12. Currency exchange

Trading currency is more difficult than trading a stock.  Notes written below were based on historical facts. Will it repeat or not? It’s hard to say.

In stock investment, we only need to follow finance statement and business performance of a company. Most of the time, if a company made profits better than forecast by a stock analyst, its share price would go up. If a company didn’t perform well, its share price would drop.

The only time that stocks went down unreasonably would be during a recession, when all stock investors dumped any stocks in the market. However, during recession period [1-2 years] after the central bank declared that their country was in a recession, this would be a best time to buy stocks. Stocks would be double or higher quickly within a year when the country was out of recession.

Currency of a country is tied to its economy, not really about interest rate set by its central bank. For example, during the time USD was traded at par or CAD = 0.9X USD and Federal Reserve [US central bank] set the rate at 0%-0.25%. US have crunched out 200,000+ jobs in many months in a row during this period [around 2013-2014 years]. Currency traders have jumped in to buy USD regardless of unchanged exchange rate in USA. Russia’s central bank set rate at 5% or above at that time, but Russian Ruble [Russian currency] kept falling.

During the time CAD traded at par [$1 CAD = $1 USD or $1 CAD = $0.9X USD], Canadian economy didn’t do well, because Canadian products turned out to be more expensive to other consumers around the world. For example, a product cost was $80 CAD. This product was sold at $100 CAD = $100 USD at par exchange rate. It was more expensive that the same product $100 CAD = $80 USD for the exchange rate $1 CAD = $0.80 USD. In both cases, this Canadian company made $20 CAD profit regardless of the exchange rates. This company was paying its employees in Canadian dollars, thus having profits in Canadian dollars was fine. Unless it made lots of purchases of international products, USD cash inflow would be a critical factor.

Canadian companies couldn’t do well during higher currency value, so did the economy. Reports would come out negatively by the central bank and its government, i.e. deficits due to lower tax revenue. Canadian dollar would be traded lower as compared to other currency including US dollar.

Buying/selling USD because it’s was traded low or high as compared to CAD would be a difficult guess. However we do travel to USA sometime, thus we would buy USD regardless of the exchange rate at that moment.
If you wanted to know if USD was traded low or high, you must know all economic events or important events in the world to interpret the currency conversion chart. For example, take a look at this currency conversion for the last 5 years at 

http://www.xe.com/currencycharts/?from=USD&to=CAD&view=5Y  

During 2014, US economy outperforms Canadian economy with many 200K+ jobs in many months, thus USD went up sharply or CAD went down quickly.

At the end of 2016, Republican won the US election, and traders believed that Republicans would do better for US economy, thus USD went up sharply.

Take a look at 1 year chart

http://www.xe.com/currencycharts/?from=USD&to=CAD&view=1Y

Perhaps, since the beginning of May 2017 US people and media talked about Trump’s negative issues and problems. US economy also didn’t perform well due to higher valuation of their currency.  USD value has gone down as a result.

Taking the average of currency exchange for a long period of time would give us a guess about how a currency would be exchanged. From a 2-year chart below, we would see the USD exchange rate was stable around $1.31 CAD, i.e. $1 USD = $1.31 CAD (a guess) would be a reasonable exchange rate accepted by many currency traders.

http://www.xe.com/currencycharts/?from=USD&to=CAD&view=2Y

There was an exception about higher USD. There are 350 million of Americans used USD in daily transactions regardless of its valuation, thus it didn’t create huge issues for many US business. Business in other countries relies more on its lower exchange rates to perform well.

In any international panic events, traders and investors would park their cash in US dollars, thus USD would go up.

There are investors out there with billions of US dollars to invest. Thus they’re likely the one that decides if a stock was at the bottom if they decided to buy. If they decided to sell, it’s likely that the stock would slide down quickly.

The same paths would happen to currency exchanges.

* September 23, 2017: Looking back at historical data or economy, I think, Canadian dollar was fine in the range $0.75 USD - $0.85 USD.

The last time it was traded at par with US dollars was due to housing crisis in USA. It wasn't because of strong Canadian economy. [Somehow oil was traded high during that time frame.] Traders avoided USD and jumped in other currencies.

So, Bank of Canada could raise interest rates further up. Traders preferred US dollars anyway. Historically Canada interest rate was 0.5% - 1% higher than US interest rate, but they all jumped in USD, so CAD was traded in the range $0.65 USD - $0.75 USD.

- 2017-09-23: 1 CAD = $0.81 USD and BoC's rate = 1%. Traders are yelling the last increase in September 9, 2017 has caused CAD going up. However this was due to stronger Canadian economy and uncertainty in USA.

- 2017-09-23: Increase the rate to its target at 4% would help BoC getting back tool to use (decrease) during the next recession as well as cooling down bubble housing market in Vancouver and Toronto. With rates close to zero, the housing market has been up between 10% - 25% for many years in a row.

The myth about higher rate caused higher value of currency was wrong. Canadian economy is performing better than US economy at the moment. Donald Trump was also creating uncertainty in USA. Currency traders would jump back to USD at anytime even though BoC's rate going up.

* Open historical data during the tenure of former PM Jean Chretien and Finance Minister Paul Martin, you would see the Canadian dollar dipped under $0.65 USD even though Canadian economy was strong as Canada paid down national debts and its interest rate was also higher than US rate (probably 1% higher).