unsavory brokers who manipulated prices to their advantage, and may still be in certain corners of the globe. Things have gotten much tighter in recent years, though, so if you stick with a reputable firm you’ll be free of that sort of abuse. In fact, as much as some like to bad-mouth the new regulations put in place in the US by the NFA and CFTC, part of what they have done is to put brokers under a spotlight to ensure these sorts of things don’t happen, and are punished if they do. In fact, one forex forum member put it to the test and found no evidence of stop hunting by retail forex brokers.

In other words, if you get stopped out on a price spike, it’s not your broker stop-hunting you. They get their prices from the inter-bank market, so if there was stop hunting being done it was almost certainly happening at that level.

Stop hunting will continue to go on in the markets, but it’s not something you should worry about. If you trade for any length of time you will inevitably fall victim to an adverse price move that takes you out of a trade only to see it reverse. There are any number of things that can make that happen. Where you are concerned, it’s either bad luck or bad stop location. A lot of those who claim they were stop-hunted just placed their stop too close to the market and either don’t realize it or don’t want to take the blame for poor decision-making.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

The yen is an enigma to many forex market participants. It doesn’t trade like the European currencies, nor does it move like the commodity currencies. Oftentimes, it trades against the dollar the opposite way we would expect given the broader market actions.

There are a lot of things that go into yen trading, like the fiscal year-end in March, that make it unique. That has been furthered along in recent times by the aftereffects of the earthquake. This is all within the broader context of an economy that has struggled to do anything for many years now, with little prospect of reversing that any time soon. The low Japanese interest rates as a result have kept the yen at or near the top of the list of favorite currencies to borrow for carry trade purposes.

We saw a lot of the Japanese bugaboos hit the yen hard during the February/March period when USD/JPY rallied from testing 76 to the downside to probing 84 on the upside. That came after many months of the market going sideways at a time when the markets were looking at the US economy improving, which was supporting the dollar.

As you can see from the chart below, the weekly Bollinger Bands got VERY narrow as a result of the long consolidation. The rally since the range break has taken the Band width in the opposite direction, getting it to near its highest level in the last couple years.

The market has obviously since retraced some of the rapid rally, thanks in part to weaker US economic data starting to get traders thinking the Fed may decide it needs to act to further loosen monetary policy. We’ll find out this week just how far down the path that thought really has gone. In the mean time, we have an interesting technical picture.

I’ve added two lines to the weekly chart which represent important levels for the market from here. The upper one is the high from April of 2011 above 85. The lower line is the high from late October and early November that should now be support. Those create a very good set of bounds between which the market can consolidate while the Bollinger Bands work back toward at least a more normal width.

Drilling down a bit, it is worth looking at the price distribution charts to fine tune the analysis. The chart below features monthly distributions (based on daily moves). Where they are thick, the market has spent the most time. Call these attraction zones. Where they are thin, the market hasn’t spent much time there at all. Call these rejection areas.

This month USD/JPY moved down to test the price level from February where the market spent the most time (though granted, not very much because of that month’s trending action). The market has bounced from there, essentially rejecting what should have been a good attraction area. As this was also above the peak from Q3 last year, it can be considered an indication of strength. As a result, I like the prospects for the market to work back up toward recent highs. That is perfectly reasonable, even within an overall consolidation.

So what’s the implication of this?

Well, if the market just shifts into consolidation for a while then I think it probably just indicates a market that overreacted to the recent softer US data (especially the jobs report). If USD/JPY eventually extends the rally from 76 to break the April 2011, it will probably do so on the basis of a combination of the concerns about US growth abating but the same not being the case for Japan. The limiting factor, though, is the trade imbalance. If the US economy strengthens sufficiently to increase import demand, that will eventually flow through to benefit the yen.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

One of my Treasury market colleagues brought up an interesting subject today by way of asking me how many euros the Swiss National Bank (SNB) owns as a result of its intervention to prevent the franc from being too overvalued against the Eurozone currency (which I’ve discussed before). The discussion point he was working toward was that the SNB likely has been a major buyer of German government debt as a result of its euro purchases. That and the flow of capital out of the EZ periphery (Greece, Spain, Portugal, etc.) in to German paper has served to depress yields there.

