Understanding Risk-On and Risk-Off Currencies (2024)

FAQs

What are risk on and risk off currencies? ›

Key Takeaways. Risk-on risk-off is an investment paradigm where asset prices are dictated by changes in investors' risk tolerance and investment choices. In risk-on, investors have a high-risk appetite and commonly drive up some asset prices. In risk-off situations, investors are more risk-averse and sell assets.

The US dollar is also considered a safe-haven asset. Especially because during risk-off sentiment traders exit their stock and other risky positions back to the US dollar. In a commodity market, gold is considered to be a safe-haven asset.

A risk off asset would be any asset where the risk is lower, such as gold.

The term “risk off” is used to describe the risk sentiment where traders and investors in the financial market reduce their exposure to risk and focus on protecting their capital.

These are safer haven currencies that appreciate during times of market uncertainty or economic downturns. The United States Dollar (USD), Japanese Yen (JPY), and Swiss Franc (CHF) are typical examples. Risk-off currencies are often seen as more stable and less volatile, gaining value when investors seek safety.

Currency risk, or exchange rate risk, refers to the exposure faced by investors or companies that operate across different countries, in regard to unpredictable gains or losses due to changes in the value of one currency in relation to another currency.

When the market is considered "risk-off," investors are becoming increasingly cautious and looking to lower their exposure to potential losses. Risk-off sentiments show up in several ways, such as shifting investments from stocks to bonds or emerging market stocks to established market stocks.

The term “risk on” refers to the market sentiment where traders and investors in the financial market are taking on risk. In a “risk on” environment, you'll notice prices of high-risk assets such as stocks and commodities rising and safe-haven assets such as the Japanese yen and gold falling.

Currency depreciation, in the context of the U.S. dollar, refers to the decline in value of the dollar relative to another currency. Easy monetary policy by the Fed can weaken the dollar when investment capital flees the U.S. as investors search elsewhere for higher yield.

What is the safest investment with the highest return? ›

Unlike stocks, corporate and government bonds and other assets, gold is known as a safe haven, in that it does not carry the risk of the issuing entity collapsing.

When investors are risk-on, they tend to put more money into riskier investments, such as stocks. When investors are risk-off, money tends to flow more into less-risky assets, such as bonds. This behavior during risk-on periods drives prices up for high-risk assets, while prices for low-risk assets fall.

In the “Risk On” category, you'll find assets like Bitcoin, the Nasdaq 100, sector ETFs such as ARK Innovation ETF and commodities ETFs like the United States Oil Fund LP. These investments are favored when markets are positive due to their potential for higher returns despite increased risk.

Some risk-off assets include bonds, cash and other low-risk securities. These assets can be less risky because they generally offer lower returns but also carry a lower risk of capital loss. Gold is another asset that is often considered a safe-haven investment during periods of market uncertainty.

Exchange rate risk refers to the risk that a company's operations and profitability may be affected by changes in the exchange rates between currencies. Companies are exposed to three types of risk caused by currency volatility: transaction exposure, translation exposure, and economic or operating exposure.

While its explosive growth and price volatility have led many investors and asset allocators to deem bitcoin the epitome of a risk-on asset, we believe that the Bitcoin network embodies risk-off characteristics that enable financial sovereignty, reduce counterparty risk, and enhance transparency.

Currency risk is the possibility of losing money due to unfavorable moves in exchange rates. Firms and individuals that operate in overseas markets are exposed to currency risk.

Currency Risk Example

Creating currency risk scenarios is simple if you understand exchange rates between different currencies. Say that you want to invest in a European company, for example. You pay 1,000 euros to buy shares. At the time you make the purchase, the currency exchange rate is 1.2 euros to 1 U.S. dollar.