What Moves The Currency Market In The Short Term?

For any type of trader, fundamental or technical, the importance of economic data cannot be underestimated. Having worked in the FX markets for many years, I have learned that even though there are many traders who claim to be pure technicians and do not factor fundamentals into their trailing strategies, these same traders have also frequently stayed out of the markets ahead of key economic releases. In fact, many system traders turn their systems off ahead of big releases such as the U.S. nonfarm payrolls reports. On the other side of the spectrum, there are also technicians who do factor fundamentals into their trading strategies and wait only for key economic releases to put on breakout trades. As a result, it is important for any type of active market trader to know what the most important economic releases are for the U.S. dollar. Since 90 percent of all currency trades are against the U.S. dollar, the currency movements are naturally most sensitive to U.S. economic releases.

First 20 Minutes	Average Range (Pips)	Total Daily Range	Average Range (Pips)
Nonfarm Payrolls	124	Nonfarm Payrolls	193
FOMC Decisions	74	FOMC Decisions	140
Trade Balance	64	TIC Data	132
Inflation (CPI)	44	Trade Balance	129
Retail Sales	43	Current Account	127
GDP	43	Durable Goods	126
Current Account	43	Retail Sales	125
Durable Goods	39	Inflation (CPI)	123
TIC Data	33	GDP	no

Based on a study that I conducted, the most significant movements in the dollar (against the euro) on the back of an economic release in 2004 occurred in the first 20 minutes of trading following the release. As shown in Table 4.1, the nonfarm payrolls report is hands down the most important piece of U.S. data. Throughout 2004 on average, the EUR/USD would move 124 pips (points in FX) in the first 20 minutes following the release. Excluding any release that came in within 10 percent of estimates, the average move was 133 pips. On a daily basis, the EUR/USD moved an average of 193 and 208 pips excluding nearly in-line levels. On average, the EUR/USD moved 111 pips throughout the course of the trading day. On the other side of the spectrum is the gross domestic product (GDP) report, which results in an average move of only 43 pips in the first 20 minutes and 110 pips on a daily basis. The GDP ranking on the 20-minute table is higher than on the daily table because prices do retrace throughout the course of the day. The biggest 20-minute mover for the dollar may not be the most significant market mover for the entire trading. According to our own analysis of 20- minute and daily ranges, we have created the following rankings for economic data.

You can compare the breakdowns of the average pip ranges for the EUR/USD that are shown in Table 4.1 with the average daily range for the EUR/USD in 2004, which was approximately 110 pips.

With a dynamic market, one caveat Is that the significance of economic data releases does change with time. According to a paper titled “ Macroeconomic Implications of the Beliefs and Behaviors of Foreign Exchange Traders” written by Cheung and Chinn of the National Bureau of Economic Research (NBER) in 1992, the trade balance was the number one market-moving U.S. economic release on a 20-minute basis, while non-farm payrolls (and unemployment data) was the third. In 1999, unemployment took the top place while the trade balance fell to the fourth. As indicated in the earlier table for 2004 (Table 4.1), the trade balance and inflation reports switched places with the trade balance being the third most market-moving indicator in 2004 instead of inflation, which took the ranking in 1997, while the significance of labor market data held steady. Intuitively, this makes sense since the market shifts its attention to different economic sectors and data based on the. conditions of the domestic economy — for example, trade balances may be more important when a country is running unsustainable deficits, whereas an economy that has difficulty creating jobs will see unemployment data as more important.

As of 1997	As of 1992
1. Unemployment	1. Trade balance
2. Interest rates	2. Interest rates
3. Inflation	3. Unemployment
4. Trade balance	4. Inflation
5. GDP	5. GDP

Contrary to popular belief, the GDP report has also become one of the lesser important: economic indicators on the U.S. calendar and has led to one of the smallest relative movements in the EUR/USD. One possible explanation is that GDP reports are less frequently released than other data used in the study (quarterly versus monthly), but in general the GDP data is more prone to ambiguity and misinterpretation. For example, surging GDP brought about by rising exports will be positive for the home currency; however, if GDP growth is a result of inventory buildup, the effect on the currency may actually be negative. Also, a large number of the components that comprise the GDP report are known in advance of the release.

For breakout traders, the knowledge of which data has the potential of leading to the largest average range can be useful in determining how to weight positions accordingly. For example, in Figure 4.1, which shows the daily EUR/USD chart, there is a triangle forming as prices consolidate significantly. A breakout trader would probably overweight positions ahead of the August 6, 2004 , nonfarm payrolls release on the eve prior in the anticipation of a large breakout move following this release. In contrast, the third bar of the consolidation was the day of the GDP release. As you can see, the range, was still comparatively tight, and given the knowledge that the average instantaneous 20-minute move off of the GDP release is only a third of the nonfarm payrolls move, the same breakout players hoping for a large move off of that economic release should probably put on only 50 percent of the same position that they would have put on for a no alarm payrolls-based breakout. The same guidelines apply for range traders or system traders. Nonfarm payrolls day would be a perfect day to stand on the sidelines and wait for prices to settle, whereas GDP day still provides an opportunity for solid range or systems-based trading.

Overall knowing what economic indicator moves the market the most is very important for all traders. Knowing the 20-minute versus daily range is also very important because the exchange rate adjustment to economic news appears to be very swill. Any reaction beyond a 15-to-30-minute window after the data is released may be the result of investor overreaction or trading related to customer flow rather than news alone. The GDP is a perfect example—the 20-minute reaction ranking is higher than the daily ranking. It is also critical to stay abreast of which data the market deems important at any point in time because the market's focus changes from period to period; once-relevant data may end up having less of an effect on currency values later on, and vice versa.

"Macroeconomic implications of the Beliefs and Behavior of Foreign Exchange Traders," www.georgetown.edu/faculty/evansml/New%20Micro/chinn.pdf.

The next three chapters cover some of the unique studies that I have done on the FX market that provide some telling details for both the novice and the advanced trader. Thee topics are: