How Geopolitical Risks Influence Investor Behavior in Currency Markets

This paper concludes that geopolitical risks do have influences the behavior of investors carrying out operations in the currency markets. These risks, which emanate from events like political instabilities, conflict, changes in governments policies among others lead to uncertainty. Therefore, investors adapt themselves in accordance to how they expect these risks to impact the future of international business, monetary system and the exchange rates.

In the case of Foreign Exchange, or Forex trading, in which participants buy one currency while simultaneously selling another, high volatility is both a risk and a potential. The currency values are a very volatile factor since they impact a country’s performance and the investors. During increases in geopolitical risk, for example during trade war, wars, or policy changes investors chase risk-free returns of their investments by moving their money to safer currencies or assets. For instance in critical moments you would like to invest in the US dollar because its value will likely increase due to high demand.

Geopolitical risks in Forex trading are normally short-term and are evidenced by the conditions affecting exchange rates in the short-run. A conflict in the Middle East for instance could see an increase in the price of oil and this influences the currencies of oil exporting nations. Likewise, changes in the election results, or big political decisions in nations with giant economies such as the United States, China, or the European Union will change the value of their money. They do this so that they are better positioned to respond to events that are constantly happening regarding the stocks they are interested in trading, watching keenly everyday for any clue as to any potential shift in the market as investors.

Also, geopolitics frequently results in capital fleeing to the safe havens, which are currencies seen as safe. Petroleum is one type of commodity that tends to rally during periods of elevated geopolitical tensions as is the Swiss franc and the Japanese yen with respect to currency markets. This behavior is attributable to the belief that these countries and their economies are quite stable and have relatively moderate vulnerability to external shocks than other nations.

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Forex, with being one of the most liquid and who is active 24/7, responds quickly to these changes. This is good news for traders who are able to use their knowledge about geopolitical risk to place their bets on the markets. But this also means that the market often tends to be rather volatile and currency rates can oscillate greatly within a short period of time depending on a headline or a rumor.

At the same time, geopolitics can matter permanently to currency markets despite its momentariness as a factor in trading. For instance, chronic trade disputes and entrenched conflict situations are capable of reducing investors’ confidence in a certain currency and hence the decline in that particular currency. This change in sentiment can alter long term capital mobility because investors start hunting for less risky higher returns.

Therefore, it can be stated that geopolitical risk factors are related to the investors’ actions in currency markets. When subject to political and economic events the volatility of these events impacts a lot on the value of currencies. In correlation with major elements of Forex trading, it is essential to know how these risks influence investors’ attitude and behavior in the market.