When the ECB or Fed acts in the market, the reaction is not what most FX traders expect and trader Rob Booker explains why he thinks this is happening.

My guest today is Rob Booker.  We’re talking about what happens when the ECB intervenes in the euro--why it goes up. And why the Fed intervenes, the dollar goes down.  What is going on behind the scenes there?  Rob, that’s a weird thing that happens with these central banks.  What’s going on?

Well, everybody talks about these stimulus programs going on right now.  The European Central Bank is providing liquidity to the market in order to prop up the financial system in Europe and the US Federal Reserve is doing something very similar, trying to stimulate the economy by increasing the money supply.  So it stands to reason that wouldn’t each individual currency move in the same direction, based on these very similar policies, but the answer is actually no.  When the European Central Bank intervenes to increase the money supply, there is something very centrally important that’s going on. 

First of all, they’re protecting the political unity of the Eurozone with financial policy.  So they’re keeping the Eurozone solid.  Political stability is always good for a currency.  So the euro is going to beat up on a lot of other currencies when that happens.  Also, when the European Central Bank increases the money supply, what they’re really doing is putting cash into the banking system to prop it up, but they’re simultaneously also taking money out of the system in other areas. 

So there is a net effect that’s very equal and stable, whereas, when the Federal Reserve jumps in, they’re not trying to keep America politically stable and they’re not worried about sterilizing this fiscal stimulus, so they’re just flooding the system with money.  That’s very inflationary and it makes the dollar go down.  When the Europeans intervene, they’re stimulating the politics of Europe and they’re also not necessarily increasing the money supply.  So the euro is free to go up because it’s not worth less but the dollar continues to slide when that happens. 

Do you find that you’re trading the euro around these times the same way, you know, people are waiting for the Fed, people are waiting for the ECB now and trading the euro right around that time?

Yeah, like never before, the central banks of the world are guiding the world of currency trading like never before.  It used to be economic reports, Tim, and now, its monetary policy.  Like never before, traders are interested in interest rate differentials, stimulus policies.  They’re familiar with central banks taking bonds out of the market to increase the money supply.  They’re familiar with the fact that Greek banks and Spanish banks and Italian banks need money in the coffers to be propped up so that they don’t go under and this is like never before, we’re seeing interest in these economic releases that come out from the central banks. 

Alright, so how are you trading the euro going forward here in the final parts of 2012? 

So in the latter half of 2012, we have seen something really important happen.  We’ve seen Europe go right to the brink and for everyone to loose confidence in the euro and it almost reached the $1.20.  It didn’t get there, and then we saw Europe stand together and there’s a lot of trash talking about Europe, but they stood together politically.  They’ve stood together financially and the German courts, which everyone expected to just sort of have an upheaval against it all, have now thrown their weight behind the bailout plan as well.  So Europe is strong.  I’m pro-euro going into the latter half of 2012.

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