http://www.babypips.com/school/undergraduate/intermarket-analysis/intermarket-correlations/
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Some currencies share a positive relationship with gold; the dollar usually doesn't. Why is this?
Usually, when the dollar moves up, the gold falls and vice-versa.
The traditional logic here is that during times of economic unrest, investors tend to dump the greenback in favor of gold.
Currently, Australia is the third biggest gold-digger... we mean,
gold producer in the world, sailing out about $5 billion worth of the
yellow treasure every year!
Historically, AUD/USD has had a whopping 80% correlation to the price of gold!
Across the seven seas, Switzerland's currency, the Swiss franc, also
has a strong link with gold. Using the dollar as base currency, the
USD/CHF usually climbs when the price of gold slides.
Conversely, the pair dips when the price of gold goes up. Unlike the
Australian dollar, the reason why the Swiss franc moves along with gold
is because more than 25% of Switzerland's money is backed by gold
reserves.
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Get the lowdown on why investors "Go Loonie" when oil prices shoot up!
Crude oil is often referred to as the "black gold" or as we here at BabyPips.com like to call it, "black crack."
Oil is the drug that runs through the veins of the global economy as it is a major source of energy.
Canada, one of the top oil producers in the world, exports around 2
million barrels of oil a day to the United States. This makes it the
largest supplier of oil to the U.S.!
This means that Canada is United States' main black crack dealer!
Because of the volume involved, it creates a huge amount of demand for Canadian dollars.
If U.S. demand rises, manufacturers will need to order more oil to
keep up with demand. This can lead to a rise in oil prices, which might
lead to a fall in USD/CAD.
If U.S. demand falls, manufacturers may decided to chill out since
they don't need to make more goods. Demand in oil might fall, which
could hurt demand for the CAD.
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What do you call "IOU" statements that countries issue when they need to borrow money? They're bonds... government bonds.
In this case, bond yields actually serve as an excellent indicator of
the strength of the stock market. In particular, U.S. bond yields gauge
the performance of the U.S. stock market, thereby reflecting the demand
for the U.S. dollar.
Let's look at one scenario: Demand for bonds usually increases when
investors are concerned about the safety of their stock investments.
This flight to safety drives bond prices higher and, by virtue of their
inverse relationship, pushes bond yields down.
As more and more investors move away from stocks and other high-risk
investments, increased demand for "less-risky instruments" such as U.S.
bonds and the safe-haven U.S. dollar pushes their prices higher.
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Did you know that you can also pull off carry trades on bonds?
The bond spread represents the difference between two countries' bond yields.
These differences give rise to carry trade, which we discussed in a previous lesson.
By monitoring bond spreads and expectations for interest rate changes, you will have idea where currency pairs are headed.
As the bond spread between two economies widens, the currency of the
country with the higher bond yield appreciates against the other
currency of the country with the lower bond yield.
You can observe this phenomenon by looking at the graph of AUD/USD
price action and the bond spread between Australian and U.S. 10-year
government bonds from January 2000 to January 2012.
Notice that when the bond spread rose from 0.50% to 1.00% from 2002
to 2004, AUD/USD rose almost 50%, rising from .5000 to 0.7000.
The same happened in 2007, when the bond differential rose from 1.00%
to 2.50%, AUD/USD rose from .7000 to just above .9000. That's 2000
pips!
Once the recession of 2008 came along and all the major central banks
started to cut their interest rates, AUD/USD plunged from the .9000
handle back down to 0.7000.
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What are Euribors and gilts? (Clue: They are not fancy medieval weapons.)
A quick recap: So far, we've discussed how differences in rates of return can serve as an indicator of currency price movement.
As the bond spread or interest rate differential between two
economies increases, the currency with the higher bond yield or interest
rate generally appreciates against the other.
Much like bonds, fixed income securities are investments that offer a
fixed payment at regular time intervals. Economies that offer higher
returns on their fixed income securities should attract more
investments, right?
This would then make their local currency more attractive than those
of other economies offering lower returns on their fixed income market.
For instance, let's consider gilts and Euribors (we're talking about U.K. bonds and European securities here!).
If Euribors are offering a lower rate of return compared to gilts,
investors would be discouraged from putting their money in euro zone's
fixed income market and would rather place their money in
higher-yielding assets. Because of that, the EUR could weaken against
other currencies, particularly the GBP.
This phenomenon applies to virtually any fixed income market and for any currency.
You can compare the yields on the fixed income securities of Brazil
to the fixed income market of Russia and use the differentials to
predict the behavior of the real and the ruble.
Or you can look at the fixed income yields of Irish securities in comparison to those in Korea... Well, you get the picture.
If you want to try your hand at these correlations, data on government and corporate bonds can be found on these two websites:
You can also check out the government website of a particular country
to find out the current bond yields. Those are pretty accurate. They
are the government. You can trust them.
In fact, most countries offer bonds but you might want to stick to those whose currencies are part of the majors.
