How to Predict Price Movements in the Forex Market in 2020
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How to Predict Price Movements in the Forex Market in 2020
The basis for earning money from currency trading is understanding how the market works. A trader should know when to place orders for buying and selling currencies. This is done by analyzing the situation and making conclusions about how the trend will behave in the future based on the received data. This is a basic skill that a trader should master. No Expert Advisor can act as accurately as a trader. That's why we have prepared a detailed review on how to predict forex market movement, analyze statistics and news.
What is Forex?
Before we move forward, let`s see what Forex is, to explain it for those who are new here, and to make sure we are on the same page. Forex is the name of the international interbank currency market (short for Foreign Exchange Market).
It is the largest financial market in the world where individuals, companies, and financial institutions exchange currencies at floating rates. Forex market is open 24 hours a day, from Sunday to Friday, and almost three trillion pounds sterling is traded every day.
The volatility of the Forex market depends on the impact of various global factors, which can be divided into two large groups:
Economic factors that affect the exchange rate of a certain country:
An indicator of economic growth (GDP);
Level of inflation and inflationary expectations;
Monetary policy of the Central Bank;
The unemployment rate, etc.
Any event occurring in the economies of the world's major powers instantly affects the sentiment of the Forex market. Thus, while engaged in currency trading, a trader needs to study and analyze the most important indicators of the world economy, follow the news release about the decisions of central banks regarding their monetary policy. Important economic factors confirm or reverse the trend for a long time, and pullbacks in the opposite direction occur under the influence of less important and unexpected news. You can find out about the release dates of important news from the economic calendar.
Geopolitical factors affecting the currency rate:
Wars, terrorist attacks, etc.
Important geopolitical events lead to significant currency fluctuations and often cause the reversal of a long-term trend and the formation of a new one. Unlike economic news, the release of which is known in advance, most geopolitical events, such as terrorist attacks, natural disasters, defaults, etc., are unexpected and literally collapse the currency market, causing the rise or fall of currency rates. At the same time, the effect of such news releases quickly loses its strength, and, as a rule, the new trend does not last long. In such cases, traders open positions for a short time, waiting for the subsequent market pullback.
The Forex market is dependent on many interrelated factors that reflect the state of the economy of different countries. Knowledge of these factors allows a trader to quickly navigate and make the right decisions at the right time, as well as assess the time and strength of the influence of fundamental factors on the market trend.
Defining a Trend
Let's start with basic concepts, as there is no single clear approach in science about what a trend is. This term most often refers to the behavior of a financial asset, which develops according to a linear algorithm. Simply speaking, increase or decrease of quotes in a certain period of time caused by objective reasons that can be logically described.
There are two types of trends: uptrend and downtrend. In the first case, it means that the main currency in the pair increases its value against the cross. This trend is called a bullish one. The term was invented on the New York Stock Exchange, it is to this effect that the statue of the bull decorating the square in front of the entrance to the trading hall is dedicated. According to the idea of the creators of the term, the bull horns the currency rate and raises it.
A descending trend, or bearish trend, implies that the rate of the basic currency is decreasing against the quoted one. The etymology of the term is related to the fact that bears' paws seem to hammer the asset and press it to the ground. Remember these two similarities and you won't have any problems defining the current state of the market.
The next point to understand is that the trend is limited in time. There are the following types of time frames:
Short term trends have a period from 1 to 15 minutes. Such trading is suitable primarily for those who can devote a lot of time to work and are limited in starting capital.
Medium-term trends start from 15 minutes to 4 hours. During the trading session, with a quiet market movement, there are only 3-4 such trends. This option is suitable for those who do not want to spend a lot of time working and rely on technical tools for trading.
Long term trends are the most profitable, as they can provide a margin of several hundred points, but working with them is quite difficult. Firstly, it is necessary to understand what the market situation depends on, to have a deep knowledge of the inner economic processes of the states whose currencies you trade, as well as to understand the goals and sentiments of other market participants. Although there can be only 3-4 trades per month, you will have to work every day to get the most out of them.
Next, we will discuss how to predict market direction in Forex and what method should be employed
Fundamental analysis vs Technical analysis
Fundamental analysis is an analysis of the economic and political situation in the countries whose currencies are traded in the Forex market. The purpose of fundamental analysis is to assess the possible impact of certain events on the movement of currency rates.
Moreover, it includes the analysis of economic indicators. They are published regularly and provide an opportunity to study trends in the economies of different countries. The results of such research allow to explain the current movement of exchange rates and predict future movements. For example, when in the U.S. there is a constant increase in consumer and production prices, which is accompanied by an increase in employment, the market may begin to talk about the possibility of raising the interest rate, which, in turn, may lead to an increase in the dollar.
The technical analysis is based on graph analysis. They say that a chart is the embodiment of the influence of fundamental factors on the market.
The following postulates are taken into account during the analysis:
There is absolutely all information about the market in the chart.
The market has a memory and, therefore, based on what was in the past, you will know how to predict the forex market.
On the basis of these postulates, a wide range of indicators of technical analysis were developed by traders, whose task is to help predict the future movement of currencies.
Fundamental macroeconomic analysis is very complex. In most cases, it is impossible to take into account all factors affecting the market. Technical analysis is much simpler, as it explores only one object - the price chart.
There are frictions between the advocates of fundamental analysis and technical analysis about the importance of a particular type of analysis. The former argues that understanding the underlying processes in economics and politics is sufficient for successful trading. Secondly, they say that there are so many events and they are so diverse that it is almost impossible to say for sure about their impact on the currency market.
