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Thread: The сross-market analysis and correlation between financial markets

  1. #1
    Super Moderator Gulfstream's Avatar
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    The сross-market analysis and correlation between financial markets

    The сross-market analysis it’s the topic in it’s own right. It’s important for all traders, doesn’t matter if you trade on Forex or on the other markets. The understanding of interconnections between financial markets gives to trader conception about market movements and the reasons, why they happen. Everyone should know this, even if trader deals only with usage of technical analysis or other types of it.
    The сross-market analysis studies correlation between financial markets (four major asset classes: stocks, bonds, commodities, and currencies). The main goal of intermarket analysis is price movement forecasting. This analysis works not just for long- and medium-run strategies, but also for intraday trading.
    However, the topic of сross-market analysis isn’t in largely disclose in modern financial literature. Only one book, written 30 years ago, gives us knowledge
    and experience in this direction - “Intermarket Analysis: Profiting from Global Market Relationships” by John J. Murphy. A big half of information is outdated, but anyway let me recommend you to read it like a classics of the genre.
    Murphy reckoned intermarket analysis to the technical analysis feasibly cause he was classical in this direction. In my opinion, intermarket analysis(IA) is a part of fundamental analysis, because IA explores exactly reasons of price movements (nevertheless, charts are also used for this).
    In this thread we will try to discuss IA in simply way in order to help each beginning trader to straighten out.


    Introduction
    It happened in 2010. In one website I have found a posting from beginner in trading. He was very surprised when one day he opened index chart on small timeframe intraday and discovered that a good half of currency pairs just copy this index movement (for example, AUDUSD and other). Then he realized why currency movements are so sharp and are changeable from one side to another. That was a big revelation for him. I gave him advice to continue learning stock indexes, if he want’ to become a professional trader.
    Beginning trader doesn’t understand why currency pair price is so dynamic within a day or during a week. Primarily they get to know about news at the market and
    macroeconomic indicators outputs. They follow this news and think, that it’s a real fundamental analysis.
    After that beginners extend their knowledge and got to know about monetary factors which also affect the market. For example rate growth expectations lead to currency's value growth.

    So, the main factors, affecting currency value, are:

    1.Differrence in Interest Rates between the currencies of two countries. Investment in assest of country, whose interest rate is higher, gives more income and that means that the currency value of this country is more expensive and demanded.
    2. Interest Rate growth expectations lead to growth of the exchange rate (and vice versa, rate's fall makes currency value cheaper).
    3. Quantitative easing implementation (QE) makes value of currency to go consistently lower during the whole period. Expectations of QE fulfilment makes currency of this country more attractive and expensive.
    4. Other monetary and fundamental factors. For example, debt crisis in 2011-2012 led to sharp euro weakening .


    However, during the day currency price is defined by other factors:
    1. News distributing and and macroeconomic indicators performances.
    2. Intermarket relationships. The impact of other markets on the movement of exchange rates.

    The main classifications financing assets market types:

    The four main assets classes are:
    1. Currency
    2. Commodity assets
    3. Stocks
    4. Bonds


    According to classification above, the four main market types are:
    1. Foreign exchange market
    2. Commodity market
    3. Stock market
    4. Bond markets
    Let us look more closely on each financing asset and market later in the thread.



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  2. #11
    Super Moderator Gulfstream's Avatar
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    The Japanese Yen and the Bond Market


    Let's look at the correlation between USD/JPY and US government bonds. On the chart below: the inverse correlation between USD/JPY (black line) and prices for 10-year US government bonds (blue-red line), h1, 14th- 22nd September, 2017:





    As we can see, the correlation is almost 100% and it is even higher than in the case of the yen and stock indexes.The same correlation is actual not just for charts with time frame H1, for perion D1 it would be identical.
    Treasury yield is inverse to their prices, so the correlation between their yield and the pair USD/JPY will be direct. The growth of yield of US government bonds inevitably generates upturn for USD/JPY.
    To be more precise, the difference (spread) between the yields of US government bonds and Japan has influence on USD/JPY pair.


