Forex For Beginners Blog

In the markets the price of various tradable items can correlate with one another. What does this mean?

Things correlate when there is some kind of relationship between them. For example let us say that item X rises in price when the price of item Y also rises.

This means that the price of X is proportional to the price of Y i.e. when X goes up, so does Y.

Conversely let’s take item A and its price rises only when the price of item B drops. This means that the price of A is inversely proportional to the price of B i.e. when A goes up, B goes down.

Now in the real world these correlations may not happen 100% of the time because they can be disrupted by other events in the short term, but in general they do. This is because nothing exists in isolation, every currency, commodity, stock/share etc is related.


Why would things correlate anyway?

There is a lot of research in what is known as inter-market analysis. Individual markets do not act on their own; they are dependent upon each other. How they act at any one time is the decision of the market, i.e. a group of millions of investors who decide what to do next at any one time.

Over time this “crowd” of people has decided which items are related and so forex markets are related to stocks, commodities, interest rates and everything else.

People’s attitude to each market is dependent upon their level of risk. It is yours (and everyone else’s) attitude to risk that determines the direction of the market at anyone time.

The investing public has made certain assumptions about different tradable items.

For example Gold has always been perceived as a low risk investment and so in times of economic trouble investors will tend to move their money into Gold because they believe that it is a lower risk.

The USD has always been perceived as a lower risk which is why most countries and large financial companies will invest in USD backed investments. The USA is perceived as low risk because of its open markets, pro-business, stable government and strong regulation. If investors think the country is a low risk then they will think their currency is low risk as well.

This is why a country like China now has over US$ 2 trillion in US backed securities and is doing its best to snap up US companies, property because it knows that the long term future of the USA is sound.


What are the major trends in risk and investing?

It is possible to see these trends every day. When the markets are dropping the USD and JPY (Japanese Yen) tend to rise and they are perceived as lower risk. The money is moved from stocks to these currencies.

When the stock markets are doing well investors will move out of USD/JPY and go back to stocks or higher risk currencies like the GBP and EUR.

You can see this every day in the markets.

There are other correlations as well. For example if Gold is rising you tend to find the AUD (Australian Dollar) rising as well because Australia’s economy is very focused on commodities. See the graph above;

Similarly with the CAD (Canadian Dollar), any rise in the price of OIL will lead to the rise of CAD because Canada has a huge oil based economy. See the graph below;



So as traders it’s very important for us to understand the movement of risk, how this affects different tradeable items and the correlations between these items.

With today’s technology money can move instantly from one place to another and so in a single trading day you can see these correlations very easily as money flies from high risk to low risk investments.

High risk investments are perceived to things like stocks/share, GBP, EUR and commodities generally. Low risk investments are things like USD, JPY and bonds.

When you combine this with understanding cycles and price action, you have a very powerful system that can be used to trade the markets.

Popularity: 60% [?]

Related Posts

• Quote Of The Day Most often, traders have four fears. There’s the fear of being wrong, the fear of...
• Psychology Of Trading "Trade what you see and not what you think!" Never has a truer word been...
• The Market Crisis "Will Happen Again" /caption] An excellent article on the bbc this morning referring to an interview with Alan...
• Risk Management With Trading Part 1 Or how not to lose all of your money in one trade! One of the...
• Money & FOREX Trading Like all true professions, FOEEX trading has its own terminology and one of the most...

Related Websites

• Why Your 401K is Important Do you have a 401k plan? If not, does your employer sponsor this type of program? If so, you should...
• Microsoft, Yahoo or Google, who will win the paid search battle in 2010? Recent acquisitions might add $10 billion in revenue to one company's pocket Microsoft plus Yahoo vs Google, Microsoft vs Yahoo and other variations of names in the paid search game seem to...
• Wealth Creation Is The Outcome Of A Simple Step Towards Systematic Investment Wealth creation out of capital market can be very tough and time consuming task. The people who earn through capital...
• Launch Drive - Proton Saga Proton gets epic Just one year of punishing recession and suddenly everyone, who until now had been largely off pursuing...
• Mutual Funds - An Investment Vehicle For Small Investors Human beings from their very inception want to earn and save something for unwanted situations. In earlier stage he puts...