Forex Investment and Currency Trading

Over the past few months, the fundamental drivers of currencies have taken a back seat to a range of influences which have fallen out from the global recession. The recent drivers of currencies have tended to be risk, liquidity and an assessment of policy vibrancy (this includes aggressiveness of rate cuts, fiscal stimulus and more recently, quantitative easing).

Gone from most currency equations, at least for the time being, are the broad fundamental drivers such as relative economic growth, carry, current account balances, inflation differentials and commodity prices. If these were important, the USD and JPY would be very weak and the EUR very strong, just by way of example.

It’s safe to say that during times of economic, market and even political turmoil, fundamentals don’t matter when it comes to currency trends. As has been evident in the past year or so, investors repatriate funds, demand liquidity, and have tended to follow the herd as the great recession has unfolded, banks have teetered on the brink of collapse and central banks has floundered with almost zero interest rates and other measures to shore up markets. It seems to be only in stable or positive market conditions that currency trends are well defined by fundamentals and well aligned to the usual longer run drivers.

Note the boom in the AUD up until the middle of 2008; or the weakness of the USD in the period from about 2001 – both moves were clearly driven by fundamentals and were associated with an extended period of strong market activity.