Factors that Influence the Forex Markets

The Size of the Market

Successfully determining the future price movements of a currency pair in forex can be difficult, due to the size and nature of the market.

The forex market is a 24-hour market that is decentralised in nature, meaning that it has no central exchange. Given its global scope and unlimited opening time, forex is the largest market in the world in terms of total funds traded on a daily basis. What this means is that the range of factors that can influence a currency pair can itself be global, unlimited in time or be driven by any number of financial market players.

An Overview of the Most Commonly Cited Factors

Of course, this high level view of forex can be, to some extent, misleading. You may be trading a currency pair in a very limited time scale and with a clear understanding of the immediate historical and market contexts. Your belief in the future price movements of your traded currency pair can turn out to be correct; as well as, of course, incorrect.

Some of the most commonly cited factors influencing forex include interest rate increases/decreases, ‘expected’ interest rate increases/decreases, inflation rates and central bank interventions.

Supply & Demand

Currencies are always traded in pairs. For example, you may sell or buy the US dollar against the pound as the prices between the two currencies diverge. Demand for a currency can exceed its available supply, typically making it more valuable. Demand, importantly, can be actual or speculative; in the case of the latter, you might speculate that a currency is likely to be in greater demand than it currently is and you can trade to that effect.

Note that demand is often based on interest rates where higher interest rates often, but not always, make a currency more attractive.

Central Bank Interventions

Central Banks, commonly involved in setting or helping to set interest rates, also have a major influence on forex. National currency prices can be actively boosted or devalued by large-scale central bank interventions. A government could supply or ‘flood’ forex with its domestic currency in an attempt to devalue it, Quantitative Easing is an example of this. Conversely, large-scale government buying of its national currency can boost its value.

Political Events Political instability can occur anywhere around the world, depending on local factors and historical context. It is not impossible for political instability to occur in historically very stable countries. When a country becomes politically unstable, its national currency can devalue as investors lose confidence in the national governments’ ability to effectively support a prosperous business climate. Conversely, countries recovering from a period of political instability can become more attractive to investors, thus boosting its national currency. Rising or falling unemployment rates can similarly affect national economies.

Market Sentiment

Note that the Forex markets can also be influenced by raw market sentiment. This essentially means that forex traders can be more or less optimistic, with the sentiment spreading to such an extent it starts to influence buying/selling decisions. If an investor is looking to speculate in this way then one of the simplest ways to access the markets is through FX spread betting.

If you are trading the forex markets then note that margined forex and financial spread betting do carry a high level of risk to your trading capital and can result in you losing more than your initial stake. Ensure that spread betting fits your investment needs as it might not be appropriate for all investors. Only speculate with money that you can afford to lose. Before trading, please ensure you fully appreciate the risks involved and if required request independent advice.