The final macro component we will discuss is the prevailing attitude of traders and investors toward assuming risk. There are many methods for estimating this factor, and a wise approach is to consult several inputs and create a composite barometer or index.
When public risk-tolerance is high in the stock realm, you will likely see solid interest in IPOs, highly speculative stocks, etc. The same dynamic exists in currencies. For example, the NZD, CAD and Australian dollar (AUD) are considered “risk-seeking” currencies. Given they are “reflation plays” –– a trade that is banking on economic growth developing –– and sensitive to commodity prices, they are usually more sensitive to changes in the global economy.
Such currencies will typically have an inverse relationship to investor risk tolerance. It shows the Risk Aversion Thermometer, a trader risk gauge created by RBC Capital Markets, illustrates the rise and fall of risk tolerance. It shows the NZD/USD rate embarking on a multi-month uptrend around the same time the Risk Aversion Thermometer peaked. It shows the same pattern in the USD/CAD, where the downtrend actually reflects Canadian dollar gains vs. the U.S. dollar.
The relationships described here are by no means static. However, seeking out simple associations such as these can identify favorable trade conditions, as well as avoid trades that might look good from a technical perspective, but have potential weaknesses on the macro level.
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