    However, the charts for US and Japanese bonds are very hard to find in mt4 platform and to use third-party sites isn’t convenient.
    And the yield of Japanese bonds isn’t changing as much as the US one, so you can fully consider for analysis only the yield (price) of US bonds.
    Consequently, the world's largest in terms of volume (and importance) US bond market has affect the yen, and through it - the Forex market.

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    Super Moderator Gulfstream's Avatar
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    US treasures and security assets


    What is the connection between bond and stock markets? Let analyse this, basing on on US security assets.
    These markets both are the world's largest asset markets. The US bond market is the leading one, it is on the 2nd place in the world, with an approximate capitalization about $ 20 trillion (1 000 DJIA index points equals about $ 1 trillion, at least it was 5 years ago, when the index was at the level of 12-13 thousand).\


    By Murphy’s point of view, the prices for US bonds and shares have a direct correlation between themselves. Both stocks and bonds are growing at the same time. However, it is possible that it was once before. But today this statement seems not quite true.


    Theoretically, with the growth of risky assets (stocks), value of safe assets (yen, gold and US government bonds) should decrease.

    The reverse correlation between the stock index of DJIA (black line) and the prices for 10-year US state bonds (blue-red line), h1, 15th August -22nd September, 2017.





    As we can see, this correlation is reversed. US stock indexes are growing, US bonds, gold and yen are declining - a drop in prices for government bonds leads to increase in their yield, resulting in excess the US dollar grows. On the other hand, the dollar gets support from both the growth of security assets and the weakening of the yen, which leads to an increase in the USD/JPY.


    However, it would not necessarily always be like this. That's why you should always look after (especially intraday) which type of correlation exists between risky and safe assets, such as the yen, gold and US bonds.
    Exactly this would affect movements on Forex market, in the absence of other monetary or eventual fundamental factors.

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    Risk appetite


    Very often it is possible to hear about risk appetite. For example, highyielding currencies are growing against the background of an increased risk appetite. Or vica versa, the yen and security assets have strengthened against the backdrop of risk aversion.
    The major indicator for the risk appetite determination is stock assets. If the stock indexes are growing, so is the propensity to risk. Sometimes (but not always) this can lead to the growth of highyielding currencies such as AUD, NZD, Mexican peso, Russian ruble, South African rand.


    Safe assets, such as the yen, the Swiss franc, gold, US government bonds - with the growth of the propensity to risk are usually reduced. In the case of risk aversion, everything is exactly the opposite.
    25th September, 2017 is just such a day when the stock markets are significantly reduced after the elections in Germany on the weekend and bacause of the growing tension between the US and North Korea.

    It all leads to jpy, gold, US bonds value increasing. Moreover, the Swiss franc is also growing, despite the decline of the euro (and usually they have a direct correlation) - this is a rare case lately.


    In addition, the dollar is growing in relation almost to all major currencies, except the yen and the franc - and this happens not so often recently, when the dollar usually falls to all currencies during the yen's growth. But the results of the elections in Germany, which weakened the euro and other currencies such as the pound, indirectly influenced and here.

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    What to beware of?


    To which indicative instruments of other markets should we pay attention at first, when trading on Forex market? In my opinion, the following instruments should be monitored daily:


    Stock indexes (futures are more preferable):
    1. DAX, European session (10.00 am - 6.30 pm UTC +2, and in summer - UTC +3.
    2. DJIA, American session (4.30 am - 11.00 pm UTC +2, and in summer - UTC +3.)
    3. Nikkei, Asian session (03.00 am - 09.00 am, ever UTC+3).


    Commodity assets:
    1. Gold
    2. Copper ( important for AUD)
    3. Oil WTI ( important for CAD), Brent (for Russian ruble).


