Home Business, Personal Finances, Money and Investing Tips

Home Business Small Business Art of Marketing Negotiating Skills Selling Tips Office Furniture Employment Credit Cards Forex Trading Personal Finances Money
 

Understanding Simple Correlations and the Dollar

Currency correlation in forex pairs

Novice traders often have a tendency to trade just about any currency pair that moves. Typically they'll have their chart package open, they'll be flicking through all the: major pairs, the minors, some of the more exotic pairs and suddenly they'll witness movement on, for example, the pound versus the New Zealand dollar GBP/NZD.

They'll take the trade, it may or may not prove to be successful, but they've taken it because of a sudden price action movement, which may have (temporarily) reduced the spread, albeit marginally.

However, the spread on such a currency pair is never tight. A typical spread/quote of circa 5 pips is not uncommon on this pair and in many ways it never pays to take trades on such pairs, when more likely far better opportunities exist. How to identify the better risks and wait to take the opportunities offering better value, requires a range of skills, some of which we'll now discuss.

Learn about currency correlations
Understanding correlations between different currency pairs is crucial to successful
forex trading

The concept of correlation and how to understand it

Understanding correlation as a concept and how to trade it, is a subject which requires far more in depth analysis than can be contained in single articles, but we'll make brief reference to the phenomenon in this article, given its critical value to the subject matter.

So let's concentrate on the pair we originally mentioned; GBP/NZD. If our method, our trading strategy, is alerting us to a manual trading opportunity were this currency pair is concerned, then what does it indicate with regards to both sterling and the kiwi? Can we quickly identify, through a form of cross-referencing, what's happening to sentiment concerning both currencies and therefore identify a better trading opportunity on the major pairs? Will we be quoted a much better spread, with far less likelihood of experiencing slippage, therefore we'll get filled at the price and spread very close to that we've seen quoted on our platform?

Currency correlation constantly changes

A suggestion as a comparison is that we should quickly observe the price behaviour of GBP versus: yen, euro and U.S. dollar. Similarly, we should cross reference the kiwi's price action versus the same peers. It must be noted that correlations are not a permanent feature of the FX markets; it's by no means a given fact that, for example, if EUR/USD rises USD/CHF falls, despite it representing perhaps the most obvious negative correlated move in forex markets. Correlation tables, of which there's many free to access or download on the internet, change constantly as currency sentiment constantly oscillates.

If we're witnessing the pound rising versus the kiwi, is it also rising versus the: Euro, Aussie dollar, yen and the U.S. dollar? If the kiwi is falling versus the pound, is it also falling versus the same peers? Quite simply; does a better trade opportunity exist trading sterling or kiwi versus its peers, by trading a different currency pair, with historically better spreads and for more liquidity, therefore significantly reducing the potential for slippage? The answer may centre around the price action behaviour of the U.S. dollar.

By value, according to BIS (Bank of International Settlements) data published in December 2016, the U.S. dollar accounted for 87.6% of trade with its peers. The euro 31.3%, yen 21.6% and sterling 12.8%. All the data was based on 200%, given each currency always traded as a pair.

Establish a trend

Novice traders would therefore be advised to always look towards the major traded currencies to establish a trend, as opposed to attempting to find that rare "needle in a haystack" trade. Traders should always compare the correlations, reference the fundamental data which may have caused a move, but perhaps always look to see if a better opportunity exists with the U.S. dollar. Trying to curve fit our plan to trade other pairs not involving the dollar, can at times prove to be both frustrating and fruitless in equal measures. In the forex market it really is, "all about the Benjamins*".

*Benjamin refers to the slang name for the U.S. 100 dollar bill. It displays an image of president Benjamin Franklin on the reverse.

   Forex Trading Tips and Advice
Affordable Trading Options
Affordable Trading Options
Beginner Forex Traders
Beginner Forex Traders
Best Days for Forex
Best Days for Forex Market
Binary Options Strategies
Binary Options Strategies
Donchian Channel Indicator
Donchian Channel Indicator
Forex is Not Gambling
Forex Is Not Gambling
Forex Market Explained
Forex Market Explained
Forex Tips for Newbies
Forex Tips for Newbies
Forex Trading as Business - Part 1
Forex Trading as Business - Part 1
Forex Trading as Business - Part 2
Forex Trading as Business - Part 2
Forex Trading Beginners
Forex Trading Beginners
Elliott Wave Principle
The Elliott Wave Principle
Fundamental Analysis
Fundamental Analysis
Head and Shoulders Pattern
Head and Shoulders Pattern
India Based Trading
India Based Trading
Main Approaches to Forex
Main Approaches to Forex
Moving Averages Trading
Moving Averages Trading
Picking a Forex Robot
Picking a Forex Robot
Safe Forex Trading
Safe Forex Trading
Scalping vs Position Trading
Scalping vs Position Trading
Trade GBP USD Pair
Trade GBP/USD Currency Pair
Trading Outside Comfort Zone
Trading Outside Your Comfort Zone
Understanding Correlations
Understanding Correlations
Using Forex Calendar
Using Forex Calendar
Zero Bound Interest Rate
Zero Bound Interest Rate