Getting to grips with the most volatile currency pairs

most volatile currency pairs

The summer of 2016 was a volatile time for the Forex market.

The most notable moves were in FX pairs containing sterling, because of the Brexit vote.

But the uncertainty that sprung from the surprise result, sent shockwaves through the global financial markets.

The immediate aftershocks of the Brexit referendum have faded somewhat, but other factors still affect the FX markets.

Speculation on the timing of further Fed rate hikes and long-term fears of economic weakness, have fuelled uncertainty.

And more often than not - uncertainty is a close companion to volatility.

So what have been the most volatile currency pairs recently?

This article answers that question and explores the topic of forex currency volatility as a whole.

But before we start, we need to be clear on what volatility is, how we will classify volatile currency pairs and how to adjust volatility protection settings.

Of course, you can also check present market movements anytime and in real time on a demo account.

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What is volatility?

When we talk volatility, we are discussing how much a price moves over a certain period of time.

In short, a more volatile market will move more over a given timeframe than a less volatile one.

Now when we say that, we are talking about price movements that can be one of two things:

  1. proportional
  2. absolute.

Both have their uses.

Namely:

  1. the proportionate measure is more useful for comparative purposes generally, but
  2. when we are specifically looking at currencies, it can be useful to talk in absolute terms.

After all, traders may simply want to know typical pips movement for a certain period.

And for the purposes of our comparison, that's the route we will use.

We'll simply look at how many pips each currency moves.

Measuring volatility index, forex ATR indicator

There are different ways to measure volatility, but one of the best-known indicators for this purpose is Average True Range (ATR).

The ATR indicator was developed by J. Welles Wilder (along with a collection of other well-known methods), in his book New concepts in technical trading.

Wilder was a commodity trader and ATR was originally designed for commodity markets.

In the commodity market, there is normally a stretch of time between the market closing and reopening.

It is not unusual to see commodity prices gapping on open

Gapping means opening at a different level, to the close of the previous day.

This is less of an issue with the FX market, because currencies trade 24 hours a day.

Nevertheless, it may be applicable when the FX market re-opens after closing for the weekend.

A gapping market poses a problem to the most simplistic way of gauging volatility:

...which is looking at the range between the high and low for a certain period.

So what is the problem if the previous close was outside that range?

Well if we focus purely on the high-low range, we are ignoring a certain amount of movement when the market gaps on open.

True range is a measure that accounts for this circumstance and is the largest of the following:

  1. high of current period minus low of current period
  2. high of current period minus close of previous period
  3. low of current period minus close of previous period.

Note that true range is always a positive value.

We ignore the minus sign, if we get a negative value from the above calculations.

Why do we do this?

Where volatility is concerned, we are only interested in the magnitude of change - not its direction.

Once we have our values for true range, we use them to derive ATR.

ATR is an exponential moving average (MA) of true range.

The good news is:

...ATR comes as a standard indicator with MetaTrader 4.

I used ATR to determine my list of the most volatile FX pairs and the MetaTrader 4 Supreme Edition plugin, to give me several other handy indicators that complement ATR.

Download MT4 Supreme Edition

Highest volatility currency pairs:

In my opinion, these are the three most volatile currency pairs from late August to early September 2016:

  1. GBP/NZD
  2. GBP/AUD
  3. GBP/CAD.

Here's a 4-hour price chart of GBP/NZD, with ATR plotted beneath it.

EUR/CHF currency pair in MT4

Let's compare it with EUR/CHF, which came in at number one among the least volatile currency pairs.

EUR/CHF ATR in MT4

The ATR for the same period for:

  1. EUR/CHF gets no higher than 21 pips
  2. GBP/NZD goes no lower than 54 pips.

So we can see that GBP/NZD moved a lot more than EUR/CHF.

These are the criteria I used:

  1. 20-period ATR was the volatility measure
  2. a four week period
  3. used only the 27 most commonly-traded pairs.

The results suggest that the outcome of the Brexit referendum is still having an impact on volatility, with regard to GBP.

