Should You Trade Emerging Currencies?

Takeaway: There are significant gains to be made with emerging currencies and they can greatly add to the profitability of your portfolio.

Should You Trade Emerging Currencies?
Source: Flickr/Jeaneeem
Most Forex trading takes place with the major pairs, but there are a number of other currency groupings which are actively traded and present varying opportunities. We'll take a look at some of the issues and opportunity in emerging currencies.

Most forex traders focus on the major pairs because they offer tight spreads, healthy volumes and plenty of analysis. But in the same way that investors like to consider stocks in emerging companies, there are a number of forex traders who favour trading emerging currencies. The reasons are the same. Such currencies offer big rewards, especially if you are adept at spotting rising situations. On the flipside of course, if you get your calculations wrong, then they can also lose you a lot of money.

There are a number of emerging economies. Some have emerged a great deal already - the BRIC countries for example - but there is always a list of contenders to take the crown as emerging places of hope (MINT is the new list doing the rounds).

Emerging is a relatively loose term that quickly becomes academic, but for the private investor, or financial firm, emerging markets are places which are set to grow significantly. Generally, emerging markets share a number of characteristics. In many emerging markets the political and financial systems are still forming and the middle classes have the potential to quickly grow. Many emerging countries are identified by their burgeoning middle class because rising middle class wealth becomes a signal of future internal demand for products and services. Countries with young populations are also noted, as this is a further signal for future expansion.

Trading in emerging currencies requires unique insight into a country’s likely future, and the biggest concern is risk. Anyone who wants a controllable risk profile should probably stay away from this part of the forex market. Given the early stage of development of many emerging economies' internal systems, many are prone to political disruption and implosion.

Turkey has been a good example of this. It has achieved much in the last few years and has all the signals of a vibrant and successful economy, yet the political tensions from literally spanning the Christian and Muslim worlds means it has a host of political sensitivities that could delay its economic expansion. Currencies are always sensitive when it comes to news flow, so when you add in the element of political upheaval, a position can crash and burn within minutes.

But perhaps more worryingly is that whereas the major economies allow their currencies to float free of control (not always the case of course, as central banks can’t help but get involved at times of stress), many of the emerging currencies are actually pegged to either the U.S. dollar, or a basket of representative currencies which will almost certainly include the U.S. dollar, as well as the Euro and Yen.

Emerging currency markets have other problems, such as low volumes and such wide spreads that it’s difficult to make the necessary gains. Add in the element of volatility and you have all the potential for trading disaster.

Yet given all that, there are significant gains to be made with emerging currencies and they can greatly add to the profitability of your portfolio if you keep your capital at risk low. As always with heightened risk profile investments, only gamble what you can afford to lose.

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About Tom Williams
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Tom Williams is an account manager at GO Markets, a major provider of online foreign exchange (Forex) trading services. 
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