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Discussion Starter #1 (Edited)
Hi all,

Well, I could just search the internet and find my answers, but I was wondering...

I'm not sure about everything I'm gonna say, it's just my interrogations before looking up for information on the internet.

Let's say 1 USD = 1.35 CAD and 1 EUR = 1.55 CAD. Therefore, to be fair, 1 EUR = 1.15 USD.

Now, how does this moves up and down? Because let's say I'm a trader with a huge amount of CAD and I think that USD is worth more, so I buy 1 USD at 1.40 CAD. Does this make the USD go up or the CAD go down?

I asked myself the difference between USD going up vs CAD going down? Well, if my trade has made the value of USD go up, then people with EUR wanting to buy USD will have to pay more, meanwhile people buying EUR with CAD will pay the same. Though, if my trade has made the value of CAD go down, then people with EUR wanting to buy USD will pay the same, meanwhile people buying EUR with CAD will have to pay more.

I haven't slept enough lately, maybe I'm missing something obvious...

Thanks.
 

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Discussion Starter #3
Thanks but I still don't get the math because what's particular with currency trading is that they are all related one to the other and a single trade is both viewed as buying & selling at the same time.

In stock trading, if I buy AAPL, it doesn't affect AMZN. If I buy a stock at a higher price than its current market price, the stock value increases and all holders of the stock can now sell at a higher price. It's bullish on the stock value. It's easy to understand.

In currency trading though, if I buy USD for more CAD than its current value, it also means that someone is buying CAD for less USD than its current value, it also means that I'm selling CAD for less than its value, it also means that someone is selling USD for more than its value. So... is it increasing USD value or is it decreasing CAD value? Is it bullish for USD or bearish for CAD?
 

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This is a good question. I don't know how to answer this.

Currencies are entirely relative to one another. Because it's relative, it's always quoted as a currency pair. If USD/CAD is at 1.35 and you buy a ton of USD and the price goes up to 1.36, all you are observing is a change in the relative value between these two currencies -- it's not a statement on the absolute value of either one.

There is no standard reference basis, so I don't think you can say the "USD is increasing" or "CAD is decreasing" versus some external basis. Instead, USD is increasing versus CAD only, which is the meaning of USD/CAD going up.

If your currency basis is CAD, and you're buying USD, then you are selling CAD and buying USD. My understanding is that this is not bullish for USD in general. Rather, it's only bullish for "USD vs CAD" aka USD/CAD pair.
 

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Discussion Starter #5 (Edited)
Yes, I didn't talk relative to keep it simple, but even when using relative as it is traded, my question remains.

Let's say there's only 3 currencies in the world : USD, CAD, EUR.

If USD/CAD is 1.3500 and EUR/CAD is 1.5500, therefore EUR/USD is 1.1481 to stay fair.

If I'm a mega-billionaire and I buy lots of USD with CAD and USD/CAD becomes 1.40, then there's still two options :
  • EUR/CAD stays 1.55 therefore EUR/USD has to decrease to 1.1071 to stay fair OR
  • EUR/USD stays 1.1481 therefore EUR/CAD has to increase to 1.6074 to stay fair
Which one would happen? The first case means USD has increased its relative power over all currencies. The second case means the CAD has decreased its relative power over all currencies.
 

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Discussion Starter #6
In fact, those are the two extreme cases, but there's an infinite number of possibilities.

The effect of increasing USD/CAD to 1.40 could also mean that USD has increased AND the CAD has decreased and therefore EUR/CAD increases a bit to 1.5787 and EUR/USD decreases a bit to 1.1276 and everything is fair with USD/CAD now at 1.40

That way, the effect of the trade is equally shared on the relative power of each traded currency (the relative power of USD over all currencies has increased as much as the CAD relative power has decreased over all currencies).
 

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Discussion Starter #7 (Edited)
Ok, so this is my current understanding and now it makes sense.

If I focus my analysis on USD, we know that its ratio compared to other currencies is either increasing (bull) or decreasing (bear). Now, even if the USD/CAD is increasing, maybe the USD/EUR is decreasing. Is it because USD gained power but EUR gained even more power? Is it because CAD loss power while EUR gained power? Is it because USD loss power but CAD loss even more power? Who knows.

That's why they created the US Dollar Index. It's tracking the overall power of US over the main currencies. It's weighted to factor in how much money is being traded. U.S. Dollar Index - Wikipedia

That way, one can have an idea of the power of the USD relative to the world's major currencies.