Experienced traders, who successfully work in the Forex market, recommend not to neglect this or that type of analysis. The fundamental analysis makes it possible to understand the trends in the currency market in the long term and at the moment. Technical analysis, in turn, with the help of various tools makes it possible to visually present existing trends and calculate the possible levels of the beginning of large movements (or their end), the magnitude of movements, their likely correction, and most importantly - technical analysis allows you to determine the levels for opening and closing positions.
The combination of fundamental and technical analysis gives impressive results, because, representing the market situation in terms of fundamental analysis, a trader only needs to find the level to enter the market and calculate the possible Stop and Limit orders.
Using Moving Averages as Trend Predictors
Moving Average (MA) helps determine the direction of the price of an asset (or market) and identify the current trend. Therefore, this indicator is indispensable when trend trading. There are simple (SMA) and exponential (EMA) moving averages.
Pros and Cons of Moving Average
The moving average has both advantages and disadvantages. The disadvantage is that it cannot warn about the imminent trend change. The advantage is that it helps to determine if an existing trend is developing and confirm the reversal when it occurred. Therefore, it is useful to consider a moving average as a bending trend line.
Moving Average Trading Strategy
A moving average can perform the same function as a trend line, i.e. serve as a support line when prices fall in an uptrend and a resistance line when prices rise in a downtrend. Therefore, it is better to long when the Moving Average is rising and short when the prices are falling. A breakthrough in the moving average can be seen as a breakthrough in the trend line and a signal for a trend change.
During an uptrend, buy when prices fall to MA or slightly lower. Open a long position and place a protective stop order below the recent low. In a descending MA open a short position when prices surge to MA or slightly above. Place a protective stop order just above the recent high and move it to a break-even level when the price falls below MA. Do not open positions when the price moves sideways with slight fluctuations. Trading in the market without any idea of movement carries unreasonable risk.
Predicting Exchange Rates in the Short-Term
Even though most fundamental approaches have demonstrated their ability to predict market direction in Forex in the long run, their short-term results are somewhat confusing. Consequently, traders have conceived of some means to foretell short-term exchange rate fluctuations, namely technical analysis, sentiment surveys, order flow data, and futures market price analysis.
As for the technical analysis, it has proven to be one of the most prevalent tools employed by short-term traders. Granted that it is classified into short-term instruments, the primary sources of technical analysis can be applied to all time frames. Its main idea is that historical rates and models prone to happen again and again.
The principal purpose of the technical method is to spot trends in their very beginning and trade towards the trend until it changes. All technical tools, including graphical models, trend lines, or support/resistance levels, help to catch the trend in time and still provide excellent results in the Forex market.
Predicting Exchange Rates in the Long Term
Traders who know how to predict the market in Forex in long term take into account one essential feature: if only a part of the factors influencing the currency rate can be taken into account in a short-term forecast, then in a long-term perspective it is necessary to predict what effect the whole group of factors will have. One way or another, the currency rate is influenced by: if only part of the factors can be taken into account, then, in the long run, it is necessary to predict what influence the whole group of factors will have on the currency rate:
dynamics of commodity prices, mainly gold, oil and gas;
the economic situation of the country (stability within the country, position in the world economic arena);
actions of major players on the foreign exchange market;
force majeure circumstances of an androgenic nature;
force majeure circumstances of natural character;
development of world trade (in terms of export and import dynamics).
It is not always possible to predict the force of influence of this or that factor. Nevertheless, economists offer several options for forecasting currency rates in the long term:
purchasing power parity;
simulation of exchange rate dynamics;
interest rate differential analysis.
Of the three proposed options, a forecast based on purchasing power parities was seen as the easiest one. We will have a look at it a bit later.
Purchasing Power Parity
Purchasing power parity (PPP) - a ratio between several (more often between two: the main and base) national currencies of different countries, which is established by their purchasing power parity to a certain set of goods and services. Purchasing power parity can be calculated for a specific group of goods and services or the entire public product. According to the theory of PPP, currencies vary and compensate for price increases under inflation. For example, this year Australia will see a 4% increase in prices. In China, they will increase by 2% over the same period. Therefore, the inflation differential will be 2%. Taking into account the PPP theory, the Australian dollar will have to lose 2% to balance the price of the same product in Australia and China. If now 1 AUD = 5.09 CNY, then taking into account the forecast the rate will be (1 - 0.02) × 5.09 = 4.89 CNY per 1 AUD. Approximately, the Australian dollar should become cheaper against the CNY.
PPP is similar to the exchange rate, it shows how many units of currency of a given country need to be spent to buy the same amount of goods and services as can be bought per unit of currency of another country in that other country, that is, it shows the purchasing power of the national currency.
PPP is a statistical index calculated for international comparisons and calculations. The exchange rate is a real macroeconomic policy instrument.
Despite the attractiveness and usefulness of certain provisions of the theory of PPP, based on empirical observations by various researchers, it was found that a complete convergence of the dynamics of the exchange rate and the PPP of currencies is usually not observed in the short term, although there is a convergence of their trends when considered a relatively long period. It is important to emphasize that nominal exchange rates and purchasing power parities of currencies have fundamentally different semantic content and cannot be considered interchangeable.
For your results to be accurate, you will need to spend enough time learning how to predict Forex market. Yes, the number of tools and all that information that need to be considered to trade Forex efficiently can seem terrifying but it is highly recommended to make use of as most of them as possible (better even all). And the ones we`ve mentioned above will help you to start. Good luck!
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