Since markets move because of news, economic data is often the most important catalyst for short-term movements. This is particularly true in the currency market, which responds not only to U.S. economic numbers, but also to news from around the world.
Have you ever noticed that there are times when a currency pairs price just shoots out in a specific direction, only to do a quick google search and you find out that a major politician said something, or the central bank increased/ decreased interest rates? These events occur often. and this is what entails fundamental analysis (trading the news).
This tends to leave you with the question: Wouldn’t it be better if I knew when these events would occur? Better yet Is there a way I can analyse the news and profit from these market movements? Yes there is a way. This form of analysis is a branch of a greater tree called Fundamental Analysis. In this article we will investigate the above questions and provide you with a framework to deal with and be equipped to operate in the forex market, trading the news.
What is fundamental analysis?
Fundamental analysis can be thought of as the approach to analyzing a financial instrument using macroeconomic factors,such as
business health
taxes,
gross domestic product
unemployment rates
interest rates and socio-political stability
The aim of using this form of analysis is to come to a consensus on the “actual” value of a security. The word actual is in inverted commas because it is what you would have determined the price should be based on your analysis. This price is then compared to the current market price and IF there is a huge difference fundamental traders then enter the market based on this premise.
In essence trading fundamentals, and hence trading the news is dependent on finding or entering the market when the economic indicators provide results that were not expected.
It is also important to understand that not all fundamental analysis (news) events cause the market to suddenly react.
How to determine which news events to trade?
These news event have historically been the most important news events to look out for.
Understanding the news releases Let’s delve deeper and understand whe e you can find news releases, how you can use fundamental analysis for yourself and what the number actually mean. Where to find the news.
Three top sources to find news releases are listed below:
www.investing.com
www.forexfactory.com
www.myfxbook.com
Understanding the news
The structure of news releases, although differing based on the news source. They all have the same basic structure as shown below.
Date: This refers to the date of the news event.
Time of event: The time that the news event will take place, ensure that the time of the website is setup to link to your local time.
Currency: This indicates which currency the news release will affect the most
Name of event: Description of the news event.
Impact: This is an indicator of the potential impact that the news event has on price. Red indicates a high impact, orange a moderate impact and yellow/green, very low impact on the currency pair.
News traders are concerned about the 3 values as shown below, namely:
Actual
Forecast
Previous
Lets investigate what each number means and represents
Actual: The actual value is the number that was actually released at the time of the news release. This number is usually compared to the Forecast and if they differ to much, then there tends to be high volatility within the forex market.
Forecast: is the number that the economist predict will be released.
Previous: is the number that the specific news event had released in a previous period. If the news is released monthly, then the previous value refers to the same news event released in the previous month. If the news release is quarterly, then the previous number is the news release of that specific news 3 months back, so on and so forth.
Now that we understand the definitions and the numbers of reading a news release,
Let’s investigate how you would actually trade the news, and potentially profit from this market volatility.
Trading using fundamental analysis
Every News event reacts differently on every chart. Therefore there is no universal trading strategy to trading the news. You will need to develop your own per news event, per chart.
For the sake of completeness it will be shown to you how to find the key news events worth trading and how to also find the news events that are not worth your time.
Step 1: Identify a news event you want to analyze
Remember that the news event that are high impact or red have the highest probability of moving the market. Therefore naturally look at any of these news events to analyze. Ignore the orange and yellow news.
Step 2: Analyze the feasibility of the news event
This is done by analyzing the difference between the historical actual and historical expected price and looking at a specific currency pair change in pips at the time of the news release.
It is worth looking at the pip change 5 minutes after the news. And 15 -30 minutes after the news, because many a times certain news releases retrace back to their original price often enough in order to establish a pattern.
This is a lot of work, but then again you will only need to do it once and then every month you can update your list.
Remember news trading is based on developing and understanding patterns within the market when the news numbers released does not match the numbers expected. Then benefitting from these patterns.
From this it also means that if there is no pattern, THERE IS NO PATTERN do not force it.
Step 3: Trade the news event. Once you have decided that a specific news event is worth trading on a specific currency pair, then it is time to trade that news event.
There are 2 methods of trading a news event, namely:
Pre-entry; and
Post-entry
Pre-entry
Pre-entry means that you enter the market before the news events actually happens. Usually 5 or 10 minutes before the actual news event.
PROS:
If correct, you could potentially gather maximum profits of a move.
CONS:
Maximum risk exposure, and potential of sudden loss to your trading capital. Makes this method highly unpopular amongst fundamental traders.
The more common way of trading forex fundamentals is: Post Entry
Post-Entry
Post entry refers to entering the market after the news release. Once the numbers have been understood. This entry usually occurs within 5 minutes of a news release.
PROS
Once the economic data is available, you will be able to determine if it is worth entering the trade or not.
Most major news events can retrace back to their original positions. Therefore there is a potential setup.
CONS
You potentially miss the initial move of the trade
Lastly let’s examine the pitfalls of trading fundamentals.
Pitfalls of trading the news
Spread - There are occasions during the release of news when the broker will increase spread for a short period of time. This is done in order to fulfill all the order, due to a temporary lack of liquidity caused by increased order volume.
How is this done? A large majority of traders use pending orders prior to the release of a news event. An increase in spread just before the release of a news event can trigger their orders prematurely. So be cautious and careful about this initial increase in spread.
Greed
The forex market is traded by humans, and the potential for massive gains in a short period of time can entice many traders to forgo risk management and risk far more during news events than they can afford to lose. Avoid such pitfalls and learn the trading psychology necessary to survive long term trading in the forex market.
BONUS CONTENT
When technical and fundamental analysis meet, a big move is about to happen
The best traders are the ones who combine fundamental analysis and technical analysis to build their trading systems. Lets look at the USDJPY example
How to determine if a news event has already been priced into the market
Often a times the news has been priced into the market. This is usually determined by a movement in a specific direction prior to the news being released.
As with all thing Forex news trading is a niche within a niche that you must work out for yourself – hopefully this guide has provided you with an understanding on what to look out for.
Have you ever noticed that there are times when a currency pairs price just shoots out in a specific direction, only to do a quick google search and you find out that a major politician said something, or the central bank increased/ decreased interest rates? These events occur often. and this is what entails fundamental analysis (trading the news).