If you follow our Market Blast Fundamentals videos every Monday, you will hear us talking about events on the Economic Calendar. One of the most important events on this calendar is the Interest Rate Decision.
Why do Interest Rates Affect Currencies?
Basically, if Interest Rates are higher in any given economy, the banks will pay holders of that economy’s currency more on deposits, therefore, the currency becomes more valuable. Also, if lenders can make more money by lending out that currency, it becomes more valuable. Simple!
Each major economy has a Central Bank that analyses data, often regarding inflation, wages, employment etc., and they use Interest Rates as a safety valve to control the economy.
Each Central Bank has a set calendar where they announce Interest Rates:
US Federal Reserve: 8 times per year
European Central Bank: 8 times per year
Bank of England: 8 times per year
Reserve Bank of Australia: 11 times per year
Reserve Bank of New Zealand: 7 times per year
Bank of Canada: 8 times per year
Bank of Japan: 8 times per year
Swiss National Bank: 4 times per year
Some of the frequencies in the list above may fluctuate but the most important thing is that these announcements are well-publicised in advance.
Watch the Speeches Too!
Have you ever heard the expression, “Buy the Rumour, Sell the Fact”? This is an adage for equity investors but it is also true with Central Banks and Interest Rate decisions. If you follow the speeches by Central Bank leaders, and even Central Bank sub-governors, they may talk about or even hint at future changes in Interest Rates. This is often enough to convince big traders and investors to buy or sell that currency and thereby drive the market.
So? How can retail traders take advantage of these movements in price action? If you try to second-guess the central banks and open positions before the news events, you are not trading; you are gambling. Also, in times of high volatility, market liquidity may be non-existent, spreads will widen, and your position may be stopped out.
A safer and more reliable way to trade events like these is to let price action run and find an opportunity for a reversal later. Here is a classic example:
We can see on this AUD profile which pairs are trending up, trending down, and ranging.
Remember the Economic Calendar? Here was a case where analysts predicted no rise in Interest Rates:
What happened, in reality, was an increase of 0.15% which drove the AUD higher and quite quickly:
We then monitored AUD to see in which pairs price action went against the trend:
We then waited for price action to reach a technical level.
Chose your strategy: trend lines, Fibonacci, support and resistance, Bollinger Bands, whatever technical system works for you. And don’t forget to confirm with an oscillator and/or candlestick patterns.
Once you are convinced, open a position in the same direction as the current trend:
Set your profit target at a technical level that works with your strategy.
However, there is one important factor that traders need to consider when trading any news event. Movement in price action is not necessarily based on good news or bad news. It is almost always based on the difference between the analysts’ Forecast and the Actual figure.
If the Actual figure is vastly different from the Forecast, movement in price action may carry on for days or weeks, completely ignoring your beautifully plotted technical levels and indicators.
Like anything in life, wait for confirmation!
The information provided herein is for general informational and educational purposes only. It is not intended and should not be construed to constitute advice. If such information is acted upon by you then this should be solely at your discretion and Valutrades will not be held accountable in any way.