The euro (EUR) and the US dollar (USD) are the world’s two largest currencies and, as a result, the EUR/USD is the most traded currency pair.
The Eurozone and the U.S. are two of the largest economies worldwide with many multinational corporations that need to constantly exchange currency to hedge their exposure for example.
This, coupled with the fact that EUR/USD is an attractive product for speculative traders, means the pair is traded a lot and so is highly liquid.
The high interest and involvement of traders in the EUR/USD, as well as the vast amount of financial information that can potentially move the pair, means it can be volatile. For example, the recent news from the European Central Bank (ECB) that they will make unlimited bond purchases from indebted Eurozone countries and the announcement that the Federal Bank of America will launch a third round of quantitative easing (QE3) spurred the pair to gain 500 points from 1.2600 to 1.3100 in the space of approximately a week. That is, two very significant central banks throwing out very important information which is having a direct affect on pricing.
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Price in perspective
In July 2008, fuelled by the US sub-prime crisis and the collapse of Lehman Brothers, the EUR/USD reached an all-time high of 1.6037. Since then it has traded in a wide range, reaching a low of 1.1876 in June 2010, sparked by concerns over the EU debt crisis and fear of a possible breakup of the European Monetary Union. Currently trading at 1.3100, the euro has recently rallied up from the two year low 1.2040 seen earlier this month as pressures of the ongoing debt crisis in the Eurozone has subsided for now following the ECB bond buying announcement and the QE3 program from the U.S.
At its most basic, the EUR/USD is moved by the relative strength of the two economies. This means that a faster-growing Eurozone will strengthen the euro against the dollar and vice versa a faster-growing US economy will strengthen the dollar against the euro.
Interest rates can be used as a basic gauge – when Eurozone interest rates rise, the euro will generally strengthen against the dollar and vice versa.
However, because of the global crisis interest rates have remained low in both countries for an extremely long time hence investors gauge other monetary policy changes such as QE programmes as an indication of economic strength.
Much of this data can be collected from central bank announcements including monthly minutes from meetings and comments from central bank leaders. Other economic data such as employment numbers and purchasing managers index (PMI) or ISM (the U.S. equivalent are a useful gauge of economic success that can lead to a change in a currencies valuation.
Furthermore, the Eurozone is not particularly politically stable. There are frequent differences of opinion among the member nations and if these threaten stability, the euro generally weakens against the dollar.
The EUR/USD generally presents reliable and identifiable trading patterns given that there is a huge ‘herd’ of traders behind the price hence psychological patterns can emerge. This trend-driven trading makes it easy to apply basic rules and technical analysis.
In addition, the pair is very liquid, which means that standard risk management rules can be easily applied and the spread you pay is smaller. For example, less liquid (traded) products such as USD/ZAR have a tendency to spike making a stop-loss order harder to manage and the more illiquid a pair is the higher the spread.
Traders in the UK are fortunate to have a wealth of fundamental data that is free and easy to access to help in analysing potential price moves for the euro.
The European Central Bank (ECB) is the second-most watched central bank after the US Federal Reserve. Traders monitor the monthly ECB policy meeting closely, as this and the press conference that follows are generally key to the direction of the euro.
In addition, regularly scheduled economic data reflecting the European economy get a lot of media coverage, making it easy to monitor. Some of the important economic indicators for the euro include GDP, employment figures and purchasing manager’s index (PMI) data. Germany, as the Eurozone’s largest economy, is also monitored for industrial production, the IFO survey and inflation.
Given the ongoing EU debt crisis, traders need to be particularly alert to any news related to the crisis as the EURUSD is particularly sensitive to such news. In order to control risk, you need to closely monitor news and developments in the EU.
Trading tips for EUR/USD
If you are a beginner trader, you may want to trade the EURUSD during the Asian session from 9pm to 6am as this is when the pair is less volatile with smaller price moves on account of the time difference with the Eurozone (no new EU economic data is released during the Asian session).
This could make it easier for a beginner to identify support and resistance levels and control risk. If you are a more experienced trader, then you may want to take advantage of the increased volatility during the European (London) session. As the fundamental news can often drive strongly the price in one direction and a break-out method could be applied.
Zoe is London branch manager for easy-forex.com, having previously worked as a forex dealer at CMC Markets and World First. She now provides UK clients with market information, training and seminars.
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Thu, 1st Jan - * UK markets gave back Tuesday' slight gains as traders continued to take positions, or stay on the side lines, ahead of the all-important policy decision - and accompanying market reaction - from the US Federal Reserve due out later this evening.