Consider this. The ECB has set the overnight rate for the euro at 1%, yet the German 2yr yield is currently running at about 0.14%. Compare that to the US were the Fed has set overnight rates at basically 0% and 2yr yields are currently about 0.27%. This negative yield spread (-13 basis points currently) is part of what’s been keeping EUR/USD under pressure.

The chart below shows the relationship between the 2yr Germany-US yield spread and the EUR/USD rate. The upper plot is EUR/USD. The middle plot is the yield differential. The lower plot is the rolling 20-day correlation between the two. Notice how that correlation has been positive the vast majority of the time.

The big question out there among many market participants is why the euro isn’t weaker given all the problems in Europe at the moment. We can look at the low rates in the US and Germany as part of the equation. It’s hard for the yield spread to go too much lower from here so long as US rates aren’t on the rise and Bernanke (and the last US jobs report) has done a pretty good job of keeping them down. If the positive correlation holds, it will likely take improved US economic expectations driving US yields higher to really help push EUR/USD down.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

I threw the question of what I should write about this week to a former manager of mine who was a forex dealer back in his younger years and now makes a living telling folks what’s happening in the markets. He tossed back a surprisingly good question:

How can technicals be relevant when central banks are trying to manipulate the market- BOJ with USD/JPY and SNB with EUR/CHF?

I’m sure this is something that others have pondered as well.

Here’s my view on it – speaking as someone who is very much a practicing technical analyst.

Currency intervention by a central bank or other monetary authority (in the US intervention is directed by the Treasury, though it’s executed by the NY Federal Reserve Bank) is just another news item or event that influences exchange rates. Those of us who’ve been around the markets for a while have seen a great many dramatic market reactions to all kinds of developments. Some of them have been triggered by data releases. Some have been driven by news events. Some have been caused by speakers. And some have been the result of intervention action. Heck, some of the moves have come just from the suggestion of intervention without it actually happening.

In other words, intervention is just one more thing that is reflected in the price action we see on the charts. Furthermore, it’s also something that is incorporated into the market’s expectation of the future as part of the price action we’re seeing now. The more market participants anticipate intervention, the more they will factor that into their trading and by extension the more it will influence the price action we see. It works in the same way that stock traders will price in anticipated share buybacks or weak earnings. All markets are discounting mechanisms in some fashion or another, and we can analyze the patterns that are developed in the price action through that process.

So, from my perspective, I don’t view technicals as any less useful in a market where intervention may happen. I use the same methods I would in any other case.

Now, having said that, intervention certainly presents the potential for a major volatility spike on the event (or even the hint of it). If your trading strategy or market analysis is ill-suited to that kind of thing, then while that risk is in the markets you may be best advised to either change the pair(s) you trade or to lengthen your trading time frame out to one where sharp intraday moves aren’t so much of a concern. Alternatively, you could adjust your risk so that you have less exposure for trades going against the likely direction of intervention (like when going short USD/JPY if you think the Bank of Japan is going to sell yen). The analysis doesn’t change, but how you then use it does.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

Even if one is a short-term trader, it is worth taking a look at the longer-term chart from time to time to see how things are developing in the higher time frames. My daily work has me usually focusing on daily and intraday charts, but now and again I’ll flip over to the weekly chart to gain that broader perspective. The thing I noticed today was an interesting development on the weekly USD Index chart.

As you can see below, the Bollinger Bands in that time frame have been getting progressively narrower since about the first part of the year. They are now very narrow. In fact, on a relative basis (as shown by the purple Band Width Indicator sub-plot) they are as narrow now as they got late in Q3 last year. Notice what happened then.

Since the USD Index is heavily weighted to the euro, we basically see the same narrow-Band situation for EUR/USD as we do for the index – just with the chart inverted.  We see similar tight Bollinger set-ups in GBP/USD and USD/CHF, which isn’t too much of a surprise given how closely related those currencies are from a fundamental (and central bank) perspective these days.

The interesting thing, however, is that once you get outside the European currencies the story is different – considerably so in some cases. The narrow-Band situation actually produced a major breakout in USD/JPY earlier this year. Now we’re seeing the market consolidate after its powerful rally.

