Struggling to keep up with the fast changes in forex, crypto, and stocks because of global business events? It’s tough when these sudden shifts leave you feeling lost and unprepared.
You’re not alone, many traders face this issue. This guide explores the various factors influencing the market, from economic indicators to political changes. You’ll learn how to identify opportunities, manage risks, and make informed decisions during major events.
We present these concepts in simple, clear language to help you navigate these markets during turbulent times. If you want to see how news stories can aid your trading, this guide is exactly what you need.
The Economic Factors that Affect the Value of a Currency
Prices in the financial markets change based on several economic factors.
Traders use these indicators to make decisions as they provide insights into a country’s economic health and future prospects.
The three main economic factors affecting currency prices are:
- Gross Domestic Product (GDP)
- Unemployment Rates
- Inflation Rates
Understanding these indicators and their impact on financial markets allows traders to predict market movements and make informed decisions.
Let’s examine each factor and its influence on the markets.
GDP and What It Means
GDP is the total value of all goods and services produced in a country. When GDP rises, currencies tend to strengthen.
Positive GDP growth typically boosts a currency, while negative growth can weaken it.
Examples:
- If the US GDP grows faster than expected, the US dollar may rise in value.
- If Japan’s GDP declines, the yen could weaken.
Unemployment Rates and Exchange Rate Trends
Unemployment rates indicate the number of people actively seeking work but unable to find jobs.
Lower unemployment rates generally strengthen a currency, as low unemployment is seen as a sign of a healthy economy, attracting foreign investment and increasing demand for the local currency.
Examples:
- A drop in Canada’s unemployment rate from 6% to 5% could strengthen the Canadian dollar.
- An increase in the UK’s unemployment rate could weaken the pound.
How Inflation Affects the Value of Money
Inflation alters the purchasing power of a currency, affecting its value.
Central banks often adjust interest rates to control inflation, influencing currency strength.
Moderate and stable inflation is generally favorable for a currency, while high or unpredictable inflation can reduce its value.
Examples:
- If US inflation exceeds the Federal Reserve’s 2% target, they may raise interest rates, attracting foreign investment and strengthening the US dollar.
- If the Reserve Bank of Australia misses its inflation target, they might lower interest rates, making foreign investments less attractive and weakening the Australian dollar.
Understanding How Central Banks Influence Markets
Central banks’ monetary policies significantly impact financial markets.
These institutions use various tools to manage their economies and currencies, with their decisions often causing fluctuations in exchange rates.
The three main tools used by central banks to implement policy are:
- Interest Rate Adjustments
- Quantitative Easing (QE) or Tightening (QT)
- Forward Guidance
Traders who understand these policies and can anticipate central bank actions often have an advantage in the financial market.
Let’s explore each tool and its effect on the prices.
Decisions About Interest Rates
Interest rates set by central banks directly affect currency value.
Higher interest rates tend to strengthen a currency by attracting foreign investment, while lower rates can weaken it.
Examples:
- If the Bank of England raises interest rates from 0.5% to 0.75%, the British pound could strengthen.
- If the Bank of Japan keeps interest rates near zero, the yen may remain weak.
Quantitative Easing and Tightening
Quantitative easing (QE) involves central banks purchasing assets to increase the money supply, typically weakening a currency.
(Injecting money in the economy).
Quantitative tightening (QT) does the opposite, often strengthening a currency.
(Taking money out of the economy).
Examples:
- If the European Central Bank announces a new QE program, the euro could lose value.
- If the Federal Reserve starts reducing its balance sheet (QT), the US dollar may strengthen.
Forward Guidance and Market Expectations
Forward guidance involves central banks communicating future monetary policy intentions, influencing market expectations and financial markets.
Examples:
- If the Reserve Bank of Australia hints at future rate hikes, the Australian dollar could strengthen.
- If the Bank of Canada signals stable rates, the Canadian dollar might remain steady or lose value.
Political Events that Change the Financial Markets
Political events can significantly impact the financial market, causing substantial price fluctuations.
These events affect market sentiment regarding a country’s economy, trade relationships, and overall stability.
Political changes can make a currency more or less attractive to traders and investors, leading to rapid and sometimes significant exchange rate changes.
The three main types of political events that greatly impact are:
- Elections
- Trade Wars
- Major Shifts (e.g., Brexit)
Understanding how these events affect currencies helps traders make better decisions.
Elections and What Happens Afterwards
Elections can cause currency fluctuations due to potential changes in economic policies.
New leaders can alter how a country manages its economy, affecting taxation, government spending, and international relations.
Traders and investors speculate on election outcomes, leading to varied demand for a country’s currency before and after elections.
