Currencies, like equities and bonds, have pairs that are very liquid and those that are not so liquid. The liquid currencies can be characterised as those that are the most stable economically, and politically. They include the countries that form the Group of 7 or G7 - the United States, Japan, Great Britain, France, Germany, Italy, and Canada.
Often you will hear on CNBC or read in the financial press that the "dollar was stronger today". When that is said, it usually implies that the dollar got stronger vs. the major currencies or what is often referred to as the “Majors”.Since the unification of the European currencies into the Euro, the currencies that are most liquid now include the US Dollar, the Japanese Yen, the British Pound, and the Euro, known as the “major pairs”.
It is estimated that activity in these currencies comprises of more that 85% of the daily foreign exchange volume. Since the Euro replaced the Deutsche Mark, Italian Lira and the French Franc, the Major Currencies are really only five in number. However, many also consider the Swiss France and the Australian Dollar worthy of inclusion as these currencies are well traded and have favourable liquidity.
Liquidity is essential when trading foreign currencies. Currencies that are illiquid generally will have wider bid ask spreads, have a much greater chance to have "fast market" conditions where liquidity can be non-existent and volatility greatly increased, and are also often more susceptible to short term market manipulation or deception, like false technical breakouts.
Liquid currency pairs like the EUR/USD, USD/JPY, GBP/USD and USD/CHF will enjoy a level of liquidity that will in most cases protect the trader from unfavourable market spreads and market conditions where liquidity dries up.
The following are examples of situations that might lead you to choose a particular currency pair to trade:
• Dollar weakness drives EUR/USD higher • US recovery and strong influx of foreign demand will send EUR/USD lower
• Japanese government intervention to weaken their currency sends USD/JPY higher • Gains in Nikkei and demand for Japanese assets drive USD/JPY down.
• High yield and attractive growth in the UK drives GBP/USD higher • Speculation about UK adopting the euro will send the GBP/USD lower.
• Global stability and global recovery will send USD/CHF higher • USD/CHF rallies on geopolitical instability.
When the USD is said to have gotten stronger, what happens to the other currencies in the Currency Pairs i.e. USD/CHF, USD/JPY, GBP/USD, USD/CAN, EUR/USD?
When the USD gets stronger, the other currencies all get weaker.
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Risk Disclosure: Trading forex on margin carries a high level of risk, and may not be suitable for all investors. The high degree of leverage can work against you as well as for you. Before deciding to invest in foreign exchange you should carefully consider your investment objectives, level of experience, and risk appetite. The possibility exists that you could sustain a loss of some or all of your initial investment and therefore you should not invest money that you cannot afford to lose. You should be aware of all the risks associated with foreign exchange trading, and seek advice from an independent financial advisor if you have any doubts.