Correlations in the Currency Market (Part 1)13 January 2017
We often hear about correlations from experts in the currency exchange market. The reason is that correlations are used as a tool to predict the development of exchange rates of a certain currency by deriving it from the development of another one.
But what is a correlation?
It describes the relationship between two or more statistical variables. What this means is that the developments in the EUR/USD rate can have an impact on other derivative currency pairs such as the EUR/CHF or the USD/CHF pairs. However, correlation does not mean that the currency pairs will move in the same direction. Sometimes they move in contrary directions. You can find a nice article from Wikipedia about correlation here.
Although there are no fixed rules to predict the influence on the currency market based on correlation, we would like to show you what the experts pay attention to. In this first post we will examine the correlation of a currency with the news or economic information.
Correlations with news and economic information
There are many factors which can influence the development of a currency. Generally, important external events can impact the currency market. Events such as the 9/11 terror attacks can impact even an entire currency block. Strictly speaking it is all about the trend in the information flow related to a country or a specific currency. The economic subject on the spot can be one of the most important triggers for movements in the currency market from a short-term perspective. The effects can be positive or negative, so that a specific currency can lose or win against all other.
Let’s have a look at a recent example of the correlation between the news and the development of a currency exchange rate. The Brexit vote on June 23rd last year had a depreciating impact on the British Pound (GBP) and it even surprised the entire world after a record fall from 1.5000 to a 1.3000 low against the US Dollar (USD).
The chart below depicts the GBP/USD exchange rate for the last year. The steep fall signalizes the immediate impact of Brexit. The subsequent market nervousness due to the uncertainty around this event have kept the decreasing trend ever since as you can notice on the chart.
In our next post, we will examine closely the correlations between currency pairs.
Stay tuned and discover with us the secrets of the currency market.