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Investor Services

Global Investing Risk

Even though foreign currency trading offers its investors great returns, they must assume a certain degree of (manageable) risk. As with any investment, currency trading does have the potential for loss; however, through proper research, it is possible to curb most of that potential. In contrast to securities investments, currency trading provides information on both sides of the market. That is, when an investor buys into the securities market, the majority of his research is based on that particular security, whereas forex traders must research both currencies in a given pair in order to minimize risk.

It is important to remember that all investments have risk. A simple way to remember this is to keep in mind the number of investment opportunities that exist in the world today. If one of those investments guaranteed significant profit at no risk, investors would abandon all of their other investments and invest in the risk-free investment. Therefore, the goals of an investor must be to

  • maximize profit, and
  • find an investment with minimum potential for risk.

Investors who trade foreign currencies have the ability to manage a great deal of their risk by taking into account many factors, two of which are interest rates and geopolitical events.

Interest Rates and Inflation

A forex investor must understand the effects of interest rates on the market in order to minimize his risk and maximize his return. When there is inflation (a decrease in purchasing power), natural instinct says that the currency will decline in value with respect to other currencies. This, however, is not the case. In order to account for the increase in inflation, the government raises interest rates, thus increasing the currency in value with respect to other currencies. With this in mind, an investor can reduce a large amount of his risk by keeping an eye on the interest rates of the currencies in which he wants to invest. In the graph below, you can see the effects of an increase in interest rates. During this time period, the US was cutting interest rates, thus decreasing the value of the US dollar.


Geopolitical Events

Geopolitical events have the ability to shock the forex market. Take, for example, the release of non-farm jobs on Friday, June 4. As you can see from the highlighted candle on the hourly chart below, the US Dollar was extremely volatile in the hour following the announcement, with a range of 141 points.

These are just two of the many factors that are involved in managing risk in the forex market. It is essential to understand not only these factors, but also the multitude of other factors that play a hand in the market.