Trading the Central Banks – The Rhetoric

Last Update: August 21st, 2019

A few weeks ago, we wrote an article with strategies on how to trade the Central Bank’s actions. As we said there, the Central Banks have all the tools to devalue or appreciate their respective currency and they use them whenever they think the economy needs a leg up. We explained how to trade the ‘knee-jerk reaction’ (an interest rate cut or hike is delivered), how to trade the aftermath, and then we concluded with explaining how to trade the real impact that the event might have in the longer term.

But actions such as the QE program, where the Central Banks inject money into the economy, cut/hike interest rates and negative deposit rates etc., are not the only tools the Central Banks have in their kit. They also use the ‘rhetoric’ tool, and a lot of it. They deliver messages to market participants and move the market through nearly monthly press conferences, meeting minutes and other sporadic comments. In fact, quite often the market moves more based on the comments from central bankers than on their actions.

Sometimes, when an action is done by the Central Bank it doesn´t impact the market at all because it has already been priced in based on the comments leading up to the event. Such a thing happened in early December 2015, when the ECB cut the deposit rates by 10 basis points (bps) and added extra cash to their QE program. Interestingly, the Euro didn´t decline – instead, it reversed and gained about 5 cents in the next few days. That was because everything was priced in based on the many comments that the members of the ECB had already given in the two months leading up to the event.

If you read the CB comments right you can make plenty of pips

Scalping the comments

The comments from the central bankers are perfect for scalping. It is called ‘scalping’ because you get in and out of a position in a few minutes or even seconds, but the amount of pips that you can make is a lot bigger than normal scalping during normal times. In order to do so you have to check the agenda of the members of the Central Banks every morning and keep an eye on forex news websites such as: forexlive.com, fxstreet.com etc., which post short updates about news related to forex; there´s plenty of them. You can also follow financial newspapers like Reuters, Financial Times, Bloomberg etc. or channels on Twitter.

When the central bankers comment on the monetary policy the first reaction of the price action is to go with the comment. For instance, if the comment is dovish, the related currency will quickly move down, if it´s hawkish it will shoot up. Just a few hours ago, ECB president Draghi spoke briefly at a conference. His comments were almost calm, so the first thing that comes to mind is that the Euro will go down – and that´s precisely what this currency did! The Euro declined about 150 pips against the US Dollar, from 1.0920 to 1.0770. I managed to get in somewhere half way and closed just above 1.08, which is a resistance level, making about 60 pips.

This is the first part of scalping the news, the second part occurs during the reverse. EUR/USD dipped shortly below 1.08 but quickly surfaced back above that level, which is a sign that a reverse, or at least a substantial retrace ,might follow before moving back down. So, this time I bought the Euro just above 1.08 and made about 40 pips as it retraced up. As you can see, there are plenty of pips to be made scalping the comments of the Central Bank’s members but you have to be fast.

To learn more about the basic scalping strategy: Scalping – Forex Trading Strategies

For more on how to use news releases to your advantage: Trading the News – Forex Trading Strategies

Short-term trading of the comments

Short-term trading of comments consists of holding the trades for a few hours or up to a few days so you can reap all the benefits from them. After the first reaction and the retrace, the market usually makes another move or two in the direction of the first move. For short-term trading, you have to be a little more experienced and look for clues and messages within the comments.

One such occasion was the press conference by FED chairwoman Yellen in March 2015. The market had long-awaited the FED to begin a series of interest rate hikes. At first thought, you´d think that EUR/USD would dive below parity given the strong downtrend in EUR/USD and diverging monetary policies between the ECB and the FED. But the little comments within the FOMC statement painted a bearish picture. As a result, this pair entered a period of slow uptrend, peaking at 1.17 from the 1.0450s.

But what did the small comments say? Well, they said that the rate hikes would come when the inflation picked up and the trend was driven by the decline in energy prices. They also said that they wanted to see sustained improvement of the US economy. At that time though, the US was going through a period of weakness due to a harsh winter.

The USD lost about 600 pips when the FED delivered a dovish statement

Long-term trading of the comments

The long-term effect of the comments of the Central Banks is the real trade. Sometimes the market might misinterpret the comments for a short period of time and it is possible to see some strange price action in the short-term. Yet in the long-term, the market always goes in the right direction.

There are times when one single comment or announcement drops like a bomb sending a currency tumbling, such as the comment from the ECB president Draghi on May 2014. He announced that the ECB would start a quantitative easing program (QE) and the Euro hasn´t looked back since. The Euro kept declining against all majors, particularly the US Dollar, and by the time the QE actually started, most of the move had already been priced in.

There are other times when the sentiments are formed week after week based on many small comments. A good example is the 10 cent upward move on the part of the US Dollar from October to December 2015. The FED disappointed the market in September when they didn´t hike the interest rates. However, starting in October, the rhetoric of FED members began to increase, with small comments here and there about how appropriate and important it is to start raising the rates. The market got the hint and the USD rose about 10 cents until December when they actually hiked the rates and priced in, and so the USD only gained about 100 pips.

Understanding the long-term effect of the Central Bank rhetoric is easy. Even if you don´t know much about fundamentals, there are hundreds of websites with analyses and opinions from professionals who explain everything. The problem here is patience. You have to have nerves of steel in order to hold positions for months and even years in order to reap all the benefits, but it can be very profitable once you have worked on this virtue.

As you can see, there are thousands of pips you can make trading the comments of the Central Banks. The comments from the members of the Central Banks set the tone of the market for their own currency. It´s likely that if you miss the comments, there won´t be many pips left for you when the Central Bank actually takes action in the form of a rate hike/cut or starting the QE. You can scalp 50-100 pips in a matter of minutes, or trade short-term for hundreds of pips, or trade in the long-term for thousands of pips. Whatever strategy you chose, if applied correctly it can be very profitable.