Traders often react euphorically when the central bank continues the policy of low interest rates and the key interest rates are even lower. However, the fewest traders are concerned about the impact on the trading strategy with regard to central bank decisions on future financial stability. Trends can thus experience a massive reversal. The trader is therefore recommended to give the right weight in his fundamental analysis and the resulting decisions for his trading strategy of financial stability. Indicators that are important for this are to be discussed in the text.
Why a low interest rate level?
The amount of key interest rates is a mirror for economic development in the currency area. If currency keepers are not satisfied, the key interest rates are lowered. The downward movement can even be driven up to negative interest rates on deposits with the central bank. This development, of course, always has implications for assessing the value of a currency in relation to other currencies. The trader should therefore make a good decision when selecting the currency pair to be negotiated. If the central bank fails to reverse the trend in economic development, this will eventually affect the stability of a currency. The trader is recommended to keep the eyes particularly open.
Relationship between interest rate levels and financial stability
The key interest rate can be expected from the financial infrastructure. This must ensure financial stability. The central bank conducts an ongoing analysis of the financial system and initially collects risk potential for the financial system. It identifies the system risks and the specific risk factors. The aim is to identify possible aberrations at an early stage. Special attention is given to the so-called downward scenarios. So-called stress tests play a major role. These stress tests show the impact of negative events or developments on the financial system. The analyses then result in decisions for the key interest rate.
Low interest rate level and financial stability
Economic and financial conditions in the financial system and in the real economy can be mutually reinforcing both in the recovery and in the downturn. For example, excessive lending may result in the purchases of assets, real estate, investment, and private consumption being increasingly financed through loans. Increased demand can lead to price increases in these assets. Inflation is coming. This contributes to a depreciation of money and jeopardises the financial stability of the respective currency.
If the trader recognizes this development through a safest-oriented fundamental analysis, he can realize profits in this misdevelopment. The trader recognizes the beginning of new trends in certain currency pairs. Capital commitment and start time of the trade can be optimised. In return, existing trades can be closed in order to realize profits before a reversal of the trend is implemented.
Information sources for the trader
An important source is the German Bundesbank’s financial stability report. It is always published in November of the current year. Sovereign debt, the international and German financial system and the rules on mitigating risks can be found here. The Ifo index, conference reports of the central banks, business news and political decisions are also sources for the trader. The fear is to be taken from the newcomer in foreign exchange trading. In trading, experience and awareness of certain messages and the resulting decisions in trading comes. The trader can gain experience in dry training with demo accounts that do not cost money.
Due to the complexity of markets and the financial system, systemic risks can occur in very different and difficult-to-foreseeable forms. For this reason, it is generally not possible to always identify a concrete threat to financial stability and to make decisions for trading. It is therefore of particular importance that the available tools of the trader are continuously checked for adequacy and topicality in the fundamental analysis and, if necessary, supplemented. This is the only way that the Forex trader will succeed.