Welcome to professorsavings.com, we teach finance basics. Today we will teach you what cause drastic currency changes.
Hi I’m Rayfil Wong. We hope these investment concepts will help you be a better investor.
According to most of the academic theories out there, drastic currency moves shouldn’t happen.
Who wants to know? Investors!!
After all currency rates are supposed to be based on the relative levels of interest rates, inflation and so on and those numbers do not change by nearly the same magnitude that currency rates can and do.
But drastic changes do happen and they have become very hard to predict.
After all, if you knew you would be super rich from this wealth of information.
So what is behind this behavior? Investors should always remember that currency speculators often make heavy use of leverage, borrowed money that lets them control larger amounts of currency.
So even a relatively small move in a currency, a move that maybe reasonable given an interest rate or inflation announcement or a trade balance report can quickly get exaggerated.
Sometimes they advance themselves call for bigger moves and a truly surprising bit of news can quickly lead to drastic moves.
If the central bank of a country significantly raises or lowers the country’s interest rates with no prior warning, currencies can react violently as traders reposition themselves.
Likewise a big surprise in inflation, GDP or the balance of payments can send speculators scrambling to reverse their trades or pile on further.
Panic is also a major factor in currency moves. When there is trouble in a far off part of the world, the dollar will often soar as investors rush to find a safe place to weather the storm.
Whether it’s political instability, a natural disaster or war, currency traders often run first and think later.
If you think about it, this is common sense. How great can an economy be if there is war.