The major techniques of analysis of the FOREX market are fundamental and technical analysis. Therefore there is a tendency to divide traders into two different schools of market analysis, fundamental and technical.
In reality, lately it has become very difficult to follow only one of the two schools of analysis. Fundamentalists have to watch the signals that are reflected in the movement of prices on the chart, at the same time very few supporters of the pure technical analysis can do without any economic figures, news about critical political decisions and social problems, which influence prices.
The fundamental analysis involves research of key factors, which influence the economy of a concrete country. This method tries to predict the movement of prices and market trends, using the analysis of economic indicators, politics of the state and social factors in the limits of business development. If we compare financial markets to the clock, then fundamentals indicators will be its mechanism and springs, which make the hands of the clock move. Anybody can say what time it is, taking a look at the clock, and fundamentalists can explain why it is this time now and, what is most important, what time (or, more exactly, what price) it will be in the future.
Keeping in mind that fanciful financial constructions of every country involve many factors, it might be very difficult to understand all the details of the swiftly changing fundamental picture. At the same time you will find out that you will acquire considerable knowledge and understanding of the dynamic global market, penetrating deeper and deeper into the complexities and intricacies of fundamental market indicators.
Fundamental market analysis is an efficient way to forecast economic conditions, but not market prices. For example, analyzing an economic forecast of the future GNP, or a report on employment, you will get a rather clear picture of the general situation in the economy and the rate of employment. However, you have to find an exact method to convert this information into the moments of entering (the market) and exiting (the market) for a certain trading strategy.
A trader, who investigates the market, using fundamental analysis, usually creates models in order to form some trading strategy. In these models, as a rule, a lot of empiric data are used in order to predict the market performance and assess the future of the price or cost, using the previous meanings of key economic indicators. Then this information is used for conducting concrete transactions.
Models of the forecast are plentiful and various. Two persons, on getting one and the same information, can come to absolutely different conclusions about the way this information will influence the market. Therefore, before interpreting any aspect of the market analysis, you should investigate fundamental indicators and see if they suit your style of trading and expectations of the market.
Do not make a too detailed analysis. If there are too many fundamental factors, there's a danger to overload oneself with information. Even experienced traders fall into the trap and cannot make a decision about the price movement.
When using methods of technical analysis, there just cannot be too much information. Modern computer systems quickly analyze the flow of numerical data and give the direction of the supposed market movement with the help of graphic symbols. But, in any case, it's impossible to trade successfully only with the help of indicators of the mechanical trade system. You can be lucky in some cases, but not in a long-time perspective.
The best approach, according to the fundamentalists, is to use some indicators that influence the general picture most of all. They think it's much better than using the comprehensive list of all fundamental factors.
Technical analysis is a method of predicting the movement of exchange rate by watching the data, generated by the market. The data of the price of the concrete market is the main information, analyzed by a technical analyst and computer program. By applying any analytical analysis (fundamental or technical), one should not forget the main rule - to keep to the basis, which is a methodology with the watched movement of prices during a long period of time.
The peculiarity of technical analysis is in the fact that the movement of the market rate in the future will be similar to its movement in the past. That's why traders make their decisions on the basis of the predictable trend (direction) of the exchange rate (analyzing previous rates), which, in its turn, influences the performance of the real rate.
Almost every trader uses technical analysis in a special way. Even the most vehement follower of the fundamental analysis looks through charts of prices before conducting a transaction. At the simplest level of their usage, these charts help traders determine the ideal spots of entering and exiting a transaction. They provide the graphic picture of historical performance of the price or of whatever is being investigated at the moment. At any time the trader can look at the chart and determine if they are buying at fair value, on the basis of the price history of a certain market, if they sell on the top of price fluctuation, or if they risk their capital in an unstable market. This is only a small part of market conditions, which the trader identifies with the help of charts. Depending on the level of complexity, charts will help make a more advanced market analysis.
At first sight it may seem that the followers of technical analysis ignore fundamental market indicators, surrounding themselves with charts and tables of data. Any of them will tell you that the fundamental factors are already reflected in the price. They are not so much preoccupied by the fact what exactly caused the recent jump of the price (natural catastrophe or a high rate of inflation), as by the fact how this performance of the price suit the general picture or trend. Most of all they want to know how this trend can be used for the forecast of the future prices.
