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Why does it take more euros to buy dollars this year than it did last year? Currencies, just like stocks or metals are powered by the forces of supply and demand. Foreign exchange rates are influenced by internal and external factors. In general, when demand increases for a currency, it's value will rise against other currencies; conversely, when demand decreases, it's value will go down against other currencies. One result of a stronger dollar is that the prices of foreign goods and services drop for U.S. consumers which they can benefit from but U.S. exporters are hurt.
Stock traders buy, hold or sell stocks to gain profits, similarly, currency traders buy, hold or sell currency pairs to make profits from rising or falling currency pair exchange rates!
What Factors Affect a Country's Currency Rate?
A country's exchange rate is typically affected by the supply and demand for that country's currency in international exchange markets. If a country's economic outlook improves, there will be a surge of interest and international investors will move money into the economy and thus drive up the value of its currency.
Because of this, currency traders pay close attention to indicators that follow the health of an economy. Therefore, currency traders pay close attention to major indicators such as Gross Domestic Product (GDP), Interest Rates and Unemployment Rate.
Three Major Indicators That Affect a Country's Currency Rate
Interest Rates
Hikes in interest rates will support a country's currency because "big" money will flow into the country from all over the globe as investors seek to achieve higher returns, long term currency traders can profit from this fact by buying a high-yielding currency against a low-yielding one, better known as the carry trade. For example the NZD/JPY currency cross pair is very attractive to carry traders. As a general rule, higher interest rates lead to higher currency prices.
Economic Growth
Investors want to be sure that they are investing in a solid economy that is achieving steady growth because countries that tend to export more than they import tend to have stronger currencies than countries that import more than they export. Currency traders looking to assess the economic growth of a country will look at unemployment, trade, and GDP data. For example, the unemployment rate is a very strong economic indicator of a country’s strength or weakness. When unemployment is low, the economy may be strong – and its currency may appreciate in value.
Key Political Events
Along with interest rates and economic fundamentals, the currency market is directly affected by what is going on around the globe and therefore, forex traders will closely watch any major news that comes out of a country. Key political events can have a big impact on an economy and the value of its respective currency. For example, a treat of terrorism will have a negative impact on a country's currency.
Some examples
If the FED surprises the market by decreasing the interest rate by 50 bp, the dollar is very likely to fall.
If oil prices surge to new highs, the canadian dollar is most likely to rise because it's 81% positive correlation to oil over the past years.
A decrease in unemployment numbers in the US will have have positive affect on the US dollar.
Summary
Analyzing and trading currencies based on macro economical facts only can be great for the long term currency investor, an Economic Data Release Calendar provides the date and time of such key economic data releases, but if you are short term fx trader, you can’t rely on macro economical forecasts only, if you really want to succeed as a forex day trader, you need to gain experience in both technical and fundamental analysis to beat the currency market.
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