In the case of AUD/USD, we’ve got a market basically working through a sizeable range that’s been working since the highs were put in last year. We’re now seeing the market having turned down from its latest swing up, looking quite like it’s headed back for the bottom of the zone.

If we flip AUD/USD over we get a pretty close approximation of how USD/CAD has traded. There difference, though, is in the recent action. Where the Aussie has been selling off, the Loonie has been holding steady over the last couple of months.

So what does this all seem to say?

My interpretation would be this. The relatively better performance of the CAD vs. the AUD is indicative of at least the perception of the situations with the US and China respectively. These currencies are seen as closely linked via trade to their large neighbors, so as the US data has gotten better, the CAD has been supported, and as the China data has disappointed, the AUD has weakened.

Japan is largely its own situation. There is certainly some impact from China there, but mainly the yen trades as a function of two things. One is the stagnant economy in Japan, which is showing little sign of doing anything any time soon. The other is US interest rates. The correlation between USD/JPY and the US 10yr yields is quite strong as higher US rates make the yen more attractive as a carry trade funding currency than the dollar, plus more attractive for investment returns.

Then there’s Europe. To my mind, the ranging we’ve seen in the major pairs there is reflective of the markets getting a handle on where everything stands. We’re basically waiting on the next meaningful development. My guess at this point is that will have more to do with the US than it will Europe. I say that because the market seems to see the Eurozone issues as pretty clear with little change expected out of the ECB for a while. If anything the leaning is toward further loosening of policy by that central bank.

In the case of the US, though, the situation is on more of a knife’s edge. As we saw from the reaction to the FOMC meeting minutes Tuesday afternoon, there have been a number of market participants looking for another round of QE3 from the Fed (including the likes of Goldman Sachs). At the same time, though, we have others who see the US on a good sustained growth path. The USD is likely waiting to see which side is going to win that argument. How the USD Index moves out of its current consolidation will be indicative of which way that fight ends up going.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

Month and quarter ends are always interesting times in the market, with all kinds of capital flows offering the potential to move markets. This time of year in particular we also have Japanese fiscal year end to add to the mix. As we near the finish this quarter, though, I’d like to take a look at what might be coming our way in the next one. Specifically, I want to take a look at the research I’ve done on forex seasonal trading patterns to see what’s ahead for the market.

April is not a very strong month for the USD. In fact, statistically it has been one of the worst. Looking at data back to the early 1980s, we can see that in general terms the dollar has fallen about 60% of the time and lost about 0.5% in value against the other major currencies (I’m not specifically using the USD Index here, but close). The pattern is even stronger since the introduction of the euro. Going back to 1998, the dollar has been down 61.5% of the time for an average annual loss of 0.72%. Only December has a more negative pattern.

One thing that is worth noting, though, is that we would expect to see a positive transition over the next few weeks. We can see that on the chart below, which looks at the 1-month forward returns on a week-by-week basis (measuring 7-day periods, not calendar weeks).

The featured area is the next 4 weeks, with week 14 representing April 1 to April 7. We can see we start April off in a period of strong negative indications for the dollar, a pattern which began a couple weeks ago. That shifts from negative to positive as we get into the middle part of April, though.

As for what to play on the other side, the pound is the major currency with the best April statistics. The GBP been up in general terms nearly 70% of the time during the month since the euro launch for an average 0.45% gain.

We would therefore expect GBP/USD to have a strong positive bias heading into April and that is indeed the case, as the weekly returns chart shows.

Notice here, though, that the pattern shift is much more swift, if also more abbreviated.

This seasonal bias information isn’t a suggestion to go out and get long GBP/USD, though. These biases are just that, biases. There are no sure things and even when the market does move in line with tendencies it can do so in a very choppy fashion. As such, you would likely be better off using this information to help shade your trading – like perhaps being more aggressive on trades you do in the direction of the bias and less so against it.

It’s all about putting the odds as far in your favor as possible. This sort of data, if used prudently, can help you do that.

