I have been trading currencies for around 15 years. For the average person, an easy way to understand how and why they are valued against each other as they are is to think of them as different publicly traded companies. For example, there is typically plenty of demand for the stock of a growing solid company. This demand creates higher valuations for the stock which leads to wealth and strong buying power for the company. There are other companies, however, like Enron a few years back that were operating under mass illusion. When the public became aware of this fraud, everybody sold the stock which eventually went to zero and the company filed for bankruptcy. What happened to the main people responsible for the Enron illusion and fraud? One is serving a long prison sentence and the other died of a heart attack during court proceedings. The Enron illusion was nothing more than risk disguised as opportunity.
Currencies are valued the same way. The perception of growth and higher interest rates for a country is going to invite global investors to buy that country's currency which will drive up the value of that currency. The higher the value of the currency, the greater that country's real global purchasing power. If the U.S. Dollar was a publicly traded company today, we would be considered much more an Enron than a Microsoft. The currencies of the world producers and savers are much more the Microsoft's of the world. Global currencies seek safe and strong returns on investment. The U.S. Dollar is not it and the currency markets have been telling us this for years.
As you can see above, there are two primary ways currencies trade. One is the futures and the other is the more common cash market, better known as "FOREX". While they represent the same markets and stay in line with each other, there are some differences. We cover these differences in detail in class.
The main question for currency speculators is how and why prices move in these markets. What is important to understand is that price moves in these markets are a function of pure supply and demand and nothing else. Prices move when this simple and straight forward equation is out of balance.
Let's quantify demand (support) in the chart above. As price is trading sideways, one might think that supply and demand are in balance at 20.50. The truth is that there was never supply and demand balance. It just took a certain period of time for this unbalanced equation to play out. When price rallies initially from that demand level, we know that this can only happen because there are more willing buyers than sellers at 20.50. Therefore, if and when price revisits that level, we want to be a buyer. When we buy, we are buying from someone who is selling after a decline in price and at a price level where demand exceeds supply.
It's not easy! Trading based on the laws and principles of supply and demand will test every emotional bone in your body. As you can see below, price never drops to a low risk/high reward price level on nice green candles and good news. It's always nasty red candles and bad news. This is what drives the masses to sell. The astute market speculator knows, however, that when the last seller sells at a price level where demand exceeds supply, price must rise.
Perhaps you wish to trade currencies but are not sure how to get started. Perhaps you never wish to trade currencies but really want to "value" your assets properly. In either case, there are plenty of reasons why people need to understand how to quantify supply and demand in the foreign currency markets. Email me if you have any questions. I hope to see you at an Online Trading Academy course soon.
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