How to Read Risk ’OFF’ or Risk ’ON’ Sentiment
The market sentiment seems to flip flop back and forth on a daily basis between a “Risk On” and a “Risk Off”. Reading Risk Sentiment is as simple as following the direction of the US Stock Market.
Each day, it seems a new rumor is produced and the stock markets shifts accordingly. The seesaw action can take a toll on a trader’s emotions.
One way to gauge an underlying trend in the market is through the risk appetite of investors. The benefit of understanding the mood of the market is it allows you to align your trades in the direction of the market sentiment.
When you see the stock market increase significantly, that is an indication that risk is “on”. A risk “on” environment is a mood of the market where investors feel good about the future prospects of the economy. Therefore, they take their capital and speculate in the stock market and high yielding instruments. This generally increases the value of the stock market and high yielding currencies which lately are the Australian Dollars (AUD) and New Zealand Dollars (NZD).
At the same time, low yielding instruments tend to gain less on a relative basis or possibly even lose value. Low yielding currencies tend to be sold to fund the purchase of a higher yielding currency. This selling of a low yielding currency while simultaneously buying a high yielding currency is called the Carry Trade. So an effect of a risk “on” sentiment is an increase in the stock market and demand for high yielding currencies. As a result the Carry Trade strategy tends to perform well. (See additional resources below for more information on the Carry Trade Strategy.)
In the chart above, since the AUD has historically been a high yielding currency, when the risk sentiment was ‘ON’ (Green shaded areas) the AUD/USD exchange rate was likely to rise and the carry trade strategy worked well. When the risk sentiment turned ‘OFF’ (pink shaded areas) the AUD/USD exchange rate tended to fall and the carry trade strategy would not have performed inconsistently.
When you see the stock market fall like we did earlier this week that is labeled as risk “off” in the media. That means investors and traders are averse to risk…they want to avoid risk and risky instruments. Therefore, the investors pull their money out of stocks by selling their shares and sell their risky instruments like high yielding currencies. In a risk “off” market mood, the carry trade does not work. Although a trader is gaining a daily dividend, the movement of the exchange rates is so adverse that is wipes out any interest gains.
In a risk “off” environment, traders are better served buying safe haven currencies like the US Dollar (USD) or Japanese Yen (JPY). (Until August 2011, the Swiss Franc was also considered a safe haven currency, but the recent intervention by the Swiss National Bank is trying to curtail the buying of the Franc.)
The risk assets like the US Stock market and high yielding currencies like the AUD are near resistance levels. This may mean a return to risk aversion and a selloff in the stock market and AUD/USD.
US dollar has been the major reserve currency during a long time period. It is the most stable and reliable world currency. Dominance of the US dollar has being proved throughout its history by purchasing American bonds and investments in the American economy. As the years go by this strategy proves its case. However, Forex market allows traders to earn from devaluation of the stable currency. For most traders it is an opportunity to trade successfully. What should we pay attention to if the dollar is losing its strength? Even a beginning trader can detect the downturn of the greenback. We should notice the alteration of GDP, consumer price index, unemployment and jobless claims rates, the values of the major share indices, reaction of the Federal Reserve System, i.e. changes of all those indicators which show the state of the US economy. If the interest rate comes down and the national debt grows against the background of raw materials price surge, it means the start-up of the dollar’s weakening. We should also take a note of the economic situation in other developed countries and behavior of their national currencies. For instance, the demand for the Japanese yen would increase if the Japanese economy registers the growth and goods export volume rises when the dollar is weak. The same situation would be observed with the European currencies against the US dollar if European economies show relative stability. Please pay attention to the Swiss franc, which on the strength of its peculiarity is being stable regardless of the fluctuations occurring in other currency pairs. It can serve as a signal for trader to enter the market. Taking into account the fact that as a rule prices on the raw materials market are measured in dollars, such strategy should be followed trading on the raw materials market. Everybody knows dependence of the US dollar on the oil prices. When greenback is falling, it is recommended to start working with other currencies such as Canadian or Australian dollars. Some traders focused on new and rapidly developing currencies – Brazil real or Chinese Yuan, but one should be dead sure in his/her emotional state before entering the marker with these currencies especially when the US dollar behavior is unpredictable. Trader should know the exact moment of the dollar weakening verge. Stock market traders should remember that when the situation is getting worse some foreign markets can bring them significant profit.
