Forex Forecasting In 2020: The Basics Of Predicting Foreign Exchange Rates
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Forex Forecasting In 2020: The Basics Of Predicting Foreign Exchange Rates
People can be roughly divided into two categories: those who want to know what the future holds and the others, who don’t. Forex traders, for the most part, all fall into the “want to” group. Today we are discussing the importance of Forex forecast and the most effective Forex forecasting techniques.
Why Do We Need Forex Forecasting
If you have a general understanding of what is Forex trading and how does it work, you understand that knowing what will happen next is a crucial skill.
Professional traders all follow a thought-through agenda when it comes to currency exchange. For them Forex forecast is the only way to make a decision.
And the newbies often disregard the importance of Forex forecasting and take blind approach basing their trades on pure luck. That’s one of the reasons why so many traders don’t become profitable: they simply don’t know what they are doing.
The main task of any Forex forecast is to make you see what needs to be done and, most importantly, why is this the right way to go. As long as you have a clear vision of the current events and how they might play out, you should have no trouble trading Forex successfully.
But why is this the case? Why do we need to carefully analyze toms data in order to make a single decision?
Well, there are several ways to answer that.
First, everything on the foreign exchange market happens for a reason. This reason might be entirely rational and foreseeable or chaotic and slightly random. But it always exists. Further on we will take a closer look at what causes the price movement at either direction and what is the best way to predict it.
Second, Forex forecast is somewhat like a weather forecast: there are many factors to consider. Just like the weather, the currency market tends to repeat itself from time to time. The longer you study charts, the better you will be able to identify familiar patterns and make decisions faster.
And third, forecasting is necessary to build an effective trading strategy. Strategic approach can be highly beneficial in all areas of life, but in something as technical as currency trading especially. Use the analytical techniques from below to implement in your trading method and you will see the major difference of using forecast results vs. the blindfold-in-the-dark approach.
But before we jump to Forex forecasting techniques, let’s first look at the basics of analyzing the currency exchange market from three perspectives: technical, fundamental and sentimental.
Technical Analysis And How To Read A Forex Chart
Technical analysis is the bread and butter of every profitable currency trader. And it all starts from the basics of how to read a Forex chart.
From the first glance, the price movement chart looks like a chaotic graph. But the more you get to know the elements and the patterns, the more sense it makes. In fact, knowing how to read a Forex chart is pretty much half of your potential success.
Technical analysts believe that the current price of any asset at the specific time is all we need to know about it. This is largely based on the fact that while there are many factors contributing to the currency’s value, at the end of the day it’s all represented by the rate.
So, by mastering technical analysis we learn to look at the price from the mathematical point of view. We measure things like the volume of traders invested in the process, the volatility of the value movement. Then we might compare it with the past market data and see if there is anything useful for us out there.
There are numerous approaches to technical analysis of the Forex market, but most of them are based on the same principle of decision making through number processing. We won’t go into too many details, just keep in mind that one of the biggest parts of getting to know what is Forex trading and how does it work is learning to read the charts and mastering the basic skills of technical analysis.
Next up is something slightly more abstract. Let’s talk about forecasting Forex with the help of fundamental analysis.
Fundamental Analysis Techniques To Forecast Forex
Fundamental analysis of the Forex market focuses on something less measurable than pure numbers. Fundamentalists look at things like political, economical and social factors that have direct or indirect effects on the market.
Those factors can include things like election results, protests, employment rates, wars and virus pandemics. In some cases a particular event is expected to affect the market. While in others the effect comes from the reaction of the trader majority and not from the event’s significance itself.
Considering the volume and character of such reactions is a separate category of market analytics referred to as sentiment analysis. In this case the market is evaluated from the perspective of traders’ opinion. More specifically: what positions are they taking and what does it say about their perception of the current situation.
Mastering fundamental and sentimental analyses to attempt Forex forecasting is slightly more complex and time-consuming than practicing the technical one. But it is largely suggested that every trader should have at least the basic understanding of each type and use them in combination for a better forecast outcome.
