Foreign exchange (forex) traders use fundamental analysis and technical analysis, the same two main types of analysis employed by stock market traders. For the most part, technical analysis is put to the same use in foreign exchange, with the price being taken as reflective of all news and the charts being the focus of scrutiny. But fundamental analysis of a currency is impossible because governments do not publish their financial statements like corporations do
When applied to foreign exchange, fundamental analysis, which is concerned with an investment’s true worth, necessitates considering how various economic factors influence the value of one currency over another. In this article, we will examine some of the most important fundamental factors that affect the value of a currency.
A Look at the Economy’s Leading Indices
Government and non-government agencies regularly publish reports on economic activity, known as economic indicators. While economic reports provide useful snapshots of a country’s economic state, it’s important to keep in mind that many external factors and government policies can have a significant impact on a country’s economic performance.
The release of these reports at predetermined intervals gives investors insight into whether or not a country’s economy has improved. The impact of these articles is similar to that of earnings reports, SEC filings, and other news releases on the market. Similar to the stock market, unusual events can trigger significant price and volume shifts in the foreign exchange market.
A Look at the Unemployment Rate
Some of these economic reports, like the unemployment rate, get a lot of press and may be familiar to you. Some statistics, like those on housing, are less widely reported on. But each indicator is good for something different.
A Look at the Gross Domestic Product (GDP)
The total market value of all goods and services produced in a country in a given year is known as its Gross Domestic Product (GDP), and it is widely regarded as the most comprehensive economic indicator available. Most investors pay more attention to the advance report and the preliminary report than they do to the GDP number itself, which is often seen as a lagging indicator. There can be a lot of uncertainty if there are large differences in these reports. A company’s gross profit margin is a public company’s equivalent to the GDP because both reflect internal growth.
A Look at Products Sold in Stores ( Retail Sales)
The retail sales report tallies the money made by shops across an entire nation. This metric is based on data from numerous stores across a country. The report’s timelier nature and ability to reflect actual consumer spending patterns after accounting for seasonal factors make it an invaluable resource.
The immediate direction of an economy and the performance of more important lagging indicators can be gauged using this metric. Significant swings can occur as a result of revisions to preliminary reports of retail sales. You can think of the retail sales report as a public company’s report on its sales performance.
A Look at Mechanical and Chemical Manufacturing ( Industrial Production)
A shift in national manufacturing, mining, and infrastructure is detailed in this report. Capacity utilization, or the percentage of a factory’s capacity that is actually being used, is also reported. A production increase at full or near-full capacity utilization is the best case scenario for any country. Utility production is a major concern for traders who use this indicator because the utility industry, and thus the trading of and demand for energy, is highly susceptible to weather fluctuations. Changes in the weather can lead to large discrepancies in the reporting period, which can then lead to fluctuations in the value of the national currency.
A Look at Cost-of-Living Measurement System (CPI)
In the Consumer price index (CPI), changes in pricing are tracked for over 200 different types of consumer items. This report can be used to determine whether or not a country is making money from the sale of its exports. However, keep an eye on exports as this is a common area of interest for traders as export prices tend to fluctuate in tandem with the strength or weakness of a currency.
The durable goods report, the employment cost index, the number of new housing starts, and the purchasing managers’ index are also very important indicators. Furthermore, there are a plethora of privately issued reports, the most well-known of which is the Michigan Consumer Confidence Survey. If put to good use, all of these can be invaluable tools for traders.
Applying Macroeconomic Data And the impact of price
Changes in the reported conditions will have an immediate impact on the price and volume of a country’s currency because economic indicators measure the state of the economy. However, it is essential to remember that the aforementioned indicators are not the only factors that influence the value of a currency.
The value of a currency can be significantly impacted by a wide variety of factors, including but not limited to, news reports, technical issues, and speculation.
Fundamental analysis in the foreign exchange market entails:
Always know when these reports will be out by keeping an economic calendar handy. Keep an eye on the future as well, as market movements are often predicated on the expected release of a certain indicator or report.
Learn which economic metrics are currently drawing the most interest on the market. Biggest swings in both price and volume tend to occur after such signals are released. Inflation, for instance, is a widely followed metric during periods of a weakening U.S. dollar.
Be aware of what the market anticipates from the data, and pay close attention to whether or not those expectations are met. Indeed, that is of much greater significance than the data itself. Sometimes the results are very different from what was anticipated. If so, it’s important to understand the context of this dissimilarity. Hold off on making any hasty judgments about the news.
- Sometimes reports are made public and then revised, and developments can occur rapidly. Take note of the changes; they could prove useful in interpreting trends and formulating appropriate responses in subsequent reports