- The technical analysis stipulates that
- all fundamental market factors are reflected in the factual market data.
- history repeats itself.
- rates move according to the trend.
- Parts of the system of technical analysis are price charts, charts of trading volumes and a lot of other mathematical expressions of market trends and performance. These mathematical operations (they are also called market investigation) with various kinds of market data are used to determine the power and duration of a certain trend. That's why, instead of merely relying upon price charts to predict future market meanings, followers of the technical analysis also use many other technical indicators before they open or close a position.
Just like in many other trading aspects, it's recommended to be greatly disciplined while applying technical analysis. Very often a trader neither sell nor buy currency in the market, even after the price has reached the level, which was determined by technical analysis as the level of entering (exiting) the market. It happens, first of all, because sometimes it is difficult to find out the main reasons, which caused this price level.
For instance, you buy US dollars for euro, and you mark the take profit and stop loss orders at 50 points from the entrance. Let's suppose that if due to some unexpected event dollar will fall lower the level of the stop loss order. Then you might want to keep this position for some more time, hoping that the market will change, and you will be a winner. It's very difficult to make a decision about closing a position in order to diminish losses, and it's even more difficult not to yield to temptation to realize the profit too early on the profitable trade. Common mistakes of a losing trader are that he waits too long, hoping that the market will turn to the wanted direction, and common mistakes of a winning trader are that he exits the market too early. If you apply technical analysis in order to determine the entrance and exit levels, you should always keep to the trading strategy you have developed.
FUNDAMENTAL FACTORS: WHAT INFLUENCES THE RATE?
- Among the main factors, which influence the movement of currency rate, one can single out the most important ones:
- Activity of the central banks
- Activity of various foundations
- Publication of relevant data and their expectancy
- Trading of exporters and importers
- Declarations of political leaders
Activity of the Central Banks
Any state influences the currency market with the help of the Central Banks. The state national currency is "floating," if its central bank does not interfere with the operations of converting currency through buying and selling it in the international exchange market. In real life this is extremely rare. From time to time states with floating exchange rates influence the rate of their currency with the help of currency operations.
Usually the countries regulate the currency rate in order to increase productivity and consumption. There are two kinds of regulation: direct and indirect. Policy of interest rates and currency interventions in foreign currency markets are direct methods of regulation. Inflation rate, the amount of money in circulation etc. are indirect methods of regulation. What are the currency interventions? As a rule, these are the operations, which are followed by an active throw or removal of big currency amounts from the international market. The central bank carries out the entrance of currency to the market through commercial banks. Because of volumes of many milliards, currency interventions cause big changes in currency rates.
If a state feels that it has to increase the cost of its money unit, its central bank buys up its national currency in the international exchange market, doing that at the expense of the foreign currency it has at its disposal. If at some point it's necessary to depreciate national currency, the state uses additional emission to increase the demand of national currency in the international market.
Activity of various foundations
Activities of various foundations are one of the key factors that influence long-term trends of currency rate movements. There are insurance, investment, hedging, and pension foundations. Investments into concrete currencies - this is one of the directions of their activity. These foundations have very big financial means, as well as opportunities to change currency rates in the direction they want. Managers o the foundations, being professionals in the field of investments, run actives of the foundations.
As a rule, managers of the foundations make their decisions on the basis of a thorough analysis of financial markets. Depending on the chosen strategy and principles of work, they open long-term and short-term positions in the market. Fundamental, technical, psychological analysis, analysis of interrelated markets and other kinds of analysis are in the arsenal of the manager, who tries to envisage consequences of the events on the basis of the processed data. Thus, it's very important for the foundation manager to be able to outstrip events.
The direction of the rate movement and methods of work are chosen after the managers have received the full picture of the currency market (in the global sense). It's very difficult to get an ideal result with the help of a certain kind of analysis. But, having in store a precise system of trading and manipulations as well as real means, the foundations are able to correct, launch and strengthen the most powerful tendencies of currency directions.
Publications of relevant data and their expectancy
Occurrence of the following events can be considered as the data, the appearance of which influences the currency rate: surveys of economies, information about interest rates changes in different countries, publication on economic indicators, influencing the currency market, and other events.
