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Forex Research Overview |
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Forex Research
Along with interest rates, inflation and international trade, the exchange rate is one of the most important determinants of a country′s relative level of economic health. Given that exchange rates play such a vital role in a country′s level of trade, critical to most every free market economy in the world, they are one of the most followed, analyzed and governmentally manipulated economic measures. |
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Fundamental Analysis
Forex fundamental analysis attempts to understand the drivers behind supply and demand for a country′s currency and is very similar to the fundamental analysis practiced in traditional equity and fixed income research. For example, in order for an equity analyst to determine the intrinsic value of an asset the analyst must first understand the company′s business; forecast its industry position, sales, costs, financial condition and earnings.
With Forex, many factors pertaining to a national economy are monitored, assessed and judged for the effect they have on economic growth and development. These trends are often large and complicated and can be enacted over a long period of time. Another factor which affects a country's economic status is its political system – the balance between social welfare and individual competition, or the openness of an economy to foreign trade and capital. Other areas include the social and cultural makeup of a nation, such as productivity, labor mobility, and entrepreneurship. Natural resources also play a part, such as oil or mineral deposits.
In order for a Forex trader to predict price action and market trends for a particular currency the trader must first analyze economic indicators, government policies and societal factors within a business cycle framework. Various indicators are released by governments, academic sources and the private sector.
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| Economic Indicators |
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An economic indicator is information amassed and published by a government or private entity recording the activity in a particular economic sector, either in a specific industry or in an entire economy. Most indicators are statistical, but they can be anecdotal or subjective as well. Indicators are recorded and published on a regular basis by many organizations and are used by traders to assess the strengths or weaknesses of an economy, to predict future activity, to judge central bank policy, and to provide insight into the many economic variables that make up a modern industrial economy.
Most indicators are classified as leading or lagging. Leading indicators are those that track economic factors that usually change before the general economy and are used to predict future economic conditions. Lagging indicators record activity that has already taken place and may or may not be useful predictors of future economic conditions.
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| Economy-wide Indicators |
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Economy-wide indicators are the broadest measures of productive activity and record the result for an entire economy. Usually collected by governments, they are among the most authoritative statistics. Examples include:
- Gross Domestic Product (GDP)
- Consumer Price Index (CPI)
- Producer Price Index (PPI)
- Unemployment Rate
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| Industry and Sector Based Statistics |
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Industry and sector based statistics normally pertain to a particular industry, such as housing or a particular economic activity, such as retail sales. Collected by both government agencies and private sector groups, the activity they track is more limited, and can have a close correlation to the broader indices, generating considerable trading interest. Examples include:
- Durable Goods Orders
- Housing Starts
- Building Permits
- New Home Sales
- Retail Sales
- Purchasing Managers Index
- Institute for Supply Management (ISM) Survey
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| Sentiment Indicators |
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Sentiment indicators gauge business and consumer opinions on current economic conditions and their expectations and intentions for the future.
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Not all statistics on a single topic are of equal importance. Some government and central banks prefer one measure to another and the markets will assign that much more trading weight to the favored statistic. Other statistics gain or lose interest over time depending on their volatility, changes in the economy or newer and better measurement techniques.
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Technical Analysis
Technical analysis stems from the underlying premise that historical price action predicts future price action. It is an approach to forecasting prices that examines patterns of price trends without regard to underlying fundamental market factors.
The primary difference between fundamental and technical analysis is that technical analysis presumes all the factors that influence a price; economic, political, social and psychological, are already factored into the current exchange rate by the market.
Since Forex is a 24-hour market, there is a large amount of data that can be used to gauge future price activity making Forex the ideal market for traders who apply a technical approach.
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| The Trend |
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One of the first things heard in technical analysis is "the trend is your friend". Finding the prevailing trend helps traders to become aware of the general market direction. Daily, weekly, and monthly charts are most ideally suited to identifying the longer-term trend. Once the overall trend is identified, technical traders will usually begin identifying the trend of their chosen trading timeframes.
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| Support and Resistance |
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Support and resistance levels are points where a chart experiences recurring upward or downward pressure. Support levels exist at lows while resistance levels exist at highs. Once these levels are broken, they tend to become the opposite. For example, if a support level is broken to the downside, that level often becomes a new resistance level. In a rising market, a resistance level that is broken could serve as support for the upward trend, while a broken support level in a falling market could serve as a new resistance level for the downward trend.
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| Trend Lines and Channels |
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Trend lines are simple, yet helpful tools in confirming the direction of market trends. An upward straight line is drawn by connecting at least two successive lows, but preferably more. Each successive point must necessarily be higher then the previous one. The continuation of the line helps determine the path along which the market will move. An upward trend is a concrete method to identify support lines/levels. Conversely, downward lines are also charted by connecting two points or more. The validity of a trend line is partially related to the number of connection points.
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| Moving Averages |
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Moving averages can be very helpful in identifying the overall trend. Moving averages reveal the average price of a currency at a given point of time over a defined period of time. They are called "moving" because they reflect the latest average while adhering to the same time measure.
A weakness of moving averages is that they lag the market, so they do not necessarily signal a change in trends at the most advantageous time. To help address this issue, it′s advantageous to use a shorter period, which would be more reflective of recent price action than a longer period. At the same time, however, shorter period moving averages are subject to more false trend-change signals. Alternatively, moving averages may be used by combining two averages of different periods. Buy signals are usually detected when the shorter-term average crosses above the longer-term average. Conversely, sell signals are suggested when the shorter average falls below the longer one.
There are three main types of mathematically distinct moving averages - the simple moving average (SMA), the exponential moving average (EMA), and the weighted moving average (WMA). EMAs and WMAs assign greater weight to the most recent price data, while SMAs assign equal weight to all of the data in the period. For this reason, many traders prefer to use EMAs and WMAs to help combat the lagging nature of moving average signals.
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| Indicators and Oscillators |
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Indicators and oscillators vary immensely in their usage and derivation. The indicators that reside right on the price bars or candles include moving averages, Bollinger Bands, Parabolic SAR, and a host of others. These are usually lagging indicators providing a historical view of price action. They can often provide clues and confirmation as to the direction of past trends and present momentum.
The oscillators that usually appear as a separate entity above or below the price bars are also lagging. In contrast to the price indicators, though, oscillators excel at identifying overbought and oversold conditions. As such, they are of most use to traders who wish to identify ranging, rather than trending, circumstances. These oscillators include Stochastics, MACD, RSI, and many others.
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| Drawing Tools |
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Like analysis tools, technical drawing tools, aside from the aforementioned trend lines and channels, are both popular and varied. With several different incarnations of Fibonacci formations, as well as the Gann Fan, Andrew′s Pitchfork, and many others, chart drawing tools have a huge number of adherents. Most of these drawing analysis are meant to identify areas of importance, including support and resistance levels. Trend lines, whether diagonal or horizontal, are the most basic drawing tools. From there, they become increasingly complex, and often originate from complicated mathematical foundations.
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