Examples:
- If a new US president promising tax cuts is elected, the US dollar may strengthen.
- If a new UK prime minister favoring increased government spending is elected, the British pound could fall.
Trade Wars and Financial Conflicts
Trade wars and financial conflicts between countries can affect their currencies.
Tariffs and trade restrictions can harm businesses that trade between the countries involved, potentially slowing economic growth and devaluing a nation’s currency.
Sometimes, a country might deliberately weaken its currency to boost exports.
Examples:
- During a US-China trade war, increased US tariffs on Chinese goods could weaken the Chinese yuan. (Source)
- An unresolved trade dispute between the EU and the US could affect the value of both the euro and the dollar.
Major Shifts: Long-Term Effects
Major changes in international relations, such as Brexit, can have long-lasting effects on currencies.
These global business events can disrupt trade agreements and international business operations, creating uncertainty.
Investors and traders may avoid currencies from countries involved in such events, leading to prolonged currency value fluctuations.
Examples:
- The British pound lost significant value following the Brexit vote. Its value continues to fluctuate as new trade deals are negotiated.
- Talks about Scottish independence might weaken the pound if Scotland pursues leaving the UK.
Natural Disasters and Humanitarian Crises
Natural disasters and humanitarian crises can cause significant currency value changes.
Global business events like hurricanes, earthquakes, or pandemics can abruptly impact a country’s economy, destroying infrastructure, halting businesses, and costing governments large sums for recovery efforts.
Such events can create uncertainty, leading to rapid currency value changes.
Immediate Responses in the Trading Market
When a disaster first occurs, currency values can change quickly. Traders often react swiftly to initial news.
How it works:
- Traders may sell a country’s currency if they believe the disaster will harm its economy.
- They might move their funds to “safe” currencies like the US dollar or the Swiss franc.
- The perceived severity of the disaster influences the magnitude of currency changes.
Examples:
- If a major earthquake hits Japan, traders may quickly sell the Japanese yen, fearing economic decline.
- If a large hurricane approaches Florida, the US dollar might lose some value as traders anticipate high recovery costs.
Long-Term Economic Effects on Currencies
Disasters can affect currencies for months or even years due to the financial and time costs of rebuilding.
How it works:
- Governments may need to borrow money or print more currency to fund recovery, potentially devaluing the currency.
- Damaged critical industries, such as manufacturing or oil production, can reduce a country’s export income, weakening the currency.
- In some cases, reconstruction efforts can lead to long-term economic improvements, potentially strengthening the currency over time.
Examples:
- Major floods in Bangkok in 2011 weakened the Thai baht for months due to damaged exports.
- The Australian dollar lost value temporarily due to the extensive bushfires in 2019-2020, which cost billions in firefighting and recovery efforts.
When Oil Prices and Currencies Clash: Energy Crises
Energy crises, particularly those involving oil, can significantly impact currency values. Fluctuating oil prices can affect both oil-producing and oil-consuming countries’ economies.
Oil is integral to various economic activities, including manufacturing and transportation. Energy crises can influence a country’s energy expenses, export revenues, and overall economic performance, impacting currency values.
How Petrocurrencies Work
Petrocurrencies are currencies from countries that export large amounts of oil. Their value is closely linked to oil prices.
How it works:
- Petrocurrencies typically strengthen when oil prices rise.
- Petrocurrencies often weaken when oil prices fall.
- This happens because these countries earn significant revenue from oil exports.
Examples:
- The Canadian dollar might strengthen if oil prices rise from $50 to $70 per barrel due to Canada’s oil exports.
- The Norwegian krone might weaken if oil prices drop from $70 to $50 per barrel due to Norway’s oil exports.
How Energy Shortages Affect the Financial Markets
Energy shortages can also impact the currencies of countries that don’t produce much oil.
How it works:
- Countries reliant on energy imports might see their currencies weaken during energy shortages due to increased energy costs.
- Countries with self-sufficient or alternative energy sources might see their currencies perform better.
- Global economic slowdowns during energy shortages can drive demand for “safe” currencies.
Examples:
- A natural gas shortage in Europe could weaken the euro, as higher energy costs could strain European economies.
- Japan, which imports most of its oil, might see the yen lose value during an oil crisis due to increased energy import costs.
How the Pandemic Affected Financial Markets:
What We Can Learn from It
The Pandemic, a global health crisis, had a profound impact on the financial markets.
In 2020, as the virus spread globally, currencies experienced significant fluctuations. The pandemic’s effects varied by country, damaging some economies more than others. People and businesses also altered their spending habits, affecting international trade.
These factors led to some currencies strengthening while others weakened. We can learn much from it about how global health crises influence the financial markets.
