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Trading in the off exchange retail foreign currency market is one Df the riskiest forms of investment available in the financial markets and suitable for sophisticated individuals and institutions. The possibility exists that you could sustain a substantial loss of funds and therefore you should not invest money that you cannot afford to lose

Trading in the off exchange retail foreign currency market is one Df the riskiest forms of investment available in the financial markets and suitable for sophisticated individuals and institutions. The possibility exists that you could sustain a substantial loss of funds and therefore you should not invest money that you cannot afford to lose

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Other Kathy Lien articles:

"Forex trading:

Understanding the currency market"

Active Trader, July 2004. What makes currencies tick? Find out which economic factors help shape the short-term and long-term forex landscape.

"Getting a lift from the carry trade"

Currency Trader, October 2004. Correctly assessing the risk environment paves the way to capitalizing on the interest-rate differentials between currencies.

"Volatility-based currency trading"

Currency Trader, February 2005. Market volatility can be a complex subject, but understanding a few basic principles can help you implement strategies to capitalize on volatility extremes.

"Dollar-yen:

The year's hottest carry trade"

Currency Trader, August 2005. When trading currencies, you're essentially dealing with the relationships between countries and their economies. The interest rate differential between countries plays a pivotal role in deciding which currencies to buy and which to sell. The carry trade is designed to capitalize on the relationship between two countries' interest rates and currencies.

"Interest rate shuffle"

Currency Trader, February 2006. Interest rates are a key forex market catalyst, and from the U.S. to Japan, some central banks are poised to adjust their interest-rate policies.

Note: The five articles listed above are also available at a discounted price in the "Kathy Lien Currency Collection."

"Market-moving economic reports"

Currency Trader, October 2006. The payrolls number is no longer the king of the hill when it comes to reports most likely to move currencies.

"Optimizing FX range trading"

By Kathy Lien and John Kicklighter Currency Trader, April 2007. Using time and interest-rate spread filters improve your odds of profiting from range-bound markets.

You can purchase and download past articles at http://www.activetradermag.com/pur-chase articles.htm.

might not be the healthiest behavior. As the Federal Reserve begins to lower interest rates (reducing the dollar's attractiveness), global investors will begin looking elsewhere for yield. At that time, the cur-

FIGURE 3 — POUND-DOLLAR

The UK's central banking policies and business environment bode well for the pound in the months to come.

FIGURE 3 — POUND-DOLLAR

The UK's central banking policies and business environment bode well for the pound in the months to come.

FIGURE 4 — AUSSIE DOLLAR-U.S. DOLLAR

The Australian dollar's recent sell-off may simply mean the currency is a relative bargain, given the still-strong fundamentals underlying it.

FIGURE 4 — AUSSIE DOLLAR-U.S. DOLLAR

The Australian dollar's recent sell-off may simply mean the currency is a relative bargain, given the still-strong fundamentals underlying it.

Source: TradeStation

rencies that outperform the U.S. dollar will be those of countries that are still raising interest rates, keeping them steady, or lowering them far less aggressively than the Fed.

Also, if the problems in the U.S. exacerbate, a recession would be a big drag on the U.S. dollar. Unfortunately, the worst is not behind us. The credit squeeze could take a big bite out of corporate profitability by increasing the cost of borrowing. We have already seen a rise in layoffs and hiring freezes in many sectors of the economy. Financial companies will take the biggest hit: Many hedge funds and mortgage lenders have either filed for bankruptcy or closed up shop as a result of the credit and sub-prime debacle. The flight to safety should benefit the dollar in the short term, but the problems in the U.S. economy will catch up to it in the long term.

Crown jewels: Best-performing pairs vs. the U.S. dollar

The British pound (Figure 3) and the Australian dollar (Figure 4) should be the best-performing currencies against the U.S. dollar as the Federal Reserve cuts interest rates. Even without any liquidity injection by the Bank of England (BOE), the UK economy has been holding up extremely well, with both its housing market and domestic demand remaining relatively steady.

As of late August, the market was still looking for one interest-rate hike from the BOE by the end of the year, taking the rate up to 6 percent. The BOE has long been one of the most effective central banks in the world because of its lack of commitment to a multi-year monetary policy cycle; it is willing to respond quickly to economic fluctuations. Also, the UK's business-friendly policies have made its companies and financial markets the preferred destination for cross-market mergers and acquisitions, which in previous years has helped prop up the British pound even when growth was beginning to slow.

The Australian dollar should outperform the U.S. dollar for several reasons. First, the Aussie economy remains relatively strong. The unemployment rate is holding near a 33-year low, which has fueled strong household consumption and healthy business activity.

Second, the recent Aussie dollar sell-off should benefit Australian exports. Between July 25, 2007 and Aug. 17, 2007, the Australian dollar fell nearly 1,200 pips, or 13.5 percent. As an export-dependent economy, the currency's sharp fall should help boost global demand for Australian exports. China, which has been relatively insulated from the liquidity squeeze and credit crisis, has been a big buyer of Australian commodities over the past few years. This demand should only grow given the recent fall in the Australian dollar.

Limiting leverage in volatile times

There will be plenty of trading opportunities in the currency market now that volatility has returned. However, the recent financial market fallout is a reminder that anything in excess is bad. This is as true of trading as it is of food.

Limit leverage and risk and you will be able to survive in the market for another day. Currencies are no more volatile than equities or futures. It is only leverage that makes things more risky, but the beauty of leverage is that it is customizable. You can use as much or as little as necessary. O

For information on the author see p. 6.

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