But while recessions do spell difficulty, for most market participants, the predicted recession might present investment opportunities for the UK’s high leverage traders in foreign exchange, known as Forex.
Here experts Forex Brokers explain why.
When the economy of a country or a group of countries experiences considerable and continuous decline, it is said to be in a recession. It affects governments, corporations, consumers, and investors in a wide range of ways.
No single definition exists for what constitutes a recession, although the most typical indicators include a decline in GDP, real income, employment rates, manufacturing output, and retail sales.
Several statistical authorities require two consecutive quarters of GDP contraction.
A recession occurs on average every seven to nine years as a typical component of the business cycle. Despite this, there is no consensus on how long a recession is expected to persist.
The spending power of high leverage
Most Forex brokers provide a range of incentives to new traders, including competitive spreads, Forex no deposit bonuses, and high leverage. This latter incentive is a particularly strong drawcard for traders, as it allows them to open higher positions with a smaller amount of capital.
Leverage is essentially money which is borrowed from your broker, and is expressed as ratio, for example 1:50. Using high leverage, traders are able to open larger positions for potentially lucrative returns.
While leverage also poses a greater risk for higher losses (if your position turns against you), it could be a useful tool during a recession.
As people’s spending money, and therefore their investment capital declines, high leverage allows them to increase their potential income with a smaller amount of existing capital.
That said, using high leverage must be skilfully done, which is why it is particularly important to understand how the markets will react during a recession in order to trade them well.
Trading the stock market during a recession
Depending on the type of firm you’re intending to invest in, recessions will have varied effects on the stock market.
Utilities, hospitals, and consumer goods firms will all be able to weather the storm of a recession. Other companies, such as travel companies and industrials, tend to underperform and lose value.
During a recession, several sectors will do poorly. However, these same sectors will perform better in a post-crisis recovery. Financials, real estate, consumer discretionary, industrials, and materials are just a few examples of these sectors.
By placing a stake in spread bets and CFDs, you can profit from the increased market volatility that recessions create. These are financial derivatives that allow you to bet on the direction of the market by either going long or short.
Alternatively, investing directly in the companies requires a share dealing account. You’ll become a shareholder, and if the share price rises above the price you paid, you’ll benefit.
Trading the Forex market during a recession
Not even Forex is recession-proof. That said, there will be a way for traders to profit from the differential in strength between two currencies unless the downturn wipes out every country on the planet.
When a country’s economy falters, the value of some currencies, or groupings of related currencies, will depreciate. Others, on the other hand, will step up to fill their shoes.
Forex trading is fundamentally a long-and-short strategy that allows traders to speculate on both faltering and flourishing economies at the same time.
Because interest rates are being slashed when the economy is in a recession, investors are less interested in purchasing the currency in question.
Typically, these low-interest currencies are used to acquire higher-interest currencies – known as a carry trade – in an effort to diversify their portfolios.