I'll show you a scenario just to explain a bit more what I was trying to say/understand in my previous posts.

20362


In the first table, highlighted in grey are the current ratios for these 3 currencies. First, one should notice that they are not being fair in-between them at the moment.
  • If USDCAD is 1.3573 and EURCAD is 1.5516, then EURUSD should be 1.1432 to be fair. Therefore, one should buy EUR with USD.
  • If USDCAD is 1.3573 and EURUSD is 1.1430, then EURCAD should be 1.5514 to be fair. Therefore, one should buy CAD with EUR.
  • If EURCAD is 1.5516 and EURUSD is 1.1430, then USDCAD should be 1.3575 to be fair. Therefore, one should buy USD with CAD.
But since there's more than 3 currencies in the world, it's a bit more complex than this. And the difference is less than 0.02%, so I guess there's not really any money to make there from the lack of fairness.

On the second table, I highlighted in light green a small increase in USDCAD ratio. Then, for the currencies to be fair, either EURCAD should increase (bearish for CAD) or USDEUR should increase (bullish for USD). Since things are not black or white, what will truly happen will be something in-between depending on the bullish and bearish sentiment resulting from that increase. Where it will be on that spectrum will depend on EUR's personal sentiment over CAD and USD.

Again, since there's more than 3 currencies in the world, it's a bit more complex than this.

The conclusion is that each trade between pairs is part-bullish on one currency, part-bearish on the other currency. Also, one should note than US Dollar Index increases during recessions.

By the way, the quote notation is a bit confusing. When they say USD/CAD is 1.35, I would normally read that it takes 1.35 USD per 1 CAD. I mean, if your speed in km/h is 50, that means your speed is 50 km per 1 hour. But instead it should be read that you have 1 USD per 1.35 CAD. That's like if I would say that your speed in km/h is 0.02 because your speed is 1 km per 0.02 hours... At least they've put a clarification in parenthesis that (CAD=X) meaning that CAD=1.35 to get 1 USD, but still...
 

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In stock trading, if I buy AAPL, it doesn't affect AMZN. If I buy a stock at a higher price than its current market price, the stock value increases and all holders of the stock can now sell at a higher price. It's bullish on the stock value. It's easy to understand.
There's more to it, but this analogy needs some tweaking. Imagine that all stocks needed to be purchased in units of AMZN. So to buy AAPL, you are giving the seller AMZN stocks. The more people are buying AAPL, the less valued AMZN is, so it goes down.

Does that help a little more?

There are obviously more nuances and factors when it comes to currency valuation, but the fact of the matter is that all currency value is based on relative value to other currencies.
 

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Discussion Starter #9
There's more to it, but this analogy needs some tweaking. Imagine that all stocks needed to be purchased in units of AMZN. So to buy AAPL, you are giving the seller AMZN stocks. The more people are buying AAPL, the less valued AMZN is, so it goes down.

Does that help a little more?

There are obviously more nuances and factors when it comes to currency valuation, but the fact of the matter is that all currency value is based on relative value to other currencies.
Yes, that makes sense. Also, I've just edited my post above explaining my understanding and now I think everything makes sense.
 

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The effect of increasing USD/CAD to 1.40 could also mean that USD has increased AND the CAD has decreased
I think you are correct here and the effect is shared on both sides of the equation. This likely applies to a big purchase/sale without a change in sentiment. But if USD strengthens due to people feeling bullish about USD, then USD would strengthen against other currencies and CAD will not change much against EUR.
 

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You should just view currencies in terms of supply/demand vs each other. Then just treat them like anything else on a S/D curve. More demand, D curve shifts up, price (P) rises. More supply , S curve shifts down, P falls.

Then if you want to understand exchange rates ( most are floating) there is an equation to calculate how the exchange rates will change based on inflation, growth and interest rate differences between 2 countries.

The country w the higher interest rates for ex will have more demand for its $ ( to buy interest bearing securities - bonds etc) . If it raises its rates, the exch rate will adjust (more demand pushes P up until a new P is reached (for the new demand) and its currency will cost more through the exch rate.

This is the same for gdp growth - if gdp rises in one country vs the other, it raises demand for its currency ( to buy stocks and other inv etc) . For inflation it is the reverse. More inflation, less demand P falls.