US financial markets are highly regulated and in some cases restricted. One of those restrictions covers US clients access to OTC (Over The Counter) derivatives, such as CFDs (Contracts For Differences). Effectively US citizens or residents are embargoed from trading these instruments and CFD providers from opening or holding accounts for the same. Where US citizens and residents can trade OTC products,such as Margin Forex, they must do so through an entity that is regulated in the USA itself. This means US retail clients are “off limits” to the majority of European and Asian brokers. Outside Looking In But even though traders in the USA are not able to access and take advantage of the benefits of CFD trading. Traders outside of the USA can trade US markets via CFDs and Margin Forex. That access presents traders with significant opportunities in some of the world’s largest investment pools. For example more than US$ 7.00 trillion worth of investments are benchmarked to the performance of the top 500 US equities via the US500 equity indexThe US 500 index has itself enjoyed an almost unprecedented seven year bull market and has recently reached new all time highs. That trend may or may not continue but either way there are likely to be ongoing opportunities for traders in the US markets. Furthermore technology is becoming more and more integral to our daily lives, the rise of cloud computing and its associated services are becoming indispensable to modern businesses. These are traits that are reflected in the performance and composition of the US 100 index, which tracks the performance of the top 100 US Tech shares. Special Relationships Of course the US Dollar, in its role as global reserve currency, is the backbone of the Forex market. The Dollar is involved in 88% of all Forex trades, according to the latest data from the Bank for International Settlements or BIS, the central bankers bank. That level of participation puts the Dollar and Dollar denominated assets centre stage in the world’s markets and has over time created many intrinsic relationships. For instance the Dollar is seen as safe haven currency and is therefore often a destination of choice for cash during volatile or risk off periods in the markets. A strong US Dollar has also often been seen as being negative for commodity prices. Such as Gold Silver and Crude Oil and for commodity related currencies, such as the Canadian and Australian Dollars. Change at the Top US markets are of particular interest to investors right now as we are about to witness a change in government. With a new president and change in the ruling party after 8 years of Barack Obama and the Democratic party. Donald Trump, a Republican, will enter office as probably the most controversial President elect ever. His unorthodox and anti establishment approach to politics, which played so well with US voters, has left political and market analysts feverishly trying to understand what a Trump presidency will really mean. For both the USA and its relationships with the wider world. In truth we don’t have a clear picture yet and perhaps we won’t until the new administration is firmly in office. There is an old adage that the first 100 days of a Presidency sets the tone for the full four year term of office. That may never be truer, than in this instance. Once again traders will be watching what happens in Washington very carefully as Mr Trump’s radical agenda has the potential to throw up plenty of curveballs and associated trading opportunities. Many Markets, One Account Blackwell Global provides its clients with the ability to trade more than more than 60 products including US Equity indices, FX pairs Gold, Silver and both US and UK Crude Oil. All from one account and one trading platform. Full details of our offering can be found under the products tab on our home page. To discover more about how traders can access US indices and Dollar centric products and trading opportunities, why not apply for either a Demo or Live CFD trading account and download our platform today.
In the foreign exchange market, it’s important to be mindful of your trading activity. Particularly, focus on the frequency of your trading habit, the number of owned accounts, and the number of entered trades.As a general rule, remember to always have a strategy, along with (at least) fair money and risk management skills. If you have yet to come up with a plan, it’s time to have one; persevere and take your Forex career seriously. To make it big as a trader, know that your attitude plays a role - practicing discipline in Forex trading is a must.Daily Trading LimitAs of the 3rd quarter of 2015, the BIS (or Bank for International Settlements) reports that the daily trading volume can amount to transactions that are worth more than $1 trillion; this is a reminder of the strength of potential market volatility in every trading day.Thus, you should always avoid undermining the importance of a limit for daily trades; decide on the most profitable moment to place trailing stops and stop loss orders. If your strategy reveals that it’s time to call it a day after the standard practice of a 3-trade placement, you must follow through (except if you’re a scalper or guerilla trader). Remain disciplined; even if the current market conditions seem to work in your favor, avoid making another entry.Monthly Trading LimitLike in the subject of the daily trading limit, learn to be attentive to your monthly trades. With regard to your daily trading activity, prioritize the regular (e.g. every 3 days, weekly, and bi-weekly) evaluation of important tools in your trading account: amount of previous trades and risk capital.Especially if you’re aiming for long-term success as a Forex trader, it is essential to make sure that your trades are manageable. Know that monthly winning positions aren’t always about immediate profit. If there’s a need to accept (small and insignificant) losses, avoid hesitance; be focused on a major financial goal.Smart, Successful, and SeasonedAccording to the experts, making it big as a Forex trader depends on you; although keeping tabs on your regular trading activity is very important, your commitment to your chief goal drives your career’s fate. It’s up to you to take the initiative of preparing an impressive trading strategy. Generally, you are free to adopt a strict or a happy-go-lucky trading style, but know that you need to be (and stay) disciplined; be attentive of trading limits for the attainment of a bigger win.