As the Federal Reserve, Bank of England, and Swiss National Bank prepare to take action, it is critical that any trader knows how to adjust trading strategies to movements by central banks.
As these key institutions build up to center stage, this article will break down three effective trading strategies with regard to central banks in an attempt to guide the trader regarding potential market shifts during this time of heightened activity.
Understanding Central Bank Impact on Markets
Central banks have enormous influence over financial markets through interest rates and monetary policy decisions. The problem for traders is that they have no way of knowing which, if any, the central bank decision would affect the various classes of assets in a time of uncertainty. With lagging indicators being even more significant under the toolset of monetary policy, such as those contained in CPI reports, there is, in theory, a heightened likelihood of volatility. It is in this sense that this volatility can both be a risk and an opportunity for the trader in the state of preparation.
Three critical economic events will navigate our market trading this week:
- Eurozone CPI Release, on Tuesday: This report would give insight into the inflation trend in the union. Last month, CPI climbed to 5.3%. The European Central Bank (ECB) was expected to gain traction down almost to any level that could be considered supportive of their monetary policy strategy.
- Federal Reserve Meeting: The Federal Reserve will midweek come to a decision regarding continuing to tighten further with interest rates. In such a scenario, bullish momentum for equities is expected, even for the NASDAQ 100.
- Bank of England and SNB Decisions: Thursday’s announcements from these central banks will see the respective decisions made by both. Rates rise speculations are rife in the UK, with inflation building further. The SNB has been far less forthcoming and more circumspect with its intentions.
These events set up our trading strategies, allowing traders to make the most of movements triggered by the central banks.
The Solution: Three Central Bank Trading Strategies
1. Trading the Euro-CAD on CPI Reports
Trading Strategy Overview: The Euro-CAD currency pair tends to be a favorite play around major economic data releases. As the Eurozone CPI report is fast approaching, this has been a great time to position for a potential Euro movement.
How to Execute:
- Buy Position: If there is a drop in Eurozone CPI, reflecting easing inflation, then this Euro-CAD can be bought near a significant Fibonacci level of 142.61 or maybe a double bottom at around 143.
- Place the Stop Loss: Below the entry point on a targeted conservative profit based on historical price action and volatility.
Why It Works: This approach exploits the central bank’s actions with the announcements of CPI. Thus, a market participant can time his or her positions with the expected directional play from the release of the CPI report.
2. NASDAQ 100 Positioning with Federal Reserve Announcements
General Description: The price action of the NASDAQ 100 can be highly extreme following Fed announcements. Traders can play off of the price action by entering trades before and post the announcement.
How to Trade:
- Pre-Announcement Position: If market sentiment can be considered to be no rate hikes (currently priced at a 91% chance), go long on NASDAQ 100.
- Post-Announcement Strategy: Sit back and observe price action post-announcement. If it breaks through the recent high of 16,764, adjust your stop-loss to lock the profit and run.
Why This Works: This is a strategy based on Federal Reserve policy, and it can be used to capture stock market momentum.
3. Trading the GBP/CHF on Bank of England and Swiss National Bank Decisions
Strategy Overview: Typically, central bank announcements are when increased volatility has been seen in the GBP/CHF pair. A person needs to find a trading range and then jump when it breaks out.
How to Do It:
- Range Trading: Since the GBP/CHF has traded within a tight range, sell close to the yearly low (just above 110) if the decisions by central banks surprise the market.
- Stop Loss and Profit Targets: Tight stop loss placed just below the yearly low with a conservative profit target in the defined range.
Why This Will Work: The strategy takes advantage of the tight range at which GBP/CHF is currently trading and allows traders to profit off the breakouts without getting too exposed to potential breakouts.
Conclusion
The moves are complex and sophisticated. Therefore, a trader needs to be very keen on certain economic events that influence the market. Traders need to zero in on key economic events, such as the CPI releases and meetings with the central banks, and come up with specific strategies that correspond with and ride along the movement of the market. Whether it’s trading the Euro-CAD based on CPI data, positioning in NASDAQ 100 volatility around Federal Reserve announcements, or trading off a GBP/CHF range to navigate central bank announcements, these strategies offer structure within the market. The more informed and agile trader will always be ahead of the curve as central bankers continue to wrestle with inflation and employment pressures.
Take an exciting trading week, and stay focused on these central bank movements using the suggested strategies you have been applying during this evolving market landscape.