The Best way to understand fundamental analysis in particular, is to check out daily reports by your broker. There you will see what news affected the price movement and what actions are more optimal at this point. Get used to the type of information that is used during the analysis and give it a try.
A helpful tool in fundamental Forex forecasting is the economic calendar. This interactive instrument will allow you to get prepared for any important scheduled events as well as give you an idea of how they will affect the market.
In there you will also find some technical data regarding the previous results of the same event. This can be very helpful in case of monthly reports, for example. One month is not too significant in terms of global economics, so you can probably get the overall dynamic from looking at the past information.
This way, through learning and practicing market analysis you can generate a pretty good idea of what is happening. Then based on this you create a trading strategy that appropriately reflects your understanding.
Analytical approach is the foundation of any Forex forecast technique. But there are also some specific practices that are designed to calculate the possible outcomes for the current market scenario.
Next we will talk about three most common Forex forecasting techniques, including: purchasing power parity, relative economic strength and econometric models.
Forex Forecasting: Purchasing Power Parity
Purchasing power parity or PPP is the most popular approach to foreseeing foreign currency’s future. PPP is built around the theory that the same items will have the same price in different countries. In simple words, a can of soda in the US is expected to cost roughly the same as in the UK, just in the local currency.
Now, as an example, we know that soda is expected to become five percent more expensive in America due to inflation over the course of the next year, but in Britain it will only grow two percent more expensive. By calculating the value difference of three percent, we can come to a conclusion that the USD might depreciate by approximately three percent towards British pound. This way the can of soda still costs the same in both countries, but the value of currency is changed.
One of the most popular approaches to this method is called Big Mac PPP. Just as in our soda example above, here the price of the burger across the globe is considered the measure of whether the currency in question is undervalued or overvalued compared to other countries.
In general, comparing the value of a basket of goods around the world is one of the most obvious economic indicators. Anyone who wants to master fundamental analysis and trade Forex on a more serious level should definitely get familiar with the concept.
Measuring Relative Economic Strength To Forecast Forex
Relative economic strength measures the overall health of the economy in different countries in order to forecast the future of their domestic currencies. The logic behind this is simple: the stronger the economy, the higher chance there is to invest foreign investments and therefore, the more will domestic currency cost in relation to others.
There are many factors that contribute to relative economic strength, including interest rates, international investments flow and more. The Forex forecast through this approach will give a trader an overall idea of how the currency is going to behave.
Strong economies result in strong currencies and it is pretty self-explanatory how measuring this strength can help us forecast Forex movement. But it is fair to mention that just like the fundamental analysis, this type of forecasting takes time to completely comprehend and master.
Econometric Models Of Forex Forecasting
Econometrics is a way of combining math and statistics to structure the market and predict its upcoming moves. The factors that contribute to these models may vary depending on the character of the evaluated economy.
To correctly choose which variables to include in the model, an analyst has to study the economy and find what factors affect it the most. In a lot of cases those factors will include things like interest rates, income growth, employment, GDP and so on.
Then a formula will be created that is going to consider all the variables as well as the coefficients that indicate how each variable affects the economy. The result will represent the expected change in the chosen currency pair within the specified time period. Depending on the coefficients it can both be negative and positive.
Model building is a somewhat complex process that requires decent amounts of both time and experience. The good news, however, is that the same model can be used for a long time when built correctly. Just input the relevant values and see the result change.
Forex Forecasting In 2020
The year 2020 is very challenging economy wise. But this doesn’t mean that we can’t turn it around to our benefit. Forex forecasting techniques are universal in terms of what is happening at the market.
You won’t see directly into the future, but you will definitely get a comprehensive insight of how things might unfold.
Plus, no matter what situation is currently unfolding, there is always a way to profit off it. Just make sure to get a deep understanding of what is Forex trading and how does it work and choose a trading strategy that fits your style and expectations.
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