The Forex market is one of the most liquid and profitable to trade these days. Its liquidity, however, is tightly linked with its other aspects, and one of them is volatility. When rooky enters the market, the volatility might seem like something to stay away from, something that is inherently bad, But it’s quite the opposite.
Forex volatility is a pep, just drives your trades and makes you adapt your trading strategies accordingly and in the right manner. This article is about the volatility of currency pairs in the Forex market..
Volatility is relative
If you’ve never tried trading in the Forex market where you at least watched the price movement from the margins, you should have noticed that the prices move in a nonlinear fashion on the chart.
At times the price of a currency makes no progress or moves within a very tight range. If so, people say there is low volatility in the Forex market.
Conversely, when key economic data is released where government officials speak, the market price makes precise and strong movements. So, it is said that there is an increase or even a peak in volatility.
What does volatility depend on?
What does volatility depend on any currency pair?
The main cause for the volatility is liquidity. A standard rule established that: the higher the liquidity, the lower the volatility, and vice versa.
In fact, liquidity is the amount of supply and demand in the market. This means that the greater the supply over the demand, the harder it is to get a price to move.
According to this rule, we can make this conclusion that exotic currency pairs are the most volatile in the Forex market because their liquidity is often lower than other major currency pairs.
The volatility of FX markets
The volatility of FX markets is what many traders thrive on as they enjoy the adrenalin rush that comes with watching price movements and trends. That said, volatile markets come with plenty of risk and therefore it’s really important to manage your trading decisions carefully and to do plenty of research before placing a trade.
Inadequate risk management is the downfall of many traders. Failing to enter or exit a trade at the right time can prove costly, which is why FX traders use a wealth of essential indicators such as Bollinger Bands, RSI, volume, and established support and resistance levels to aid their strategies. Investors looking for returns with minimal risk often choose portfolios with lower volatility rather than opting for portfolios which could either have big wins or huge losses.
Readers should conclude that trading exotic currency pairs such as GBPSEK trading promises big profits based on such statements. However, it’s not that simple. This is because the range of movements of exotic pairs is much wider than major pairs.
However, such high volatility is the result of low liquidity, and trading in low liquidity currency pairs carries particular risks for a trader.
The point is that with varied technical analyzes, these techniques should not work in such situations. However, if you decide to trade them in, say, USD / SEK or GBP / NZD, your analysis should not work as efficiently as, say, when you trade EUR / USD. Also, the technical analysis models should generate false signals.
This is because the psychology of market behaviour in its most liquid form reconciles with the structure of technical analysis. In case the liquidity of a trading instrument is lower, the validity of the technical analysis is called into question.
The second problem a trader may face when trading volatile financial instruments is wide spread (additional trading expense).
Of course, we should never advise you to trade in currency pairs following low volatility. However, our task is to alert inexperienced traders and newbies that the risk of such trading is higher than trading regular currency pairs.