Fundamentals Every Trader Should Know

Currency prices reflect the balance of supply and demand for currencies. Two primary factors affecting supply and demand are interest rates and the overall strength of the economy. Economic indicators such as GDP, foreign investment and the trade balance reflect the general health of an economy and are therefore responsible for the underlying shifts in supply and demand for that currency. There is a tremendous amount of data released at regular intervals, some of which is more important than others. Data related to interest rates and international trade is looked at the closest.

Interest Rates

If the market has uncertainty regarding interest rates, then any bit of news regarding interest rates can directly affect the currency markets. Traditionally, if a country raises its interest rates, the currency of that country will strengthen in relation to other countries as investors shift assets to that country to gain a higher return. Hikes in interest rates, however, are generally bad news for stock markets. Some investors will transfer money out of a country's stock market when interest rates are hiked, causing the country's currency to weaken. Which effect dominates can be tricky, but generally there is a consensus beforehand as to what the interest rate move will do. Indicators that have the biggest impact on interest rates are PPI, CPI, and GDP. Generally the timing of interest rate moves are known in advance. They take place after regularly scheduled meetings by the BOE, FED, ECB, BOJ, and other central banks.

International Trade

The trade balance shows the net difference over a period of time between a nation's exports and imports. When a country imports more than it exports the trade balance will show a deficit, which is generally considered unfavorable. For example, if U.S dollars are sold for other domestic national currencies (to pay for imports), the flow of dollars outside the country will depreciate the value of the currency. Similarly if trade figures show an increase in exports, dollars will flow into the United States and appreciate the value of the currency. From the standpoint of a national economy, a deficit in and of itself is not necessarily a bad thing. However, if the deficit is greater than market expectations then it will trigger a negative price movement.