What's so important about currency volatility?

Like many technical measures, ATR is measuring something that occurred in the past.

We do this to make an educated guess about what may be likely for the market in future.

Such probabilistic thinking is usually at the heart of good trading.

In my experience, a good trader:

  1. does not try to make specific predictions about the future
  2. tries to gauge the overall probabilities of success for strategies, in the long run.

Naturally, you are probably now wondering if there is a way to forewarn yourself about likely times of higher volatility.

Yes, there is.

One tool that traders use, is the Economic Calendar.

By watching how volatility rises when certain reports come out…

...traders soon get a feel for what kind of data releases tend to be market movers.

For example, the US Bureau of Labor Statistics usually releases employment data on the first Friday of each month.

The data is extremely timely and historically well correlated with economic growth.

As a result, it has often sparked sharp movements for a variety of markets like FX.

But that's just part of the story:

...because there may be patterns of volatility throughout the trading week.

You may want to study this yourself, to see how volatility ebbs and flows?

If so, try our guide on the best days per week to trade Forex.

Other ways volatility affects trading

There's varied ways that you can use volatility to guide your trading decisions.

For example, you can use your volatility measure to try and normalise the level of risk you take with each trade.

This involves adjusting your trading size, so that it's appropriate to the market's volatility.

In other words:

  1. the more volatile a pair, the smaller your contract size
  2. the less volatile a pair, the larger your contract size.

This move attempts to reduce the impact of volatility on your trading.

Why would you want to do this?

Well, imagine you are using the same strategy across multiple FX pairs.

It stands to reason that your chance of winning or losing, is the same for each position you have right?

After all, a winning strategy should provide you with overall profit over the long term.

Such a result, will generate a sequence of losing and winning trades.

But here's the thing:

...the balance of these results is everything.

It's vital that no losing trades dwarf your winning trades.

This could happen if a loss occurs on a more volatile currency pair, when you haven't adjusted your size accordingly.

The usefulness of volatility doesn't stop there - it can also help you choose a market that best suits your trading style.

If you are a long-term trend follower, you are probably going to want to trade a less volatile currency.

Why?

Because volatile markets make it hard to hold on to a long-term trend.

Whipsawing prices will ensure there are times when at least some of your profit will evaporate.

And let's face it, that can be hard on a trader's psychology.

On the other hand, if you are a Swing Trader then you probably want more volatile pairs.

Let's take a look at a quick example of increasing volatility.

We mentioned Brexit earlier, because it was an example of extreme market volatility.

Let's consider trading over that period.

EUR/USD Brexit Terminal

The image above shows a daily chart of EUR/USD, with the 10-day ATR plotted beneath it.

Though it wasn't in the top tier of our list of high volatility currency pairs, you can still see how volatile the FX pair was in this period.

The long red candle in the middle is for 24 June 2016, when the market reacted to the outcome of the Brexit vote.

Now obviously such a sharp move pushed the ATR up to very high levels.

Because ATR is an average, this kept the ATR high for some time after.

However, notice how the ATR was rising even before the Brexit vote?

The volatility actually started rising at the beginning of June.

The sub-100 pip daily ranges seen in mid-May, swelled in just a few weeks.

On 3 June, the day's range was 220 pips.

The opportunity for making profit and losses increased accordingly.

Consider that crazy day of 24 June:

...if you were short EUR/USD…

...the increase in volatility meant your profit would have leapt by over 500 pips.

A final word on volatility

Any complete strategy will include rules for:

  1. which markets to trade
  2. when to trade specific markets
  3. position sizing
  4. risk management.

Knowledge of a market's volatility, can help to inform your decision on all four of the above - so it's important.

As we said earlier in the article, measuring volatility is dependent on the time frame you are focussing on.

What time frame yields the most useful information, will likely depend on what type of trader you are.

You will be able to work out what works best for you, through a process of trial and error that's best served via a demo trading account.

We hope this discussion of the most volatile currency pairs, will help you add another dimension to your trading.