Trading cross currency pairs
Successful trading of major currency pairs lies in correct determination of trader's strength or weakness of these currencies in relation to US dollar. As a rule, it is bullish or bearish sentiment on the U.S. dollar, which is the world's main reserve currency, that determines the direction of the movement in these currency pairs. Almost all major industrial, agricultural, global strategic resources are valued in U.S. dollars and, despite the crisis phenomena, today the U.S. economy is the largest economy in the world.
Thus, most of the speculative transactions are directly related to buying or selling dollars. Such a situation reduces the trader's opportunities. In order to expand trading opportunities, more and more traders are using exchange rates.
What is a cross rate on ?
Cross-course - is the exchange rate ratio between two currencies, which is calculated on the basis of the rate of each of the currencies of the pair against a third currency. In the market FOREX Cross-currency rate is usually considered a currency pair without the participation of the U.S. dollar. When trading cross-currency pairs, evaluation of one currency is made in units of the other currency, not in U.S. dollars. Calculation of cross rates is related to the exchange rates of each currency of the pair relative to USD. Thus, the EUR/JPY cross rate is the result of multiplying EUR/USD and USD/JPY: EUR/JPY rate = (EUR/USD)*(USD/JPY).
Cross rates are often used in a "carry trade" trading strategy. The strategy aims to sell a currency with a low interest rate and buy a currency with a relatively higher interest rate, making a profit on the interest rate difference. Japan is a country with very low interest rates. Therefore, Japanese yen is the main currency of this strategy and is sold against major currencies with a higher interest rate, providing income to the investor. Currently, in the context of the global financial crisis and falling interest rates on all major currencies, this strategy almost does not work.
What a novice trader should know when trading cross currency pairs
The main feature of cross-courses is their high volatility. This quality makes them attractive for use in trading, allowing to get a good profit, but we should not forget that the same their quality can be the cause of significant and rapid losses.
The most highly volatile crosses include the following currency pairs: GBP/JPY, EUR/JPY, CHF/JPY, AUD/JPY, CAD/JPY, NZD/JPY, GBP/CHF, EUR/AUD, EUR/CAD, AUD/CAD, AUD/NZD. As an exception, EUR/CHF and EUR/GBP pairs are low-latility. This is due to the fact that there is a strong direct relationship between EUR/USD and GBP/USD and also a strong inverse relationship between EUR/USD and USD/CHF (the charts of these pairs are almost mirror-like).
The most popular and frequently used are "yen crosses" - GBP/JPY, EUR/JPY, AUD/JPY, CAD/JPY, NZD/JPY.
Most movements in the yen are relatively synchronous across currency pairs. Synchrony can be broken only when macroeconomic indicators of other countries are released. For example, a negative reading of the UK may cause a fall in the GBP/JPY pair, but these events will not affect EUR/JPY, AUD/JPY, CAD/JPY and NZD/JPY. The GBP/JPY/JPY cross rate is the most volatile and can move several hundred pips in one day.
When trading cross rates, given their volatility, it is extremely important to Accuracy of entering a trading position. To this end, it is recommended to use small timeframes M15 and even 5-minute timeframes to open a position.
You have to remember that while the major currency pairs make random oscillatory movements of 30-50 pips (trading noise) before the trading direction is determined, for the currency crosses, especially for the yen, this value can amount to 100-150 pips. The yen might accidentally pass 150 pips against your position before it turns around and heads in your direction, and those moves can occur in a matter of seconds. The same volatility and speed of movement, with accurate entries, can allow you to make a significant profit in a short period of time.
Trading cross rates, in addition to technical analysis, is unthinkable without taking into account the fundamental background of the world marketsThat is, when evaluating the possibility of entering a trade, you need to understand the driving forces of each currency, and it is largely determined by the state of the economies of the countries of these currencies. So you have to study the major stock market indices, the U.S., Europe, Asian markets.
Technical analysis of cross rates It is important to clearly identify support and resistance zones on higher timeframes (daily, four-hour). Well work reversal patterns (double, triple tops, head and shoulders), models of continuation of the movement. During the analysis, it is mandatory to take into account the trends of the higher time intervals, and it is better to identify trading signals on smaller timeframes.
Stop LossesThe risk of a trade should, accordingly, be greater than on the major currency pairs, but you should not forget about the principles of money management and the size of the positions to be opened. Do not forget that the risk in each individual transaction should not exceed 2% of the deposit.
Some currency cross rates, especially, EUR/CHF, EUR/GBPIt is not recommended for beginning traders, because of the complexity of interpreting and understanding the influence of economic indicators of the Eurozone, Switzerland, and Britain on currency movements. Despite their slow movement and low volatility it is quite difficult to make a profit on them. Sometimes there is almost no movement and you have to leave the cross for a long period of time, especially when there is a small loss, exposing the position to unjustified risk.
There are other, more exotic couples, for example, AUD/CAD, AUD/NZD, and a number of even rarer, which are quite difficult to understand the driving forces of these currency pairs and also not recommended for beginner traders.
It is important to emphasize the importance of tracking yen crosses to predict movements of major currency pairs. Oddly enough, movements in these crosses can often be leading and precursory to movements in major currency pairs. Very often the rate of GBP/USD follows GBP/JPY. GBP/JPY starts to rise and with a small time lag GBP/USD starts to fall. In order to determine the synchronization and identify the leading pair, it is sufficient to observe the movement simultaneously in side-by-side windows or overlay the movement charts on top of each other using an indicator. You can, with some skill, detect earlier trading signals on a cross and use that to trade on the main currency pair. Or the movement on the crossover started earlier and with a small delay you can expect the movement on the main currency pair currency pair.
The same can be applied to the EUR/USD pair, the movement of which can be determined and predicted by strong movements of the EUR/JPY pair, especially if the EUR/JPY chart is broken through significant technical levels, determined on large time charts (four-hour, daily). The breakdown of such significant levels can be a signal of EUR/USD reversal.
It must be remembered that all cross-currency pairs have their own distinctive characteristicsThe currency pairs are dependent on various political events and economic news, its interest rate, which often set certain movements of these currency pairs.
In conclusion it should be said that before starting to trade cross rates, a beginning trader needs to study the nature of the cross movements and their behavior on demo accounts, get used to its volatility, study its reaction to the release of fundamental data, its connection to stock market indices and then introduce one pair at a time into your arsenal of trading instruments.