There are two major ways to approach currency trading. One of them is sort of the live-in-the-moment and go-with-your-gut path that usually leads to significant setbacks and forces its followers to withdraw entirely from the process. And then there are the careful planners, who prefer to analyze every step that they take and structure each single trade. Are they more successful in currency trading? Without a doubt.
Strategic approach to trading is nearly a guarantee of certain victories. The real challenge here is to find the right way to look at the market to fit your style and preferences. You already know that there are two main types of analyzing the Forex market: technical and fundamental. Additionally, there is a subcategory, referred to as sentimental analysis, which can have a certain effect on both of the previous types. Briefly, the technical analysis looks at the purely numerical data, focusing on the price movements during the selected time periods, the fundamental analysis concentrates on the ways economics and politics affect the currency exchange market and the sentimental analysis studies the reactions of traders to both technical and fundamental data.
If technical analysis is more or less straightforward, the fundamental one, also known as Forex economic analysis, is more complex. Main reason for the news analysis being complicated is just that there are so many factors to consider and account for. On top of that, the perception of a single news piece may vary from trader to trader, depending on what currency pair they trade with and what position they are holding. To better understand how to approach currency trading with economic analysis, let’s first look at the ways world economy affects the exchange market.
Economic Factors That Affect Forex
The price value of any currency is a direct reflection of the economic and political stability of the nation, holding that said currency. In a way, looking at changes of currency’s value can tell us many things about the situation in the country during a specific time. Based on this logic, fundamental Forex analysts search for ways to predict what will be happening to a specific currency next, judging on political, economic and social factors. As we mentioned before, the difficulty comes in with the fact that there is no certainty. In some cases, an event that was expected to cause significant reaction, does not get any attention at all. On the other hand, sometimes even a minor event can’t lead to an out of proportion activity and result in major shift in the entire market.
While there is no way to know for sure in what way will the market react, there are certain things to pay attention to, that have proven over time to supply meaningful information. Additionally, it is always wise to check in with the technical analysis data from time to time confirm an opinion or back test a specific strategy. But for now we will focus strictly on the economic factors that affect the foreign exchange market. Here are some of them:
Inflation. In the 1970s in the US you could buy a cup of hot coffee in the morning for a quarter, today you will most likely spend around $2. That’s inflation in a nutshell. The currency purchasing power is usually measured by the amount of good a specific sum of money can buy in the selected country. Inflation can be pushed by two factors: the enhanced demand, when a product will be purchased, even if the price rises, or the reduced supply, for example when a national disaster damages the goods supply paths and the existing stock has to rise in value. The lower the inflation rate in the country, the higher is its stability and with it the value of the domestic currency. That is why when you observe an increase in the inflation rate in a selected country, you can draw to the conclusion that the price for that country’s currency will start going down, unless measures are taken.
Interest. The governments are known to borrow money from each other for a number of purposes. And of course, that procedure has two equally beneficial for both parties. Just as we pay interest on our credit cards, the National Banks can dictate how much will the lender pay for using a certain amount of their currency during the indicated time period. Interest rates are tightly related to the inflation rates and other contributing factors, since each time the interest rate is set it has to be backed up by the reason it is set at that level. Same logic as before applies here - if the government can afford to set high interest rates, their currency is most likely doing fine in terms of value.
Political stability. Here it is a little less straightforward as politics can get very confusing. However, there are certain factors that will most likely have a significant effect on the economy. This can include wars, revolutions and elections, for example. Each of these scenarios will play a specific role to the involved country’s economy. The war might cause supply shortage and revolutions and elections might result in power shifts, which will affect the international agreements and alliances. Again, this particular aspect is very hard to predict with one hundred percent certainty, so it is best to concentrate on just one or two countries and get to know their political models to the fullest, rather than trying to paint a picture of the political situation in the entire world.