    Debt- based assets:
    1. 10-year US state bonds
    2. It is desirable and the government bonds of Germany (but in the MT platform takes a while to find , the Japanese are almost impossible).

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    In this thread, I tried to discover the basic concepts and some practical observations on the topic of Intermarket analysis for those who are practically not familiar with this topic at all.


    The topic of сross-market analysis is infinite, as are the markets themselves, which so often present surprises to us and break all established norms and rules. And the cross-market regularities themselves are not some firmly established norm, they are constantly in motion and are developing.


    This is the reason why сross-market correlation analysis is necessary to be learned constantly and to monitor the various changing relationships between different assets. Only in this way we can understand the real reasons of market fluctuations. This help us not only in medium terms strategies, but also for intraday trading.


    It is not a secret, that often even important indicators from the economic calendar don’t work in the market, or they don’t work as they should be in theory. And the beginner starts to conclude that the fundamental analysis doesn’t work, I'll go to do a better technical analysis, cause there is everything simplier.


    Most likely, for each such a specific case of a "non-working economic indicator" there are some сross-market influences and factors that the beginner overlooks, focusing only on events from the economic calendar.

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    Quote Originally Posted by Gulfstream View Post
    It is not a secret, that often even important indicators from the economic calendar don’t work in the market, or they don’t work as they should be in theory. And the beginner starts to conclude that the fundamental analysis doesn’t work, I'll go to do a better technical analysis, cause there is everything simplier.
    Only if most traders will adhere to this, because I have said it over and over again according to my experience, I lost a lot and was such a confused trader when I was using the news and fundamental. Now, I can sustain my account for long with just the technical analysis I have been using, with that been said, news trading should not be advised by any trader.

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  8. #17
    Trader sniper007's Avatar
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    After reading through the thread, I got question asking my self, because things has been made a lot more simple in forex trading, so what is the essence trading with the method of making analysis , following the different market patterns and then checking on other market while it could be simply done by making analysis on the chart and with the very tool like candle stick we can ascertain good entry when analysis is done properly.

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  9. #18
    Trader bigpharaoh's Avatar
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    Quote Originally Posted by sniper007 View Post
    After reading through the thread, I got question asking my self, because things has been made a lot more simple in forex trading, so what is the essence trading with the method of making analysis , following the different market patterns and then checking on other market while it could be simply done by making analysis on the chart and with the very tool like candle stick we can ascertain good entry when analysis is done properly.
    Certainly the analysis correctly will make you enter into the bargain and you are reassured and without anxiety or fear. Unlike another trader entering his deal without any analysis. As for simplicity. I love the simplicity of the analysis and I don't like the chart with many indicators, I feel like I'm lost. By the way, I often have the price of action and moving average.

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  10. #19
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    Quote Originally Posted by big.pharaoh View Post
    Certainly the analysis correctly will make you enter into the bargain and you are reassured and without anxiety or fear. Unlike another trader entering his deal without any analysis. As for simplicity. I love the simplicity of the analysis and I don't like the chart with many indicators, I feel like I'm lost. By the way, I often have the price of action and moving average.
    Before a trader can thus have such ability then they should have been able to have the best of experience which must have made them have a good result when trading. Thus trading is a good and profitable business but you have to be so much experienced, it is quite important if we want to make success.

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  11. #20
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    Quote Originally Posted by sniper007 View Post
    After reading through the thread, I got question asking my self, because things has been made a lot more simple in forex trading, so what is the essence trading with the method of making analysis , following the different market patterns and then checking on other market while it could be simply done by making analysis on the chart and with the very tool like candle stick we can ascertain good entry when analysis is done properly.
    if you try to making different method you make it easy but every one want to make not proper they decide before trade what they actual do but in trade they are not good in at all so they loss their patience so this is the matter of it pattern so select always proper method whenever you make EUR JPy or Oil if you want to decide this thing you can do it everything ...

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