Matt Weller, CFA, CMT
Faraday Research
Background:
Traders often discuss how ‘month end’ flows may impact a currency or a currency pair during the last few day(s) of the month. These flows are caused by global portfolio managers rebalancing their existing currency hedges. If the value of one country’s equity and bond markets increases, these money managers typically look to sell or hedge their elevated risk in that country’s currency and rebalance their exposure back to an underperforming country’s currency. The more severe the change in a country’s asset valuations, the more likely portfolio managers are either under- or over-exposed to certain currencies.
In order to predict these flows and how they impact FX traders, we’ve developed a model that compares monthly changes in total asset market capitalization in various countries. In our model, a relative shift of $400B between countries over the course of a month is seen as the threshold for a meaningful move, whereas monthly changes of less than $400B can be easily overwhelmed by other fundamental or technical factors. As a final note, the largest impact from month-end flows is typically seen heading into the 11am ET fix (often in the hour from 10 & 11am ET) as hedge and/or mutual fund portfolio managers scramble to hedge their overall portfolio ahead of the European market close.
Global market volatility was relatively subdued in August as Northern Hemisphere traders tried to soak the last of the summer’s rays. That said, US stock and bond markets generally strengthened over the course of the month, adding $151B in total market cap, whereas European markets generally trailed behind, shedding $197B in value.
As a result, the model’s strongest signal is bullish on the EURUSD, though that signal still does not quite meet our +/- $400B threshold for a meaningful move. The other major currency pairs generally fail to exceed even +/- $200B change in relative market cap, so traditional fundamental and technical factors are likely to be the most important factors to watch heading into the weekend.
Source: FOREX.com
This research is for informational purposes and should not be construed as personal advice. Trading any financial market involves risk. Trading on leverage involves risk of losses greater than deposits.
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