It's important to mention that not only the occurrence of the event itself, but also expectations of some event can be considered significant factors of influence on the currency rates. It's rather difficult to say what influences the market most of all - the event itself or its expectation. It's generally accepted that the appearance of significant data leads to important and long-term trends.
As there are tables of economic indicators and most important events in the life of certain states (with dates, time of their appearance), the market participants have enough time to get ready for the events. Moreover, while waiting for the events, predictions of some indicator and its probable influence on the currency rate are born.
After the publication of an event the rate can change its direction upward as well as downward. Everything depends on the way the indicator will be interpreted by the participants of the market. The appearance of the data can lead to sharp fluctuations of currency rates, to an increase of the existing trend, to its correction, or to the beginning of a new trend. What does the result of the publication of an event depend on? The market situation, economic condition of the host-countries of the currencies under consideration, preliminary expectations and moods, as well as the meanings of a concrete indicator, - all this has an influence on the result of the appearance of the news.
The movement of the rate in a concrete direction arises before the information about the event appears (the direction of perception of the future event). Usually the rate moves in the opposite direction after the data appear.
It is explained also by the fact that the positions were opened according to expectations, and when the expectation became true, the positions were closed (collecting profits).
Trading of exporters and importers
Exporters and importers use currency market in its pure aspect. Importers have a permanent stimulus to buy foreign currency, and exporters have the same stimulus to sell it. In big and serious companies, which deal with export and import operations, there are divisions of analysis, which forecast the movement of currency rates in order to sell or buy foreign currency in a more profitable way.
In the market of US dollar against Japanese yen, a serious influence of exporters and importers can be seen. When importers do not allow the rate to fall, and exporters do not let the rate to rise high, there must be no obvious tendencies on the market. That's why they are able to keep the rate in a certain corridor for some time. In analytical publications on the market of dollar against yen, levels of a possible entrance into the market of importers (support level) and exporters (resistance level) are sometimes given.
With the aim of hedging currency risks, exporters and importers are also interested in monitoring trends. Minimization of currency risks takes place with the help of opening the position, which is opposite to the future operation.
Activities of exporters and importers, as a rule, make corrections in the market, because it becomes profitable to sell/buy foreign currency when certain levels are reached. It's worth mentioning that the influence of exporters and importers in the market does not cause significant trends (it's short-lived), because the volumes of transactions are insignificant in comparison to the general volumes of trading in the currency market.
Declarations of political leaders
During various reports, meetings, summits, press conferences etc. one can hear opinions of political leaders, which can influence the movement of currency rates.
Journalists watch such things very attentively, publishing the most important opinions at once. The influential power of these declarations on currency rates can be compared to economic indicators.
As in the case of appearance important data, the date and time of a certain declaration are known. The market is getting ready to such events, publishing prognoses of what can be said and how it can influence the movement of the rate. Considering the human factor, one cannot foresee the calendar for all declarations, and sometimes such things happen unexpectedly. In this case some unpredicted powerful movements of currency rates are possible.
If some opinions include long-term consequences (for example, principles of forming a state budget, a possibility of changing interest rates etc.), then such changes of the rates can turn into long-term tendencies.
Talking about political leaders, one can say that they cast a spell over the rate. At some concrete moments, when the national currency rate reaches unfavorable levels, they say that, to their mind, the rate will stop moving, that they will not allow it to move further, that some interference is possible, etc. And as these people are trustworthy (due to their authority and power), their words start influencing the market directly.
Usually such an event takes place after a powerful and long-time trend to one direction. After such declarations traders can decide to listen to them and start closing the existing positions, which, in its turn, leads to correcting the trend.
The declarations can be followed by interference of the central banks, especially when the rate is in the critical situation indeed. This influences the market in a very powerful way - the rate can move a few hundreds points to the direction of intervention during a short time. Moreover, the participants of the market, influenced by the intervention, can start closing positions in the old direction, which can lead to falling movements of the rate on the market.
TECHNICAL FACTORS: WHAT INFLUENCES THE RATE?
