Currency analysis can be a complicated process. There are two primary methods for analyzing currencies and their values. Those methods are fundamental analysis and technical analysis.
hat is fundamental Analysis?
Fundamental analysis is basing the valuation of an asset on important economic reports. Inforex trading, we refer to these reports as economic indicators. Comparing the employment reports from two countries and making a trade based on that information would be an example of using fundamental analysis.
What is an Economic Indicator?
An economic indicator is an important piece of financial data in relation to the asset. In forex trading, the assets are the currencies of different countries. For countries, some important economic indicators are: interest rate announcements, employment numbers, Consumer Price Index, and Trade Balance numbers. While some reports are constantly valuable in fundamental analysis, others will sometimes be very important and other times, they will be much less important. For instance, if a country is having solid growth and experiencing inflation, the Consumer Price Index will be highly watched and considered important by the market.
Trading the News
Trading based on fundamental news can be a tricky matter. You can have a situation where the numbers come out very good for the asset that you want to buy, yet the asset will drop in value. This happens because the participants in the market have certain expectations of what numbers will be in the report. They will speculate on the outcome before the economic report comes out and place their trades early. If the report does not live up to their expectations, it won’t matter whether the news is good or not, the market can seemingly move in the wrong direction as the early speculators dump their positions. Trading the news is very risky and should only be done after several years of forex trading experience.
Summary
Fundamental analysis is an important part of learning to understand the markets. In the short run, the results are not always straight forward, they can even seem backwards. In the long run, currencies will always move along with fundamentals. Learning to use fundamental analysis will help you to understand the reasons behind trends and give you insight into currency movements.
Economic Indicators
Economic indicators are pieces of data from important economic reports. Most of economic indicators are published by government agencies or select private groups. When taking multiple economic indicators into account for a country, traders can get a well rounded sense of a country's financial health.
Major Economic Indicators
- Employment Reports
- Reports on Inflation and Money Supply
- Interest Rate Statements
- Retail Sales Reports
- Gross Domestic Product
Using Economic Indicators in Forex Trading
Economic indicators can help you get a sense for the general economic trend of a country. For example, an employment report that shows more jobs being created month after month, can show that an economy is becoming more productive. While a falling retail sales report can be a warning that growth is starting to contract.
Over the longer term, these trends can be the basis for a trade. You can invest in countries that are showing strength and trade against countries that are slowing down. This is the most basic element of fundamental analysis.
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