At one point or another, you have likely heard of Fundamental Analysis.
We gave you a teaser of fundamental analysis earlier and now let’s get to the heart of the subject!
Whenever somebody mentions fundamentals, they are referring to the economic information about the country that the currency is associated with.
The fundamentals cover a wide range of information from economics, to politics, and even the environment.
Fundamental analysis is studying all of that information and using it to predict what will happen in the future of the country and the price of its currency.
It’s the study of the world around us, mainly things like unemployment, inflation, and the economic growth. Basically, it pertains to everything going on that has a large enough impact to affect the currency price.
Fundamental Data and Its Many Forms
Fundamental analysis gives an investor an idea about how the price of currency should change based on an economic event.
The fundamental data that we use can be found in many different forms.
It could be a report released about a country’s home sales, or it could be a policy change made by the European Bank.
Many times, the economy shifts simply from the release of this information. Many citizens and investors react to this information and the economy is changed regardless of the information being true or not.
Sometimes, changes take place before a report is even released because people are anticipating what the report will say.
Speculators can estimate the interest rate hikes days before the actual statement is ever released.
As a matter of fact, currency has been known to jump more than 100 pips moments before a major event takes place. This is a very profitable time to trade for those who are brave enough to do it.
That is why many traders keep up with current events and prepare to make quick decisions just before certain economic information is released, and so should you!
Economic indicators create most of the information that is used for fundamental analysis. Just like an alarm that sounds before the fire has reached it, economic indicators give away details about how a country’s economy is fairing.
While it pays to understand the value of an indicator, it is just as important to understand the market’s anticipation and its guess at that value.
Before you even think about trading, you have to take in account how the actual figure is going to affect the predicted one.
Try not to worry about it, the whole process is much easier than it sounds, and you don’t have to be a brain surgeon to understand it.
While fundamental analysis is a great tool to guess at what the future economic conditions of a country are, it isn’t very good for predicting a change in price direction. The fundamental information isn’t specific enough, and you will get a much better idea just by looking at technical indicators.
The analysis of fundamental information usually looks something like this:
“This country’s interest rate may go down a percentage which could cause the currency to go down.”
“The Euro MIGHT go up with a value in that range.”
Here’s an Economic Report – Now What?
The FOREX market will react more to how people feel than it will to anything else. If people feel strongly about a particular report, the market is likely to be very volatile that day.
The large number of people and their different interpretations of information can make it very difficult to predict how the market is going to move.
There is a huge amount of uncertainty in fundamental analysis, and that is why you need technical analysis to fill in the missing pieces.
Fundamental analysis is never a certainty, but that is not to say that you should forget about it.
There is too much information out there available to anyone willing to look at it.
Many traders have a hard time figuring out how to use the huge amount of information that is out there. It can be difficult to factor all of that information into economic terms, and figure out how it is going to affect the price of the currency.
It is also important to remember that there are two currencies in every pair and that you have to look at the information for both countries involved.
At this point, you are probably wondering if you even need to practice fundamental analysis to be a successful trader.
The answer to that really depends on what type of trader you want to be.
Long term and medium traders benefit more from fundamental analysis than they do from technical analysis. That is because they can follow long term changes in a country that would not affect the prices of a currency pair in any one given day.
Short term traders prefer to focus on technical analysis because they can predict short term changes much better than they would be able to with fundamental analysis.
Crazily enough, we believe that you should use BOTH!
If you focus purely on technical analysis, your strategy will be crippled when a large economic event occurs. At the same time, fundamental analysts miss out on a lot of short term opportunities that technical analysts take advantage of.
A mix of technical and fundamental analysis covers all angles. You’re aware of the scheduled economic releases and events, but you can also identify and use the various technical tools and patterns that market players focus on.
By practicing both types of analysis, you will cover all of your bases. You will miss out on far less opportunities and potentially make much more money.
Now you know! I hope you’re happy!
In the upcoming lesson, we will cover the main fundamental factors that affect currency prices. These include monetary policies, interest rates, and large economic reports.
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