HOW FOREX RELATES TO OTHER MARKETS
Bonds
A bond is a form of loan. Large entities raise money by splitting the loan between thousands of investors on the open market. Anyone offering bonds to investors is called an Issuer; in exchange for this investor money the government or company will pay the amount back at a certain date which is known as the maturity and on top of this they will pay some interest to make it worth there while which is known as the coupon.
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Bonds are known as fixed income securities because of the amount of money the investor will receive at the end of the loan. This is known in advance and guaranteed by the issuer. The coupon is paid twice a year and then at the end of the agreed lending period the investor receives there original investment back.
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When you purchase a bond your a effectively purchasing debt.
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There are 2 different types of bonds; the corporate bond which companies issue and government bonds which are issued by nations trying to raise money for various social programs or infrastructure costs.
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The government bonds are directly influenced by interest rates which marry them closely to the Forex market. Bonds are a very low risk investment as governments are generally very stable.
When a bond is trading at a price above its face value its said to be trading at a premium. When the price of a bond is trading lower than face value it’s said to be trading at a discount. A high yield means the price of the bond goes down and vice versa.
The yield is the coupon amount divided by the bond.
When interest rates rise, the price of bonds fall, raising the yield of older bonds to bring them into line with new bonds being issued with higher coupons. So when interest rates fall, the price of bonds rise, lowering the yield of older bonds bringing them into line with newer bonds being insured with lower coupons.
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There are 3 types of bonds:
Bills: which mature in less than one year
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Notes: which mature between one and ten years
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Bonds: which mature longer than ten years
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US Bonds are watched very closely in the Forex market because they are regarded as one of the safest forms of investment; this is because they are issued directly by the US government. Other first world governments are also seen as being very safe like the UK etc.
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Because of how safe bonds are and the fact they provide a guaranteed payout they are hugely popular with large investors and pension funds from around the world.
How do bond markets relate to the Forex market?
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Bonds relate to the FX market on two levels:
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1) The first is their co dependency on interest rate fluctuations, so when we watch the bond market it sometimes gives us clues that similar moves may happen in the Forex market.
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2) The other correlation is that due to the demand produced by; attractive bond yields, times of high risk or low domestic yields, large funds may decide to invest into the bonds of a foreign government. In order to do this they would have to trade the Forex market first by selling the current currency to buy the desired currency.
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For example if a US pension fund wanted to buy a UK bond they would have to first sell US Dollars and buy GBP which could have a short term positive effect on the pound.
How do Commodities relate to the Forex market?
Commodities are raw products from nature that can be bought and sold. From oil, to gold to corn, to milk and so on. The bulk of trading volume comes from speculators betting on the price going up or down. Traders most commonly trade commodities via futures contracts but can also trade them in a number of different ways; such as spot prices, options etc.
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With commodities we look at the relationship they have with the Forex market. For example, Canada is a major producer of oil and if the price of the oil falls significantly over a sustained period of time, this will reduce the amount of money Canada makes on oil and ultimately start adversely affecting figures such as GDP which could lead to Canada cutting it’s interest rates which will in turn cause the currency to devalue. So it’s important to know correlations between commodities and the Forex markets.
So the key to understanding a correlation to commodity prices is knowing two important bits of information:
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1) Which countries have a heavy dependency on selling or buying commodities
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2) Knowing how much focus the market is having into the moves on those commodities
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Commodity prices move everyday but not all these moves effect the Forex markets. It depends on the moves themselves, if it’s just a hard fall on Oil for example in one session then this may not affect the Canadian Dollar as much, but if there’s a strong bear trend over a sustained period of time then this will affect the Canadian Dollar.
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Don't just watch a commodity chart, trying to trade correlation. Tune into the markets reaction and gauge how serious the reasons for the move are being taken and what the expected impact could be on the markets. There is no fixed rule Oil going up does not necessarily mean Canadian Dollar goes up.
How do Equities - Stocks and Shares relate to the Forex market?
Equities are simply stocks and shares of companies from around the world. Traders use the stock market to gauge how well the market is expecting the economy of that particular nation to perform. If they are expecting the economy to do well; the stock market will generally rally and push higher and vice versa. As with commodities this is not an exact science, most of the time the Forex markets will trade off their own issues leaving the stocks to move in there own way.
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But other times they will become obsessed with something happening within the equities market. A big sell off on the Equities market could create all out panic in the Forex market .
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Stocks can also impact Forex market if a company has many sites all around the world; they will need to pay their staff in different currencies, these large transactions can cause movement in the currency prices short term.
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All markets are inter-related in a way but it really depends what the market is focusing on at that given time. The main thing to understand is that yes these correlations can get great trading opportunities for us to profit off but these correlations are never set rules and anything can happen in the market at any given time.