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Forex Trading: How To Profit from Central Bank Actions
By Sean Hyman on April 25, 2009 | More Posts By Sean Hyman | Author's Website
Back in the good ole days of central banking, banks just lowered and raised interest rates to take care of their economies.
Interest rates could vary big time - anywhere from literally 0% to over 8%! However, that was then. Since the “good ole days” we’ve had a “credit crunch” and “global recession”. It’s not often that almost every major economy in the world goes into a recession around the same time.
Therefore most central banks around the world have “shot most of their bullets” as they lowered rates to at or near 0%. However, just when you think they have done all they can do and their gun is just “clicking”…they reach down in their boot and pull out a knife…and the “battle is on” once again.
Well, what is the rabbit that they are pulling out of their hat now? Quantitative Easing. What is that? When they’ve lowered rates as much as they can in an attempt to make money as “cheap” as they can, they crank up the printing presses and make more money.
You see, that tool hasn’t always existed. Back in the day, money represented something. It was backed by gold in the U.S. and Switzerland, etc. Even many countries that didn’t have their currency backed by gold had their currencies pegged to the dollar which was backed by gold. So there was “substance” and “stability”.
Well, Richard Nixon fixed that by taking us off of the gold standard. Why? I believe it was so they could have the “right” to print money like a “mad man”, and sure enough, they’ve been doing it ever since.
So you may think that since the U.S. has had a history of printing more money since the 1970s, that it should be no big deal right? Wrong! Before, they printed money like a river. Today they are printing money like the “raging rapids”.
But this “printing of money” used to be more of a habit of the U.S. Fed more so than for other central banks around the world. However, in light of the global recession and the credit crunch, they’ve almost all hopped on the “money printing wagon”.
The Central Bank’s Final Rabbit to pull out of the Hat: Quantitative Easing!
So who’s involved in this “Quantitative Easing”? Well of course the U.S .is. That’s no surprise. They are the masters at it. They’re printing $300 billion
However, the U.K. has hopped in as well. They’ve dropped rates to the lowest they’ve ever been in their entire 300+ year history. Now they have printed over 75 billion pounds thus far.
Who else has jumped on the band wagon? Canada! Yeah, they call it their “insurance policy against unforeseen economic risks”. Yeah, in other words, they don’t need it now but they’re going to go on ahead and do it anyway, just in case!
Sometimes I feel like these central banks are like little kids. Johnny’s parents let him stay out until 11pm. Why can’t I? Ha-ha!
Instead, Canada is saying, “The U.S. and U.K. get to print money, why can’t we?”
Meanwhile, the SNB (Swiss Central Bank) has intervened in its currency to drive down the value of the franc across the board but in particular to the euro (EUR/CHF). So they are selling francs and doing a little printing themselves.
The Bank of Japan didn’t want to be left out either. They printed over 21 trillion yen!
So what’s a currency investor to do amidst al of these central banks “watering down” their currencies by printing even more? There are a few things you can do.
First, you can go back to the “real” currency: gold. Gold is a great place to go when everyone is willingly driving down the value of their currencies. It retains its value and even can go up when central banks lose their mind like they are doing right now!
The Only Two Major Central Banks that Haven’t Lost their Minds: Australia & New Zealand.
However, you don’t want to have everything just in gold. So there are (so far) a couple of central banks that are yet to join the “money printing club”: Australia and New Zealand
So far, they still have a couple of things going for them. Firstly, they actually have an interest rate of 3% on both of their currencies. While this isn’t anything to “write home to mom about”, it certainly beats ½ of 1% that so many are at right now!
Next, they do have inflation (3.7% Year over Year for Australia and 3.4% YoY for New Zealand) and not deflation. Given all of this AND the fact that they’ve held off on the urge to print more money, it could cause the AUD and NZD currencies to be buoyed while others continue to sink.
On top of this there’s one final benefit to owning these two currencies. They are nick named “commodity currencies”. All of this printing of money will eventually cause rampant inflation, even before the central banks can withdraw it. Therefore, it will cause commodities and the currencies of commodity miners/exporters to thrive.
Therefore, it’s a good thing to hold Aussie and New Zealand dollars and gold while the central banks are in this present “mania”!
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NZ is heavily indebted and a downturn in GDP could affect their credit rating, printing money is the easy sleazy option that polititians will latch on to soon enough. Unemployment is only now starting to pick up here and that will start to cause proplems with the tax take. There are no assets left to sell so printing has to look real tempting.
Its odd that the G20 warned about competitive currency intervention but not about competitive printing, both are happening.
One reason NZ has been slow to lower interest rates is that it has been seen to be of little benefit, the banks were borrowing money at 0% from Japan and lending it out at 8%, so the high rate served to make foreign-owned banks rich, an odd way to control inflation by damaging your GDP to debt but that was also how the world chose to make asia develop, export jobs and import debt.
Whats the first world unemployment count, about a billion? Move over China we are coming to meet you half way, bring your own bubble, ours has gone flat.
I don’t disagree that they have many problems facing them there. However, the institutional players in this market are looking for a recovery in financial markets in the coming months to year and are tiptoeing back into higher yielding assets already. That’s why the Aussie and New Zealand dollars are some of the biggest % gainers on the day many days lately.
Plus, we shall see a recovery in commodities in the months ahead which will be good to these to commodity exporting countries also.
Now that volatility and fear are subsiding, there is little reason to run up the dollar and yen…so there has been the beginnings of outflows out of these two defensive plays and back into these commodity currencies.
While New Zealand still has economic woes ahead of it, it will still enjoy a rally in the months ahead.
Australia and New Zealand have the highest interest rates and CPI rates of any major industrialized nation. So that will bode well for their currencies in the months ahead.
Thank you for reading my article and taking the time to comment.
Agree entirely except for the notion that consumption will recover as hoped for. I hate to agree with the Fed but “Geithner - Wrong to conclude we are close to emerging from darkness”. AUD deserved better than the dumping it got but present and future consumption may not justify the current rise in price either. The next few months may help to divorce forex prices from stock market action, both of which seem contrived and unreliable.
As fears subside, currency traders go back to focusing on important fundamental factors such as inflation and interest rates, both of which Australia has higher than any major industrialized nation right now. That will be their “saving grace”.
Thanks for commenting.
I hate to be the guy who sticks up for Richard Nixon, but that is not why he took us off the gold standard. It was because through poor accounting and fixed rates through currencies, Americas gold supplies were not priced to market values. A lot of countries that held cash reserves of the American dollar went and exchanged dollars for gold, dwindling the supply of gold (at fort knox and elsewhere) by 3/4 of what it was. Nixon, in unison with other nations facing similar problems, strategically took us off gold.
–While it’s an inherently populist position, one of the Populist party’s from when they started over a century ago– the arguments for a gold standard are flawed. What gives gold value? Supply and demand, the same thing that all openly traded fiat currencies have priced in as well. And contrary to the myth, gold has not “always” been worth -something- hyperbole at finest.
Otherwise good article(s).
and the central bank still got the same rights….to print money freely since it didn’t have to be backed by anything. No need to store up gold now when money is created….so they “print away” to their heart’s content. Helicopter Ben is at it again.