The classical definitions and axioms were formulated in the beginning of the 1980s: "Technical analysis is a method of predicting prices with the help of investigating charts of market movements during the previous periods of time." Under the term "movements of prices" one understands two main kinds of information: price and volume of trade. Price is considered the real price of goods on stock markets, as well as meanings of currency and other indices. Trade volume is a common number of concluded contracts during a certain period of time (minute, day, week). Price is the most important and informative thing, its investigation is easier, and most techniques are applied to it. Trade volume is also very important for predicting, and it's a secondary indicator.
- Technical analysis, as a theory with its own philosophic system, has a certain set of axioms:
- Movements of the market take everything into account. This statement is the main one in technical analysis, without it it's impossible to adequately assess any methods. The point is that any factor (economic, political, psychological), which influences the price, has been considered and reflected in its chart. The axiom says that there's a corresponding change of external conditions for any change of the price. That's why examining of the chart is a must for making forecasts.
- Prices move with a purpose. This supposition has become the basis for creating all the techniques of technical analysis, the major task of which is to determine trends, and especially their characteristics from the moment of appearance and to the very end, for applying them in trading.
- History repeats itself, which is natural and obvious. Technical analysis deals with the history of certain events, connected with the market. The analysts suppose that if some types of the analysis worked in the past, they will work in the future as well, because their work is based on the stable human psychology. From the point of view of technical analysis, in order to understand the future, we have to investigate the past.
Trend Following Trading and Swing Trading
There're two major approaches to building trading strategies. The first approach stipulates that the price fluctuates locally around some 'balanced' level, and if the price has moved away from this level, it will probably come back. That's why it's supposed that there exists some 'channel', inside of which the price fluctuates. The strategies, built on this approach, propose to buy cheap, on the lower border of the channel, and sell for a bigger price on the upper border. However, it's clear that a strong trend movement will destroy the channel, and the positions, opened on the lower border of the channel should be closed with losses, when a strong trend downwards will appear. That's why the major role in such systems belongs to the mechanism for determination the market performance (trend/no trend). If the market is in a trend, the trader is out of the market until the trend stops and the horizontal channel starts forming up. Such systems are called Swing Trading. They enter a position against the movement and try to buy cheap in order to sell at a higher price. A new trader will think that this approach is the right one, and he can fall into the trap. He starts trading without having a clear strategy for leaving a suddenly started trend. As a result, a single powerful movement against an opened position can eat up all the profit, saved in the 'channel'.
There's another approach, which proposes to buy for a bigger price and to sell cheap. Such actions might seem illogical, but this approach gives the most stable results. The main aim of the strategy is to catch the started trend and keep the position according to the trend as long as it is not finished. Such strategies are called Trend Following Trading. They enter a position alongside the price movement. They buy at a higher price when the price is growing in order to sell at an even higher price later, and they sell cheap at the falling price in order to buy cheaper.
As a rule, the take profit orders are not used in such systems, because it's difficult to predict when the movement stops. The trader risks to lose most of his profits, if he closes the position too quickly. The trend is usually monitored with the help of the trailing stop, and closing of the position occurs when the price falls down to the trailing stop. The major rule of working with the caught trend is the following: let the profit grow and cut losses.
Trend systems are rather difficult psychologically. They not only make the trader act against common sense, buying at a high price and selling cheap, but they, as a rule, give a large number of false entrances, which have to be closed with losses. Such systems lead to a great number of small losses and to a small number of very big profits from caught trends. Because statistically it's more probable that the next transaction will be unprofitable, there's a great temptation to skip the next transaction, if the market conditions will seem unfavorable, for example, a flat trend. And this is one more psychological trap, which makes successful trend trading impossible for the people with weak nerves.
However, the major profit, which can be received from price movements, is contained in the trends of different scales. To build up a successful and stable trend following strategy is a lot simpler, than a swing trend strategy. Even the simplest strategies give quite good results in most markets.
In general, as a rule, the most successful and steadily profitable systems are psychologically difficult for trading. And it has some sense, because any widely used successfully strategies start changing the market, and the market adjusts itself in such a way that they stop working. That's why only the strategies, which have a 'safety device' against their massive application, survive. Very many traders unconsciously trade in an easier way, not trying to get profits.
Source:www.dealing24.com
