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Intermarket Analysis

Intermarket Analysis

Intermarket Analysis investigates the relationships between different financial markets. The following intermarket analysis focuses on four major asset classes: bonds, currencies, equities, and commodities.

CONTENTS

• The Unification of Global Financial Markets

• Intermarket Analysis by John Murphy

• The Complicated Role of the US Dollar

• US Dollar and Gold Price Adverse Relation

• Crude Oil Relationships

• EUR/USD Relationships & USDJPY Correlation to Equity Prices

• Treasury Bills Correlation to the Forex and Equity Markets

• Industrial Metals Correlation to Equity Prices

• This Research is Based on 15.5 Years of Daily Market Data

• Intermarket Analysis Conclusions

 

The Unification of Global Financial Markets

World financial markets operate as a common area for world investors, a common area incorporating different combinations of Risk/Return, for example:

• Government Bonds: Low Risk / Low Return

• Corporate Bonds: Medium Risk / Medium Return

• Hedge Funds: Medium Risk / Medium Return

• Equity Markets: High Risk / High Return

After the crisis of 2007, the interconnections between these different combinations of Risk/Return have grown stronger. What happens in one financial market affects directly what happens in all other markets.

The Goals of Intermarket Analysis

Modern analysts use sophisticated frameworks, which are able to incorporate the major market interconnections. This is crucial for the following reasons:

(i) Explaining price action, when other methods fail

(ii) Obtaining early insight into strong long-term trends

(iii) Performing more accurate forecasting on individual assets (short-term and mid-term)

(iv) Reducing the cross-market portfolio risk, which emerges from the existence of all these interconnections (very important process for institutional investors)

Defining a Cross-Market Correlation

The term correlation will be widely used in this analysis. A correlation between two asset classes expresses an average relationship between two different markets, backed by historical data. The correlation coefficient takes values between -1.0 and +1.0, where:

• +1.0 is the perfect cross-market correlation (identical direction between two assets or asset classes)

• -1.0 is the perfect negative cross-market correlation (identical opposite direction between two assets or asset classes)

 

Read more: Intermarket Analysis

Forex Institutional Trading

 Forex Institutional Trading, Order Flows, and Stop-Hunts

If you are a retail trader, understanding the role of Institutional Trading is the same as a little Penguin knows when and where the white sharks go for hunting. This little information can save its life numerous of times.

 

Profiling Institutional Traders

Institutional traders are large players managing great sums of trading capital. They include Investment Banks, Hedge Funds, Mutual Funds, Investment Firms, and some large Commercial Corporations. Institutional traders can manage their own funds but also their clients’ funds. The Euromoney Survey can provide a good insight regarding the top institutional players in the Forex market.

The Euromoney Forex Survey

According to the 2017 Euromoney Foreign Exchange survey, Citigroup continues to hold the top ranking amongst currency trading companies. Note that the market share of the top five (5) global banks has diminished to 41.1% compared to 61.5% in 2009.

Table: Euromoney Fx Ranking (Based on Forex Market Volumes)

The Essence of Managing Portfolio Risk for Institutional Traders

Institutional traders are very risk-averse and avoid trading ‘naked’ in the market. They give extra weight to concepts such as risk management, portfolio diversification, and cross-asset correlations. They use every available financial instrument they can get in the market (Forwards, Futures, Options, Swaps, etc.). In addition, they care a lot about the transaction cost they pay. Institutional traders do not like placing all their eggs in the same basket. Therefore, they open many different positions in the market. Positions that they plan to hold for long periods of time. On the other hand, retail traders open a few positions and plan to hold them for short periods of time. The following table highlights the different trading philosophy of institutional and retail traders.

Read more: Forex Institutional Trading