Now, as to what this means for the global markets…

That’s a bit trickier now that we aren’t seeing the same market patterns that we were seeing in the past whereby the dollar and stocks and interest rates all had pretty well-defined relationships. As a result, we need to be aware of whether the market is in “risk” mode whereby stocks and commodities are rising and the dollar is falling, or in the recent mode whereby the dollar and US Treasury yields have moved together, mainly as a function of whether the market sees more QE coming from the Fed. I personally don’t expect anything like that, but Bernanke has done is best to keep the markets thinking he’s inclined to maintain an accommodative monetary policy and doesn’t want to see long-term rates rising too much.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

The blogosphere was atwitter yesterday following Ben Bernanke’s class presentation at George Washington University. He did a hatchet job on the idea of the US ever going back on the gold standard, and the overall idea of having a gold standard period. This is obviously a major hot-button topic in both the markets and the broader world these days, so naturally there have been some heated reactions. I won’t wade into that particular battle, but did think it’s worth looking at how the metal is doing.

The chart below is the continuous front-month gold futures contract with open interest (green) and volume (purple) plotted below. There are some interesting things to be gleaned from the last two years of trading activity.

Two things jump out at me.

First, notice the general downward slope in the peaks of Open Interest (OI). Ignore the sharp declines which are spaced through as that represents the futures roll-over period. Just look at the relative heights of the peaks and how they have been sloping lower since early in Q4 of 2010. That’s a sign of falling participation in the market, especially over the last several months following peak last year. This is a good explanation for why gold hasn’t been able to manage even a retest of that prior peak on the last couple of upswings.

The other observation, which is harder to specifically see the chart, is that we’ve seen a pattern shift in volume. Heading into the peak in August the volume spikes tended to be on moves higher. Since then, though, the major volume spikes have all come on big down days. That’s an indication of a change in psychology whereby the longs are no longer as secure in their positions as they were previously and are thus quicker to exit, and/or shorts are more eager to jump in.

I think gold is in trouble here and could easily fall back below 1500 on the next move down. That sort of thing would probably be indicative of support for the USD, but the correlations these days have become somewhat muddled, so it’s hard to be sure.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

Have you been paying attention to the changing dynamics in the markets of late?

We’re no longer in a world where the dollar moves in the opposite direction from stocks on a consistent basis – the risk-on/risk-off pattern. Of late, in fact, stocks and the buck have moved in the same direction, as we can see in the chart below (USD Index in green, S&P 500 in black). For the last few weeks that direction has been higher.

As we can see from the weekly chart below, things have been pretty muddled all year long. The stock/dollar correlation (based on a 20-period calculation) has been a bit positive since December, though only slightly so. Basically, the two markets have been mainly uncorrelated, taking us back to a time when the financial markets mainly traded on their own factors.

Ahhhh…the gold old days. :-)

Right now the thing that has the two markets moving in unison is something that was actually part of the story even back during the financial crisis. The US markets are benefiting from the view that the US is well into recovery mode while the Europeans (the USD Index being heavily weighted in those currencies) still have a lot of stuff to work through to get themselves on track.

Now, the European problem has been in place for a while now, which is why if we look at the relative performance of the S&P 500 and the German DAX index below we can see that while US stocks have pushed above last year’s highs, German one still have a ways to go.

What’s changed of late where the dollar is concerned is the view on what the Fed will be doing – or more correctly, what it won’t be doing. The better US data has lessened the need for Bernanke & Co. to further loosen monetary policy by piling on new quantitative easing (QE) at some point, and statements out of the central bank have indicated that these figures aren’t being viewed as some kind of anomaly, but rather as part of a developing pattern. This reduces even further the odds of QE3, and as the chances of the Fed pumping more dollars into the system decline, the dollar is at least less pressured, if not outright supported from buying by those who expected QE3, especially in the face of the ECB dumping close to a trillion euros into the system via the LTROs.

So we’ve got improving economic data helping stocks and also helping reduce the chances of Fed action which would be negative for the dollar. That’s what’s causing the two markets to move in tandem of late. Just keep in mind, however, that the dollar tends not to do great when (all things being equal) when the US economy is very strong because of our increasing demand for imports. We’re not exactly in strong economy mode yet, but it’s something that will become a factor as things improve.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.