Which type of forex analysis is the best?
Ahhh, the million-dollar question...
There has always been a constant debate as to which analysis is better, but to tell you the truth, you need to know both.Throughout your journey as a forex trader, you will find strong points for both types of analysis. To begin, let's look at two ways on how you would analyze and develop ideas to trade the forex market.
What is fundamental analysis?
Fundamental analysis is a way of looking at the forex market by studying economic trends, social forces and geopolitical events (and nowadays random tweets from a certain world leader) that affect the supply and demand of a certain currency.
It is the study of what's going on in the world, economically and financially speaking, and it tends to focus on how macroeconomic elements (such as the growth of the economy, inflation, unemployment) affect whatever we're trading.
Someone who uses fundamental analysis is called a fundamental analyst. Traders who use fundamental analysis are known as fundamental traders.
Ultimately, you have to understand the reasons why and how certain events affect a country's economy and monetary policy which ultimately, affects the level of demand for its currency.
The idea behind this type of analysis is that if a country's current or future economic outlook is good, its currency should strengthen.
The better shape a country's economy is, the more foreign businesses and investors will invest in that country.
Essentially, it all boils down to supply and demand; a country with a strong and growing economy will experience stronger demand for their currency, which will work to lessen supply and drive up the value of the currency.
Various economic events can have a huge impact on exchange rates. Below are some of the most important economic events that drive Forex price movement.
When a piece of economic data is released, fundamental analysis provides insight into how price action should or may react to a certain economic event.
That's why many forex traders are often on their toes prior to certain economic releases.
Are you one of them?
The GDP number is released at 8:30 am EST on the last day of each quarter and it reflects the previous quarter's activity.
Inflation tracked through CPI looks specifically at purchasing power and the rise of prices of goods and services in an economy, which can be used to influence a nation's monetary policy.
Forex traders can use PPI as a leading indicator to forecast consumer inflation measured by the Consumer Price Index (CPI).The PPI data is released during the second week of each month.
This report comes out on the first Friday of every month at 8:30 am EST and includes the unemployment rate, which is the percentage of the work force that is unemployed, the number of new jobs created, the average hours worked per week, and average hourly earnings.
The NFP often results in significant market movement.
All of the above mentioned economic reports are closely watched by the Federal Open Market Committee in order to gauge the overall health of the economy.
The Fed can use the tools at its disposal to lower, raise, or leave interest rates unchanged, depending on the evidence it has gathered on the health of the economy.
The fx market is ruled by global interest rates.
What is technical analysis?
Technical analysis is the study of historical price action in order to identify patterns and probabilities of future movements in the market by studying price action through the use of technical indicators and chart patterns.
Someone who uses technical analysis is called a technical analyst. Traders who use technical analysis are known as technical traders.
Technical traders pretty much live, eat, and breathe charts to identify the trend, support and resistance, and momentum, which could help them find some epic trading opportunities.
They see the markets as chaotic and dynamic, but they believe that price actions are not completely random.
Technical traders believe that within this state of chaos, there are identifiable patterns that tend to repeat.
Know that saying, history does tend to repeat itself?
Well, that's basically what technical analysis is all about!
Technical analysts believe that price movements follow established patterns.
That's why technical traders look for similar patterns that have formed in the past and form trade ideas believing that price could possibly act the same way that it did before.
Notice how I said "possibly"?
That's because technical analysis is not so much about prediction, but rather probability.
This means that successful trading using technical analysis is NOT about being right or wrong
It is about determining probabilities and taking trades when the odds are in your favour.
Does this sound like you?
What type of trader are you?
Traders come in different shapes and sizes.
There is no one model profile for a profitable trader. Most - but not all - traders will fall into the categories we outlined above.
Which type of trader sounds most like you? Much will depend on your approach to financial markets, why you are trading, when you are trading, how it fits with the rest of your lifestyle, and your levels of knowledge and tolerance for risk.
Time for a bit of fun. Answer a couple of simple questions through our online quiz below and let's find out what type of trader you are.