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How Does the FOMC Affect Forex?
It’s a valid question: How does the FOMC affect forex?
What is the FOMC in the first place?
And how do FOMC decisions affect you as a forex trader?
All of these questions are answered here.
Let’s dive right in…
How does the FOMC affect forex: What does the FOMC do?
FOMC stands for Federal Open Market Committee. It sits within the Federal Reserve System, which is the central banking system of the United States. But forex traders just refer to it as the Fed.
The Fed makes key decisions about the growth of the US economy. In other words, the buck stops here with regard to the United States’ monetary policy decisions.
The Fed meets eight times a year to discuss monetary policy issues. In these meetings, the board looks at various aspects of the US economy, like employment data and inflation – things that impact forex markets.
Ultimately, the Fed is trying to figure out where the US economy has been, where it is right now, and also where it might go.
This is a big task.
So, how does the FOMC affect forex?
Before we answer that question, just know the main task of the Fed is to find ways to balance the US economy. It uses interest rates and quantitative easing (money printing) to do this. Most people don’t understand quantitative easing, so read on…
Quantitative easing and the taper tantrum
What exactly is quantitative easing? It’s simple. It’s money printing.
The Fed creates money out of thin air and buys treasuries, bonds and other types of debt with it. The Fed’s aim is to stimulate lending and investment, and the overall economy, by injecting money into the economy.
At least that’s what it should do…
Money printing doesn’t stimulate the economy. It just inflates asset prices (i.e. the stock market) and reduces bond yields.
The Fed is trapped, by the way. It can’t stop printing money, unless it wants the market to have a heart attack. The taper tantrum is a good example…
In 2013, the Fed announced a tapering/unwinding of the amount of money it had been pumping into the economy for the past five years through money printing.
What do you think happened?
Investors immediately started selling bonds. As a result, US Treasury yields went through the roof and the stock market corrected.
This could happen again, mind you.
The importance of the FOMC meeting minutes
Make note: Any serious forex trader needs to pay close attention to what the Fed’s doing. When the FOMC publishes its latest statement and meeting minutes, you need to study them.
Why? Because you can make a lot of money by trading the bias in these minutes.
The Fed publishes a statement immediately after every FOMC meeting, followed by the full minutes of the meeting three weeks later.
When the Fed publishes its statement, the entire market looks for ‘clues’ about what it’s going to do. The statement often is a great trading opportunity for forex traders. The Fed has two main weapons in its arsenal, if you didn’t know:
- Influencing the amount of money in the market.
- Increasing or decreasing interest rates.
If the Fed gives any clues around these topics, the market goes in one direction (either up or down) immediately after…but there are trading opportunities throughout the day.
The minutes provide a more in-depth look into the rationale behind policy decisions made by the FOMC. Fundamental forex traders analyse FOMC minutes to figure out what members of the board are thinking, and potentially cash in on those insights.
How does the FOMC affect forex: Outcomes from FOMC minutes
When you’re looking at FOMC meeting minutes, you won’t find the Fed’s plans written in definitive statements per se. What you’re looking for is the underlying sentiment.
Reading between the lines of ‘Fed speak’ is a priceless skill. The wording will reveal a lot. The media often writes articles on what the Fed is thinking, which makes it easier.
But there are two main outcomes from FOMC meetings that have a major impact on the forex market. Consider these when you trade and you’ll significantly improve your win rate.
The FOMC can either take a hawkish or a dovish stance. It’s absolutely vital that you understand this because it directly affects your trading decisions. Sometimes – and often – the Fed changes its mind either way. That’s when the best trade opportunities come around in the forex markets.
What is a hawkish stance?
A hawkish stance by the FOMC means that the board is positive about the economy. For example, it’s concerned about rising inflation. Such a position may see a tightening of the money supply and an increase in interest rates in the future.
Remember, forex traders need to keep a keen eye on changes in the FOMC’s stance. Currencies tend to move a lot during this period.
Let’s look at an example…
In mid May 2021, the Fed released the minutes from the FOMC meeting held in April.
The XAU/USD pair – the gold price – was testing three-month highs at the time of the release. It had also been bullish on three consecutive candles on the daily chart.
The FOMC minutes revealed the Fed was adopting a hawkish stance. The market reacted instantly…
XAU/USD wiped out all the daily gains and closed the day around breakeven. If you entered a sell position on the lower time frame when the minutes were released, you would have made a fortune.
What is a dovish stance?
A dovish stance is exactly the opposite.
Here the FOMC has a negative bias about the economy. So, it talks about reducing interest rates and increasing money printing. The aim is to stimulate the economy.
The big question: How does the FOMC affect forex and how can you trade the FOMC in forex?
Your ‘Start With Forex’ Takeaway: How does the FOMC affect forex?
Trading with the Fed is a breeze. You just need to know what to look for…
Consider the language in the FOMC meeting minutes and try to figure out where the mood lies.
A hawkish stance probably means the US dollar is going higher, so get bullish. A dovish stance will most likely result in the opposite…
But remember, you shouldn’t enter these trades blindly. It depends on the situation, at the end of the day. Read the market.
There’s no hard rule, or every forex trader would be a billionaire.
Focus on the trading the basics, which is what we cover in our free forex course. Remember, trading during major news releases can be risky. It can lead to massive losses if you don’t know what you’re doing.
If you want to learn how to trade forex like a professional, start by reading our FREE forex course. Remember, there’s a million ways to make a million bucks in the forex markets. So if you want a head start in forex trading, alongside our free course, check out our approved products page for forex trading signals and systems to help kick start your trading.
To your trading success,
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