When it comes to forecasting forex rates, the science of fundamental analysis involves taking into account a variety of relevant economic and political factors for one currency relative to the other currency in each currency pair considered.
A fundamental analyst will review as many of these items as possible on a regular basis for each currency and then compare the two to obtain a forecast. Generally, such forecasts are not specific objective numbers for the exchange rate, but instead an overall directional outlook on the currency pair.
For example, their outlook might be positive, negative or neutral after the analysis. This would mean that the analyst expects the exchange rate for the currency pair to rise, fall or stay roughly constant respectively. Furthermore, when some new fundamental information enters the forex market in a sudden way, it can prompt significant market moves and volatility as traders react to the new information.
If you have a trading system based on purely technical indicators this is really important, as a number of key fundamental factors can and often do influence market moves, which may produce unexpected results when trading using systems based on technical analysis.
As a result, it really pays to know what the likely effects of such key fundamental information could be so that a quick assessment of probably future direction can be made. Many forex traders perform a daily review of economic calendars for the currency pairs they maintain positions in. They do so since the release of such key information can often result in considerable short term volatility in the currency market, as well as prompt shifts in market sentiment.
A list of key economic factors that are routinely covered in the current news and which can move the market when they are released includes the following:. Combining fundamental news analysis along with technical analysis offers the trader the best of both worlds and will minimize surprises while trading. Some traders purposefully avoid trading on days with economic releases because the market may become temporarily volatile only to settle back towards the original trend.
Also, technical forex traders might avoid known risk events like major economic data releases since one of the key assumptions of technical analysis: Learn more about the basics of fundamental analysis in this extensive article.
Learn more about the relationship between the oil price and forex rates. Read about how gold affects the forex market. Trading Foreign Exchange on margin carries a high level of risk and may not be suitable for all investors. The possibility exists that you could lose more than your initial deposit.
The high degree of leverage can work against you as well as for you. A growing economy tends to strengthen a currency. The general economic outlook for one country in relation to that of the other country can affect forex rates. The forex market tends to value currencies of peaceful countries with growing economies and stable politics over the currencies of less stable countries that are at war or having their national security threatened in some other way.
Key Economic Factors Many forex traders perform a daily review of economic calendars for the currency pairs they maintain positions in. A list of key economic factors that are routinely covered in the current news and which can move the market when they are released includes the following: If interest rates are increased, the currency of the country becomes more attractive against other currencies offering lower interest rates. If the country is in an inflationary economic cycle indicated by the Consumer and Producer Price Indexes, CPI and PPI, this would make it more likely that the central bank of that country would tighten interest rates in order to stem the increase in inflation.
An increase in rates would tend to make the currency appreciate. Trade or Currency Account Balance: A trade or current account surplus or deficit will either favor the currency rate for the country with a surplus or weaken the rate for the country with a trade deficit. Another economic factor that will influence exchange rates directly. If a country has borrowed excessively large sums of money from other nations or from the IMF, its currency will surely reflect the serious level of debt the country is in.
Represents the total of goods and services a country produces and reflects the level of growth in the economy. Can affect exchange rates when the country is a producer and net exporter of commodities and if the country imports commodities.
If a country has an increasing percentage of its citizens employed that will tend to strengthen its currency. This key data typically comes in the form of jobless claims, payrolls statistics or the unemployment rate for a country.
A measure of inflation. Rising inflation in a country indicates that interest rates may soon be tightened by the national central bank and so will tend to make its currency appreciate. Other factors Supply and Demand Effects: Substantial flows of capital into one currency and out of another currency, perhaps as a result of large corporate transactions or managed portfolio shifts, can shift the exchange rate for the currency pair to favor whichever currency sees the higher demand.
Because of the effect of monetary policy on interest rates, this makes up an important element in the valuation of a currency. Tighter monetary policy implying higher interest rates, while dovish or looser monetary policy indicating lower interest rates. Countries with stable governments tend to have their currencies favored over those of countries with less favorable political situations.
The prices of key commodities like gold and oil tend to affect the valuation of the currencies of their primary exporters and importers.
For example, higher oil prices help the British Pound and the Canadian Dollar, while they hurt the U. Dollar and the Japanese Yen, whose countries net import oil. Fundamental Information and Technical Trading Combining fundamental news analysis along with technical analysis offers the trader the best of both worlds and will minimize surprises while trading.
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