One way to identify the short-term direction of the market is buying by understanding the current “risk sentiment”.
"Risk on" and "risk off" are terms used to describe the “risk sentiment” of financial markets, reflecting market participants’ appetite for risk.
These terms help to explain how investors and traders are allocating their capital and making decisions based on their willingness or “mood” to take on risk.
Are traders “seeking risk“? Or are they “seeking safety“?
A “risk on” mood refers to traders’ willingness to make riskier trades. A “risk off” mood refers to traders’ reluctance to make riskier trades and play it safe.
The benefit of understanding whether the market is “risk on” or “risk off” is it allows you to align your trades and makes sure you’re trading with, not against, the current risk sentiment.
Risk sentiment can flip back and forth on a daily basis between “risk on” and “risk off” days.
Risk Meter: What is Risk On?
What is a "risk on" day?
A "risk on" day refers to a specific day or trading session in the financial markets when sentiment is more optimistic, and the appetite for risk is higher.
On a "risk on" day, traders are more confident and willing to take on greater risks for potentially higher returns.
This positive sentiment is often driven by factors such as encouraging economic data, strong corporate earnings, stable political conditions, or accommodative monetary policies.
Risk Meter: Risk on Flow
During a "risk on" day, traders tend to shift their capital from lower-risk assets like government bonds, gold, and “safe haven” currencies to higher-risk assets such as equities, commodities, and high-yielding currencies such as the Australian dollar (AUD) and New Zealand dollar (NZD).
This movement of capital from relatively safer assets to higher-risk assets is known as “risk on” flows.
In summary, a "risk on" day indicates a more confident and risk-seeking mood in the financial markets.
Risk Meter: What is Risk Off?
What is a "risk off" day?
A "risk off" day refers to a specific day or trading session in the financial markets when sentiment is more cautious, and the appetite for risk is lower.
On a "risk off" day, traders prioritize capital preservation and safety over pursuing higher returns. This change in sentiment is often driven by factors such as negative economic news, disappointing corporate earnings, geopolitical tensions, or other market uncertainties.
Risk Meter: Risk off Flow
During a "risk off" day, traders tend to shift their capital from higher-risk assets like equities, commodities, and high-yield bonds to lower-risk assets such as government bonds, gold, and safe-haven currencies like the U.S. dollar (USD) and Japanese yen (JPY).
This movement of capital from higher-risk assets to safer assets is known as “risk off” flows.
In summary, a "risk off" day indicates a more cautious and risk-averse mood in the financial markets.
Summary
The concept of “risk on” and “risk off” describes a market environment where price action is driven by, changes in risk tolerance by investors and traders.
“Risk on” and “risk off” flows refer to the movement of capital between different assets based on the prevailing “risk sentiment” or the overall market’s appetite for risk.
These flows indicate how market participants are adjusting their positions in response to changing market conditions and their perception of risk.
Monitoring price changes caused by these flows can help you understand the mood of the market and ensure that your trades align with (not against) the current mood.
Risk-On / Risk-Off Meter FAQ
What is the Risk-On / Risk-Off Meter?
The Risk-On / Risk-Off Meter or “RORO” Meter is a way to gauge the current “risk sentiment” of financial markets, reflecting market participants’ appetite for risk.
For example, while moves in the currency market can be influenced by multiple factors, one of the key drivers is risk sentiment.
Are we trading in an environment conducive to shifting into trading strategies favoring riskier currencies? Or do fear, uncertainty, and doubt rule the emotions of market participants who rush to own safe-haven currencies?
The RORO Meter is like your market mood ring, giving you a feel for whether the market's playing it safe or playing it risky. It helps you make trades that vibe best with the market's current mood.
How is the Risk-On / Risk-Off Meter calculated?
The Risk-On / Risk-Off Meter is a compilation of several different financial instruments that are commonly used to measure risk appetite in the market.
The meter tracks current price changes relative to the previous day’s price. Price changes are caused by “risk on” or “risk off” flows and indicate how market participants are adjusting their positions in response to changing market conditions and their perception of risk.
Different financial instruments are given different weights in calculating a score from 0 to 100, with “100” representing maximum “risk on” mood and” 0” signaling maximum “risk off” mood.
How often is the Risk-On / Risk-Off Meter calculated?
Every component and the meter are calculated in real time whenever the markets are open.
How to use the Risk-On / Risk-Off Meter
The Risk-On / Risk-Off Meter measures the current risk appetite or “mood” of the market.
It can be used as a tool….a short-term indicator to support your decision-making process.
Understanding whether the market is “risk on” or “risk off” allows you to align your trades and makes sure you’re trading with, not against, the current risk sentiment.
If you're about to make a trading decision but are unsure just how much that decision is affected by the overall market’s appetite for risk, checking the meter can be helpful.
Decide what you want, decide what you are willing to exchange for it. Establish your priorities and go to work.H.L. Hunt
