Identifying forex opportunities

If you ask a room of 50 professional currency traders the best ways to identify buying and selling opportunities, you may get as many as 51 different answers. Using technical or fundamental analysis or a combination of both, there are countless ways to strategically enter and exit a position. Some of these ways will be profitable, others will not and that is really the struggle that confounds new forex traders.

Here we will discuss how to identify buying or selling opportunities based upon key moments in currency trading. Many things can move the currency market on a macro and micro basis. Macro factors can trigger major changes in the trend of a currency pair leading to a move that lasts for weeks or months while micro factors may cause only a limited reaction that lasts for hours or days. Since most investors are more interested in timing the big moves in the currency market rather than the small ones, it may be interesting to know that one of the optimal times to get into the Australian dollar is after a monetary policy meeting.

In the forex market, one of the most important events for any currency is the central bank interest-rate decision. For Australia, the Reserve Bank holds monetary policy meetings 11 times a year. Rate decisions are heavily anticipated events because large and small investors shift money from one country to another in search of the highest yield. Monetary policy decisions also reflect the central bank’s outlook on the economy and the impact on borrowing costs for business and consumers. It touches every part of the economy and naturally has a major affect on the currency. However, interestingly enough for the RBA, regardless of whether they make any major announcement or not, the rate decision itself can frequently lead to a medium- or long-term swing that’s causes the Australia dollar to strengthen or weaken. What this means for AUD traders is that a good time to get into the currency could be right after the central bank’s monetary policy meeting.

Although most traders focus on the AUD/USD currency pair, some of the cleanest opportunities are in the crosses. The reason is because the price action of AUD/USD is frequently polluted by the market’s sentiment towards US dollars. More often than not, the USD part of the AUD/USD currency pair dominates trading, which means that the AUD/USD could fall even if Australia reports strong economic data as long as traders are bullish the US dollar. Therefore, often there are times when currency pairs that do not include the U.S. dollar, may offer clearer trading opportunities that are purely based upon relative growth. For example, between 2009 January and July, the RBA held six monetary policy meetings. After each of those meetings, the previous trend in the Australian dollar / New Zealand dollar (AUD/NZD) currency pair ended and a medium term top or bottom was seen.

Further, in March, AUD/NZD topped out the day of the RBA rate decision. After rallying for two months straight, AUD/NZD fell 880 pips in less than four weeks. At the time, the RBA left interest rates unchanged. In April, AUD/NZD bottomed out after the RBA cut interest rates by 25 basis points. The rally that ensued drove the currency pair back toward its March highs. We then see this pattern repeated in May, June and July. The scope of the reversals ranged anywhere from 300 to 880 pips even though the RBA left interest rates unchanged in four out of the six meetings.

For currency traders looking to pick a top in an Australian dollar rally, you may want to wait for after the RBA rate decision. Since the RBA meets 11 times a year, there is an opportunity almost every month.

The next logical question to ask is ‘How does the RBA monetary policy meeting impacts the AUD/USD currency pair?’ As you can see in the above, the RBA meeting can also trigger a short-term top or bottom in the AUD/USD but the magnitude of the reversal following the RBA meetings this past year is far smaller than the reversals in AUD/NZD because the US dollar has been in a very strong downtrend since March.

Don’t be first to the party

There are usually no major benefits to being the first to a party. In fact, you will most likely feel more awkward and uncomfortable and wished that you waited for a few other people to arrive first. The same is true for picking tops and bottoms in the currency market. With major event risks such as the Reserve Bank of Australia monetary policy announcements, we typically see a few hundred pip move in the Australian dollar following the meeting. Although you may lose a few pips by waiting to place your trade after the rate decision, it typically pays to wait for the major event risk to pass because if the market reacts strongly, there is a decent chance for continuation. In February or March for example, waiting for after the RBA announcement to place a trade in the AUD/USD or AUD/NZD also provided a logical place for a stop because in both cases, the swing low is relatively clear. This strategy of waiting for the event risk passing and making sure that momentum is on your side can be applied to macro and micro trading. For example, if Australia is set to release its retail sales report, a good time to buy Australian dollars would be after the release and only if retail sales is strong. The key is to know which event risks or economic data can lead to continuation and how much of a surprise is significant enough to make it tradable. 

Market moving events for the AUD

In addition to the Reserve Bank’s interest rate decision, the following events risks and economic data can also lead to major moves in the Australian dollar:

• G7/G8 Finance Ministers and Central Bank Meetings

• Employment Report

• Retail Sales

• U.S. Interest Rate Announcement

• RBA Minutes

And a final tip: Since Australia is a major producer of gold and copper, the Australian dollar can also be heavily affected by the movements of those commodity prices.