Debt. If countries can borrow money from each other, it also means that they can end up in debt. The size of the government debt is a good indication of economic stability, however it does not always define the amount of influence a certain government has. The main effect debt has on the currency value is the unwillingness of other countries to borrow money from the debt holder. This causes both a reduction in an interest rate and the growth of inflation.
Payment balance. This is a summary of all transactions held by the government in terms of both currencies and goods. It is a reflection of the import and export accounts that points out to the inefficiencies. For example, if the country imports more than it exports, it will mean that their payment balance is negative, since they are spending more than earning. And the negative balance is an indicator of unstable economy, which as we already know results in inflation and low interest rates.
Sentiment. This one does not directly relate to the economic health of a government, however it can also have an effect on it. Outside all the contributing factors, at the end of the day traders are the ones who move the market. Which means that if a significant amount of traders will show an increased attention to a certain currency it will automatically increase the demand in that currency and with it the value. In some cases the mood of the majority changes to the opposite, but in other scenarios an entire wave picks up causing a shift to the country’s economy. One way to observe the market sentiment is to analyze the market’s behavior after both scheduled and unexpected news releases and check how the majority is taking the news. You can also choose to look at the past data to see how the public reacted to similar situations before, which once again will not guarantee you the exact answer, but can give an idea on just how volatile the market can be at times.
Now that we have gone over some of the most significant economic factors that affect the foreign exchange market and also briefly mentioned the scheduled news releases that tend to shake up the market, it is time to move onto discussing one of the very helpful tools that can be used for analyzing the market, adjusting strategies and more. We are talking about a Forex economic calendar.
What Is Economic Calendar
The Forex economic calendar is a collection of all scheduled events regarding currencies around the world. Each government has their own way of affecting the currency value, for example trying to reduce inflation by fixing prices, dictating higher interest rates and initiating new alliances at international summits and forums. Most of these events have a specific date and those dates are added by brokers into an interactive online tool, referred to as Forex economic calendar.
The focus of the calendar is on each of the factors that might potentially have even the slightest effect on the market. A calendar will also include the predictions in terms of what type of reaction a certain event may cause and how it will affect the currency value. It is important to keep in mind that there are events and reactions that happen outside the schedule and it is always wise to build your predictions on the combinations of analysis types.
Learning how to trade economic calendar takes time and it is usually suggested being attempted by experienced traders. The main reason behind it is mostly the knowledge and the understanding of the market’s behavioral tendencies, as well as connections with other traders and trader communities. If you do decide to try trading the economic calendar, there are a few guidelines you can follow.
How To Use Economic Calendar
The default setting of the calendar will include all the data, relevant to a chosen time period. In order to ensure that you only get information relevant to you and use the economic calendar to its fullest, consider following these:
Use the filters to personalize your view. On the very top of the calendar you will see the filter button, clicking on it will display the following parameter settings: country, time, category and importance. At the very beginning try to focus on a single currency pair and only select the countries that control the two currencies. For example USD/GBP is very straightforward - you have to select the United States and the Great Britain. Euro on the other hand is a bit trickier, as many counties hold it as their national currency. However, the deeper you go into learning about what affects the value formation of certain currencies, the more you will be able to narrow down your focus. This way you will see that the Euro mostly gets affected by German economy and the scheduled German news are the ones to be on the lookout for. Additionally, there is an option to choose the Euro Zone setting and get all the European countries, without having to select them individually. For more currency affecting factors check out our foreign currencies guide.
In the time section you can choose between two options: display the time remaining until the announcement and display the time of the announcement only. By knowing the exact time you can easily schedule your own time and properly prepare for each event. And in the category section you can click on the one or several of the following choices: employment, Central Banks, economic activity, confidence index, inflation, balance, credit and bonds. Depending on the trading strategies you are implementing, sometimes only a specific category will fit you. And in other cases you will need to look at the bigger picture to get a better idea of how you should act next.
