Monday, May 27, 2024

Risk

The term “Risk” refers to the market sentiment in financial markets where traders and investors take risks.

In a “risk-on” environment, you will notice increases in the prices of riskier assets such as stocks and commodities, while prices of safe-haven assets such as the yen and gold decrease.

The antonym of “risk-on” is “risk-averse”.

You will often hear markets described as “risk on” or “risk off”.

They are all shorthand for global market sentiment.

Risk On, RiskClose” is also known as “RORO”.

What is “risk”?

When market participants feel optimistic about the economic outlook. They will drive up the prices of risky assets.

That’s “Risk.

When you hear that traders are in “risk-on” mode, it usually means that they are buying risky assets, often using leverage.

What is “risk aversion”?

When market participants feel pessimistic about the economic outlook, or when unexpected super negative news comes out or increases future uncertainty, market participants will want to sell risky assets and buy safe-haven assets instead.

That’s “Risk Aversion”.

When you hear traders are in “risk-off” mode, it usually means they are reducing leverage, selling risky assets, buying “safer” assets, or even cashing out.

What is a typical “risky” asset?

For stock traders, stocks in industries that are more dependent on economic growth.

For bond traders, lower-rated but higher-yielding corporate and sovereign bonds are considered “risky” assets.

For Currency Traders:

  • Commodity currencies such as the Australian dollar, New Zealand dollar, Canadian dollar and Norwegian krone.
  • Emerging market (EM) currencies , such as MXN, ZAR, TRY, and BRL.

For commodity traders, industrial metals like copper and energy products like oil.

What is a typical “safe haven” asset?

You should expect a general decline in the stock market.

A good indicator is to look at U.S. stock indexes like the S&P 500 and the Dow Jones and see if they are both moving lower to confirm how strong the “risk-off” sentiment is.

“Safe-haven” assets would include U.S. Treasuries and German Bunds, as both are considered (almost) risk-free.

Among currencies, the Japanese Yen and Swiss Franc tend to rise as traders unwind carry trades.

An arbitrage trade is a transaction in which Japanese yen is borrowed at a low interest rate and then used to purchase higher-yielding (riskier) assets in other markets.

Gold prices typically rise while government bond yields fall.

If you want to learn more foreign exchange trading knowledge, please click: Trading Education.

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