Risk On and Risk Off is a market sentiment that happens a lot of the time across all financial markets including Forex. In this Wiki, we will explore what Risk On and Risk Off is as well as sideways markets.
This Wiki is part of our Sentiment Analysis Wiki. Be sure to check that out HERE.
Risk On and Risk Off
Risk-on risk-off is an investment setting in which price behaviour responds to, and is driven by, changes in investor risk tolerance. It refers to changes in investment activity in response to global economic conditions. During periods when risk is perceived to be low, the risk-on theory states that investors tend to engage in higher-risk investments. When the risk is perceived as high, investors have the tendency to gravitate toward lower-risk investments in a risk-off manner.
Investors' appetites for risk will tend to rise and fall over time, and at times they are more likely to invest in higher-risk instruments than during other periods, such as during the 2009 global economic recovery from the Great Recession The 2008 financial crisis was considered a Risk-Off year, in which investors attempted to reduce risk by selling existing risky positions and moving money to either cash positions or low/no-risk positions, such as U.S. Treasury bonds.
Risk-On and Risk-Off are the 2 distinct moods the market tends to have which we will look at in more depth now.
Risk On
Risk-On is an environment where the market is feeling like hunting a profit because there is no or low perceived risk in the market at the time. In these instances, the market will trade the currencies that generate a higher yield or a good return on their money. Currencies that move a lot, and particularly those that have a higher interest rate attached to them, become the most attractive option for investors and traders. You will often see these currencies rally during a risk-on session.
Growth stocks and speculative investments tend to appreciate in value in a risk-on market.
Risk Off
This is when the market sees a perceived risk and does not want to get involved for fear of losing money. Participants become fearful that the volatility will cause losses so they exit trades in the fast moving currency pairs with higher rates of interest and move their money into what are traditionally perceived to be safer currencies or assets. Generally, a safe currency is one that has a current account surplus combined with a stable political system and low debt-to-GDP ratios.
Basically, a nice safe place will be the last economy to collapse should the absolute worst-case scenario materialize and the global financial system completely falls apart. When the markets flock to these safe currencies in these risk-off times it is known as a Safe Haven Flow. One of the most extreme types of moves in the market is driven by these safe haven flows because people will panic and pay prices they typically would not.
Market indices and growth stocks tend to decline and money will flow into less risky assets such as U.S. Treasuries.
Sideways Market
There is also a pit stop between risk-on and risk-off market environments which is a Sideways Market. This is dominated by the need for more information as traders and investors cannot come to a consensus on which way to trade the markets. Essentially, the market is in a Wait and See mode. It is looking for some kind of risk event such as announcements from Central banks to give them information so it can start buying or selling again. Basically, the market is waiting for clues to go back into risk-on or risk-off.
Related Wikis
Readers of 'Risk On and Risk Off Also viewed: