IB/MIB Application

Trading Interventions

INTRODUCTION TO INTERVENTIONS

One of the most interesting opportunities in the Forex market is trading interventions. These can provide an excellent opportunity for traders to profit as they often indicate that the true value of the currency is lower than it is currently being priced. Probably the most famous trade ever made was an intervention trade made by George Soros. This was the Bank of England’s attempt to protect the pound sterling value in the European Exchange Rate Mechanism during the early 1990's. When the intervention by the Bank of England ultimately failed Soros profited mightily. This guide to trading interventions will look at exactly what interventions are and how you can trade them for maximum profit.

INTERVENTIONS EXPLAINED

An intervention into the currency markets occurs when a central bank decides to intervene in their economy by employing their reserves to buy or sell their foreign currency assets. This is used to stabilise the value of their own currency. The central bank maybe attempting to either strengthen or weaken their currency depending on what policy outcome they are trying to achieve. The afore mentioned intervention by the Bank of England was an attempt to support their currency. The Japanese central bank on the other hand is well known for intervening to stop their currency from appreciating. The idea behind this is that a lower currency supports their exporters which has always been a central economic policy of Japan. One of the interesting things about interventions is that they are generally ineffective over the long run. While it is possible to temporarily arrest the long term trend of a currency, once the intervention has ended the long term trend tends to reassert itself. Interventions by the central banks are an attempt to combat the basic laws of supply and demand. The currency market is highly liquid and is probably the most pure example of supply and demand in economics. Even central banks with large reserves can quickly deplete them if they try and intervene against the basic laws of supply and demand.

TRADING INTERVENTIONS BASICS

If one currency falls sharply then it's counterpart will appreciate equally as fast. One way to trade an intervention is to position yourself prior to an intervention. And then profit when there is a price movement as a result of the intervention. Once the effects of the intervention are felt, the trader can exit the position. This does place the trader at some risk however. Essentially you are betting against the current market trend. You are also relying on the fact that the central bank will in fact intervene.

INTERVENTION INDICATORS

There are certain indicators you should look for when trading interventions. This indicators will signal that an intervention maybe about to take place and it is time to take a position. The first indicator is the same price level at which interventions occurred last time. This is only a general guide however as sometimes the central bank will decide not to intervene if they believe that the intervention will be too costly. Another indicator to look out for is speeches by finance officials from the country that is possibly about to intervene. They will often make announcements about possible future interventions. The speeches are often effective in arresting the general trend of the currency by themselves if market participants believe that the central bank is committed to backing up their words. The final place to look for information about the possible level at which interventions will occur is from analyst reports written by Forex analysts.

HOW TO TRADE INTERVENTIONS

When trading interventions you want to examine what the targeted price level of previous interventions was. This will give you a guide to what you should set you own exit levels at. You should also put a stop loss order in place so that if the intervention does not occur in the time frame that you thought you don't get caught on the wrong side of the overall market trends.

CONCLUSION 

Trading interventions can be a highly profitable way to trade the currency markets. It is a purely speculative play however and is not for the faint of heart. You are taking a position against the overall trend of the market. If the central bank does intervene it can mean quick profits. If it doesn't however the trade can quickly turn bad. The key to trading interventions is to have done your research before hand about the behaviour of the central bank in question. And to have a firm price target and stop loss orders in place.