The 'volatility' forex trading strategy is an easy and effective way to make money in the forex market when global equities are underperforming. The strategy takes advantage of the 'flight to safety' that occurs in the forex market when there is fear or a 'risk off' attitude. The following article will show you how to identify when the market is shifting from a 'risk on' to 'risk off' position using some easy to follow steps, and provide you with some insight as to why these forwarded movements occur.
The diversification forex trading strategy has been extremely effective to trade since the start of the global financial crisis in late 2007. This period saw unprepented levels of volatility in the forex market, due to a sell off in global equities, a deleveraging of carry trades in high yielding treaties and overall flight to safety from risk assets to those holding safe haven status.
At present the world looks at the S & P500 and the Dow Jones Indices and futures from the states as a means of determining the current market sentiment and whether investors are embracing or abandoning risk. When these two Indices are rallying it means that investors are optimistic about the market and happy to take on risk.
When the S & P500 and the DOW are up we are likely to see money flow into contracts that are higher yielding or that do not hold safe haven status. In today's market environment this would probably mean the USD (US Dollar) and JPY (Japanese Yen) would have fallen again other majors such as the AUD (Australian Dollar), NZD (New Zealand Dollar), CAD (Canadian Dollar), GBP (Pound) Sterling), EUR (Euro), CHF (Swiss Franc). When this is the case the market is said to have taken a 'risk on' place.
When the S & P500 and the DOW are selling off it is a completely different story. When there is fear in the markets the sell offs tend to be sudden and sharp, this applies to both equities and the forex market. In the case of the forex market the sell offs tend to occur sooner due to the ability of market participants to liquid positions quickly, actively short contracts with little effort and no restrictions, the deleveraging or carry trades / risk positions and the recognition of the USD and JPY as safe haven contracts to move funds to and mitigate risk. When this is the case the market is in 'risk off' mode.
Key Points to remember:
- The S & P500 and the DOW Jones Indices are the world risk meters determining whether the market is bullish or bearish, risk on or risk off.
- Safe have contracts are the USD, JPY and to a lesser amount CHF
- The risk departments or those not showing safe haven status are the AUD, NZD, CAD, EUR, GBP
- USD and JPY can weaken when the market is bullish or risk on, the risk contracts will strengthen under these conditions
- USD and JPY will strengthen when the market is bearish and risk off. Money will move back into the safe haven treaties, the risk contracts will likely fall in value.
How you trade this strategy is very personal. The sole purpose of this strategy is to identify shifts in sentiment in the market by watching the above mention risk meters. This strategy is most effective when the markets have been rallying for some time and a pullback is due, or when price is consolidating at a key level and there is a risk event such as a key piece of economic data coming out.