Safe-Haven Currencies During Global Health Crises
Certain currencies are considered safer than others during major crises like pandemics. These are known as “safe-haven” currencies.
How it works:
- During global turmoil, traders and investors seek safe places to park their money.
- They often choose currencies from countries with stable governments and economies.
- These “safe-haven” currencies tend to strengthen during crises.
Examples:
- The US dollar strengthened against many other currencies at the start of the COVID-19 pandemic, despite the US also being affected.
- The Swiss franc typically gains value during potential health scares, as Switzerland is viewed as a stable country with a strong economy.
Economic Recovery and Currency Strength
A country’s quick recovery after a pandemic can boost its currency value.
How it works:
- Currencies often strengthen when countries swiftly control diseases and restore economic stability.
- Currencies of countries dealing with prolonged health issues may remain weak.
- Factors such as vaccination rates, consumer spending recovery, and government support influence recovery.
Examples:
- New Zealand’s swift control of COVID-19 in 2020 led to a faster recovery for the New Zealand dollar compared to other currencies.
- Brazil’s prolonged struggle with COVID-19 in 2020 and 2021 led to a significant decline in the Brazilian real’s value.
How to Trade During Volatile Times
Trading in the financial markets during volatile times requires smart strategies to navigate the ups and downs.
Effective strategies help traders stay calm, manage risks, and make informed decisions during market fluctuations. We’ll discuss risk management during major events, using economic calendars effectively, and balancing short-term and long-term strategies.
Managing Risks During Major Events
Controlling risk is crucial when trading during global business events like elections or economic reports.
How to do it:
- Set Stop-Loss Orders: Stop-loss orders automatically sell your position if the price drops below a set level. For example, if you’re selling the EUR/USD pair at 1.2000, you might set a stop-loss at 1.1950 to limit your loss if the price falls.
- Diversify Trades: Don’t put all your money into one trade. Spread your investments across different currency pairs. For example, if you have $1,000, you might invest $250 each in EUR/USD, GBP/USD, USD/JPY, and AUD/USD. This reduces the impact of a loss in one pair.
- Trade Smaller: Reduce your trade size during volatile markets to lower risk. Instead of risking $500 on one trade, risk $100 on five trades. This way, a single loss won’t significantly impact your overall position.
Using Economic Calendars Effectively
Economic calendars list important global business events and data releases that impact the financial markets.
How to use them:
- Monitor Key Events: Watch for events like GDP reports, unemployment figures, and central bank meetings. For example, the US Federal Reserve’s interest rate announcements can affect the USD.
- Plan Trades: Schedule your trades around these events to avoid sudden price changes. For example, if the European Central Bank is announcing policy changes at 2:00 PM, avoid trading EUR/USD right before or after.
- Understand Impacts: Learn how different events affect currency values. For example, if a country’s GDP growth exceeds expectations, its currency might strengthen. A strong US GDP report could boost the USD.
Long-Term vs. Short-Term Strategies
Your trading strategy—short-term or long-term—depends on your goals and risk tolerance.
- Short-Term Trading: Involves holding positions from a few minutes to a few days, suitable for quick profits and frequent trading. For example, you might buy USD/JPY following a strong economic report and sell it within hours or days if the price rises. Technical analysis and charts often guide short-term traders.
- Long-Term Trading: Involves holding positions for weeks, months, or years, suitable for traders willing to wait for larger gains. For example, you might buy EUR/USD and hold it for several months, expecting the euro to strengthen due to positive Eurozone economic trends. Long-term traders focus on fundamental analysis and economic trends.
Understanding these strategies helps traders stay ahead of market movements and make better decisions during volatility.
How to Stay Informed About Trading
Staying ahead in trading requires real-time news and information from reliable sources. Here are some of the best tools:
- Economic Calendars: Websites like Investing.com and Forex Factory provide calendars of economic events and data releases. These calendars include the date and time of events like the US Federal Reserve’s interest rate updates, helping you anticipate market movements and plan trades.
- News Websites and Apps: Bloomberg, Reuters, and CNBC offer up-to-date financial news. These platforms quickly report unexpected news, such as new trade agreements, allowing you to respond promptly to market changes.
In Conclusion
Understanding how world events affect the financial markets is crucial for making informed trading decisions. This guide covers the primary factors influencing currency values, including political changes, central bank policies, and economic data.
By learning to interpret these factors and employing effective trading strategies, you can navigate the complexities of trading and investment.
Balancing short- and long-term trading tactics, using economic calendars, and managing risk help mitigate market volatility. Staying informed through reliable news sources and economic data allows you to anticipate market movements and act quickly.
Keep these principles in mind to make better trading decisions.
