Forex and bonds understandably for traders
Traders trading in forex should have a general idea of other financial instruments as well. In addition, some knowledge can be transformed into simple and effective trade strategies. This review will discuss the relationship between the bonds and the Forex market. We will consider what they represent, how bond yields affect economies and how their exchange rate changes can make a profit in the foreign exchange market.
The state issues bonds when it is necessary to attract additional funds to the budget. That is, the state loans money for a certain period, during which interest is paid to the holder of securities. Funds may be required to cover the budget deficit, other arrears and, in general, the financing of public projects.
Given that bonds are always issued in very large volumes, this instrument directly affects the development of the country 's economy, affecting the size of the money supply, inflation and the exchange rate. Therefore, the relationship with the currency market is quite an expected phenomenon.
For example, the red line on the chart is the index of the dollar basket. From the index, you can determine what happens to the currency as a whole. The Blue Line is responsible for the yield of 10-year U.S. Treasury bonds, actually the most popular bonds in the world.
But, since we cannot know future rates in advance, we are left to rely on expectations. In this regard, the bond market is a good leading indicator, as it is where the earliest trends are born. If bond yields rise, so does the likelihood that the bank will decide to raise rates at the next meeting. The same, if bond yields fall, rates could soon be lowered.
But we trade currency pairs. How do we compare the returns of 2 different countries?
Calculation of spread
In this case, we will be assisted by bond yield spread schedules.
First of all, we look at 10-year papers. At the same time, if you are interested in EURUSD, you need to compare the bond yields of the US and Germany (the leading economy in the eurozone).
The currency pair has the concept of spread, but we can also calculate the spread for two bonds. This value can be used as a growth or fall indicator for a pair. So, the spread of the two bonds is the difference in their yields. With the increase in the difference between German and American securities, you can expect EURUSD to rise when the spread decreases, expect the currency pair to fall.
Naturally, it is necessary to look not at the short-term value, but at the dynamics of the spread change. That is, we look at the trend in a few days or weeks, depending on the time frame traded. Let 's say if you trade on the hour chart, a few days will be enough. But if your main time frame is daily - you need to analyze the spread in a few weeks or months.
There are many different sites where bond yield values are shown. For example, changes in bond yields from the US, Japan, the UK, and the Eurozone can be taken from here. There are also full-fledged schedules of quotations.