In FX trading, there are a dozen big-picture factors that set the tone for the trading environment, but one of the most consistently reliable is the bond yield differential between two countries.
The logic is straightforward: When capital flows are free from taxes and regulation, the country with the highest real return will attract the most capital inflow, with some consideration for market size, liquidity and transparency.
International bond buyers are chiefly fund managers (including pension and hedge funds) and central
banks. When buyers put new money into a country’s bonds, by definition they are also demanding the country’s currency. And while fund managers and central banks don’t make seismic shifts in their portfolios’ compositions every day (or even every week), professional FX traders keep an eye on whose bonds are looking the prettiest and plan for the day when portfolio rebalancing does take place.
The actual flow of transactions is a closely held secret because of the promise of confidentiality between banker and client.
The big banks and brokers never leak the trades of their fund managers, or disclose the finance
ministry of Country A is getting rid of some U.S. Treasuries in favor of German Bunds or UK Gilts.
Sometimes the finance ministries themselves make such announcements, such as China revealing a few years ago that it was diversifying reserves into the euro, but it’s rare.
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