If you understand those relations you can understand all currency moves
 

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Discussion Starter #12
TL;DR (About my previous long post)

Basically, a simplified way to see it is that that if every currency is buying USD for more than its current worth, then the USD is gaining power, but if one currency is buying USD for more than its current worth (while all other currencies don't), then that specific currency is losing power.
 

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Discussion Starter #13
You should just view currencies in terms of supply/demand vs each other. Then just treat them like anything else on a S/D curve. More demand, D curve shifts up, P rises. More supply , S curve shifts down, P falls.

Then if you want to understand exchange rates ( most are floating) there is an equation to calculate how the exchange rates will change based on inflation, growth and interest rate differences between 2 countries.

The country w the higher interest rates for ex will have more demand for its $ ( to buy interest bearing securities - bonds etc) . If it raises its rates, the exch rate will adjust (more demand pushes P up until a new P is reached (for the new demand) and its currency will cost more through the exch rate.

This is the same for gdp growth - if gdp rises in one country vs the other, it raises demamd for its currency ( to buy stocks and other inv etc) . For inflation it is the reverse. More inflation, less demand P falls.
True, that's the bigger picture : simply buy the currency which will worth more for your investment.

I was just trying to point that an increasing USDCAD ratio doesn't necessarily means that USD is gaining power and that one should buy USD with CAD (buyer's point of view), because it could just mean that CAD is losing power (seller's point of view) and that one should look for the currency which is gaining the most power over all other currencies.
 

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True, that's the bigger picture : simply buy the currency which will worth more for your investment.

I was just trying to point that an increasing USDCAD ratio doesn't necessarily means that USD is gaining power and that one should buy USD with CAD (buyer's point of view), because it could just mean that CAD is losing power (seller's point of view) and that one should look for the currency which is gaining the most power over all other currencies.
Whatever currency you buy you raise the price of the currency. If you are selling CDN $ to buy US you are devaluing the CDN $ and pushing up the price of the USD at the same time

Again though the real moves are based on much larger factors. Like the US deciding to lower its interest rates will cause the CDN $ and other currencies to to rise against the USD. Don't overthink this
 

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...because it could just mean that CAD is losing power...
In that case CAD will lose against the EUR too, but USD will stay the same against EUR. This would be the case if investors were fleeing the CAD due to some situation regarding the Canadian economy.
 

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Discussion Starter #16
Whatever currency you buy you raise the price of the currency. If you are selling CDN $ to buy US you are devaluing the CDN $ and pushing up the price of the USD at the same time

Again though the real moves are based on much larger factors. Like the US deciding to lower its interest rates will cause the CDN $ and other currencies to to rise against the USD. Don't overthink this
Yes, thanks, that confirms how I understood currency trading. It's both buying and selling at the same time, so it's both bullish and bearish. Then, how much bullish vs bearish it is will depend on other currencies' sentiment over each of the two traded currencies.
 

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Discussion Starter #17
In that case CAD will lose against the EUR too, but USD will stay the same against EUR. This would be the case if investors were fleeing the CAD due to some situation regarding the Canadian economy.
Exactly.
 

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Discussion Starter #18 (Edited)
There's more to it, but this analogy needs some tweaking. Imagine that all stocks needed to be purchased in units of AMZN. So to buy AAPL, you are giving the seller AMZN stocks. The more people are buying AAPL, the less valued AMZN is, so it goes down.

Does that help a little more?

There are obviously more nuances and factors when it comes to currency valuation, but the fact of the matter is that all currency value is based on relative value to other currencies.
Actually I think I understand better your example at the moment.

We could think that AAPL is a currency. You "sell" your USD in order to buy AAPL "currency" because holding that "currency" is expected to grow in value, more than holding your USD. If ever your AAPL "currency" start crashing, you will sell your AAPL "currency" in order to "buy" USD which is expected to maintain its value better than the crashing AAPL "currency". Basically the same analogy.

The only difference is that since AAPL is not really a currency, it's not the same asset category, so buying AAPL doesn't depreciate USD, as opposed to buying other currencies will depreciate USD. But when talking stock-to-stock, well if you sell AAPL to buy AMZN, you are decreasing AAPL value in order to increase AMZN value. Same thing for currency-to-currency, except that it's a direct transaction, while stocks need a middleman which is cash.

Hmm... actually I'm just repeating the same analogy of yours... but anyways, I just wanted to say that I understand your analogy, thanks!
 
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