Stock indices and their influence on the Forex market
It’s no secret that all the economic processes in the world are connected in one way to another. This statement is accepted as a dogma and does not require confirmation. However, this relationship can be expressed both very clearly, through the correlation of certain assets, and not very clearly, in the form of unpredictable consequences, crises and collapses, or the growth of certain assets.
The dynamics of stock indices and national currencies, to which these indices belong, is one of the clear evidence of the relationship of economic processes and assets. Stock indices are a group of stocks, united by a specific branch or feature. Stock indices are of nationality, as the currencies are. Therefore, it would be logical to compare stock indices with national currencies of the same countries. You can read about the major stock indices of certain countries here: the eurozone, the United States, the Asia-Pacific region and America.
Often the correlation of stock indices and currencies is not a constant value and can change from direct to inverse. Thus, currencies and indices can move in one direction or in different directions. In this case, it is worth noting in advance several criteria for the use of stock indices, which will increase the efficiency of using stock indices in the analysis of currencies.
- Major stock indices should move unidirectionally. For example, the US stock indices for a significant impact on the dollar should be traded one-way.
- The dynamics of the stock index should be significant. Intraday dynamics of the index should exceed 20-30%. Otherwise, its movement is not enough to influence the currency.
- It is necessary to consider the propensity of the market to risk and features of the national currency. The dynamics of stock indices is also a barometer of market optimism and pessimism. The growth of stock indices indicates the optimism of the market, a decrease in market pessimism. On this basis, safe-haven currencies (Japanese yen, Swiss franc and gold) will decline, and vice versa.
Considering the last rule, the strengthening of the stock index of Japan Nikkei 225 indicates a decrease in the Japanese yen.
The chart above shows an example of Japan Nikkei 225 stock index (Japanese candlesticks) and currency pairs: USD/JPY (yellow line), EUR/JPY (blue line) and GBP/JPY (green line). This is well confirmed by the inverse correlation of the stock index of Japan and the Japanese yen.
An example of a direct correlation (unidirectionality of movement) of currencies and stock indices is the US dollar.
The chart above shows an example of the movement of the US stock index DOW 30 (Japanese candlesticks) and currency pairs: USD/JPY (yellow line), USD/EUR (green line) and USD/GBP (blue line). The USD/EUR and USD/GBP currency pairs are taken backwards for greater clarity, where the direct correlation between the US stock index and the US dollar is well confirmed.
Stock indices remain an integral part of the FOREX market and national currencies. Therefore, the approach above can be an excellent addition to any trading strategy.
Anton Hanzenko