The final option in the filter setting is to choose between three levels of importance. Here you should keep in mind that the importance does not always reflect the significance of each particular event. This indication usually shows the gravity of every event in terms of economics and past reactions to it. For more comprehensive results it is best to have all levels of importance displayed.
Use the quick buttons like “yesterday”, “today”, “tomorrow” or “this week” to compare data within reachable time frames. Here it is important to note that the market tends to pay a lot of attention to how things turned out the day before. This is explained by the fact that major trading centers all lay in different time zones and do not always participate in trading at once. So, by knowing what events affected the market yesterday and this week you might get a good feel of how things might play out today. Additionally, by knowing what is coming up in the nearest future you can be better prepared. You can also use the calendar button to look further into the past or future to gather more info. Keep in mind that if you go too far ahead, many events might not be mentioned as they have simply not been scheduled or announced yet.
Plan your time. Time management is crucial in all areas of life, but especially in profit generation. It is easier than you think to dedicate a specific amount of time for Forex trading purposes. Just evaluate how much time you have available for trading in general. Then take roughly three quarters of that time period and set them aside for planning and analyzing. The remaining quarter is all you will need to open the necessary positions at the market, provided they were thoroughly planned. And the time specifications in the calendar will assist you with fitting the planned trades into your schedule comfortably.
Observe more. This is a necessary stage for novice traders - watch the market without actively participating to get a good feel of how it tends to act in certain scenarios. Of course, it will not prepare you for every possible situation, however you will get a better idea about how the majority of your fellow traders behave and how many of them tend to go with a trend and how many - against it. If you want to try out your newly obtained skills without risking any money in the process, you might want to try a free demo account for Forex trading. All the information in demo is taken directly from the live market, which means that your trades will play out just as they would if you were trading through your regular account. The main difference is that in demonstration mode all trades are simulated and you won’t gain any profit or carry any losses. A Forex demo account is good for a lot of training and practicing purposes, including learning how to trade economic calendar.
Working Forex Economic Analysis Into Your Strategy
While some trading methods are based purely on fundamentals, some disregard them altogether. But you probably already know that you are free to bring reasonable adjustments to existing strategies and even invent your own. This way, if the strategy you are implementing focuses around technical analysis, no one can stop you from checking with the economic calendar to add or subtract certain steps from your action plan. There are three things to keep in mind, while doing that:
Added rules and actions have to compliment each other, not contradict. For example, if you have been trading using the 10 pips a day scalping strategy and the economic calendar suggests that a certain event will be bringing the currency’s value up over 25 pips, your best option is not to follow the calendar. However, if you are into longer term positions and the calendar is predicting that the new value for a short you have open will bring you even more profit - go for it.
Do your own analysis if possible. Yes, there are many trustworthy analytical sources out there and for the new traders they can become life savers. But as you gain more and more experience, it is highly beneficial to learn how to analyze the market on your own. As previously discussed, technical analysis is the easiest in terms of comprehension as it is basically the judgement of existing data. But the fundamental analysis is almost always highly subjective and can result in a variety of outcomes. That is why your own opinion should be the most trusted for you personally and it can be valued even higher, if it agrees with the opinions of other analytical sources.
Create your own rules and test them out before implementing. Instead of bringing a thousand adjustments to an existing strategy, why not just create your very own? This way you know for sure that your requirements are properly met and you don’t have to fight with your comfort zone to bend into the restrictions of pre-established strategy. Just remember to keep the hand on the pulse by systematically evaluating the success rate of your strategy and testing the possible outcomes in demo every time you are in doubt.
How to trade economic calendar: final thoughts
Getting on the path of approaching currency trading with an appropriate amount of respect and comprehension is always a good idea. The major takeaway should be - you always need to have an action plan in mind and calculate all possible outcomes for each and every situation. Tools like fundamental analysis reports, demonstration accounts and constantly updating economic calendars can help you to optimize your trading experience and achieve better results. However, no matter which tools you choose to work with, at the end of the day it is your personal judgement that draws a final line and lays out the course of your next moves.