Alan's Forex Blog

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Forex Fundamentals: What are the impacts of global crises? Posted: 26 Jul 2010 11:23 PM PDT Forecasting the direction of foreign exchange flows is essentially based on two types of analysis, fundamental and technical. While technical analysis is primarily focused on a study of the past behavior of forex price movements, fundamentals refer to factors that either relate to the fundamental state of the economy or fundamentally alter the outlook of one economy relative to the world economy. A crisis of global proportions can have a dramatic impact on the foreign exchange market, but predicting the direction of these impacts is not as easy an exercise as it might appear at first blush. The universe of fundamentals may be classified into four categories, economic, financial, political, and crises. Economic factors in the form of public data releases are generally known as far as date and time of their release. Financial factors are tied to the actions of a Central Bank, which more often than not are cloaked in secrecy. Political factors can vary greatly in terms of certainty even if election dates are known in advance. A crisis on the other hand may or may not be an important factor, depending entirely on the predictability of the crisis. When the crisis is global in nature, a wise trader needs to quickly determine what information is important, how to interpret it, and what weights to apply instantly, and then execute effectively to gain the advantage. In some cases, the global phenomenon of migrant workers and remittance flows back to their home countries, estimated to be in the range of $300 billion annually, must be understood to assess future online forex price directions. Often during national catastrophes, the flow of funds homeward actually increases, thereby offsetting the outward-bound flow of escaping capital. However, the current economic crisis has not followed this trend. Many migrant workers have had to keep funds on hand to survive, thus cutting back on expected outbound remittance flows and impacting currency charts. The last four decades have witnessed a tremendous upswing in the price of a barrel of oil. There have also been four perceived oil induced crises that have had serious impacts on the weighted U.S. Dollar index, with results not nearly as obvious as they seem without further inspection. Each case illustrates the interdependence that a variety of factors can produce on a forex future pricing pattern. The oil shock of 1973 saw the price for a barrel of oil skyrocket from $4 to $10 in a month's time. The Dollar, already on a strengthening move, continued to spike up in early bullish behavior, but it soon turned bearish. Over the following six months, it effectively declined six percent. The price pattern was also affected by the actions of the Federal Reserve that was raising interest rates in order to deal with expected inflation. The final result was that the Dollar erased all of its earlier gains. The oil crisis of 1979 was a repeat performance of 1973, although the increase in oil prices took place over a year's time. The Dollar once again was initially bullish, but a bearish trend followed brought on again by the Federal Reserve increasing interest rates. Between June and October of 1990, the price of oil once again spiked over 100% in a short period of time as a result of the Gulf War. If a trader had based his forecast for the movement of the U.S. Dollar on the last two oil crises, he would have been dead wrong. The behavior of the Dollar was more one of persistent weakness than the previous bullish then bearish rollercoaster. The reasons were twofold. First, the price of oil began to retreat over the ensuing six months. Lastly, the Federal Reserve was cutting interest rates, not increasing them. As monetary policy was loosened, the weakness of the Dollar followed in suit as GDP growth stagnated. That brings us to the fourth and final oil crisis, the oil price increases in 2007 and 2008. The consequent onset of a global recession and a growing, unchecked Federal deficit in the United States produced the same characteristics as in 1990. Once again the Federal Reserve was lowering interest rates to deal with the economic slowdown. Even with growing inflationary pressure, the Dollar continued to weaken. Over the past few months, we have witnessed a mild up-tick in the strength of the Dollar, perhaps tied more to economic issues in Greece, Spain and Portugal. As this "European" crisis plays itself out, a wise trader would be advised to search for all of the factors that might influence the global forex reaction to these events. A few experts have stated publicly that they expect the Euro to fall to 1.20 Dollars from 1.35. Anticipation and speculation have fueled the markets, but a few hundred pips are well short of the predicted devastating drop. As with previous crises, other fundamental factors are surely at play. Share and Enjoy:

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