Foreign Exchange is affected by various economic and political factors. The largest
fluctuations in currency prices usually occur during Central Bank intervention,
when governments trade in huge amounts FOREX in an attempt to either raise or lower
the value of their own currency. This, as well as many other factors such as interest
rate changes, economic numbers, political instability and large lot transactions
by hedge funds can move the market.
How can you predict the future fx moves?
There are two major ways to analyze financial markets: fundamental analysis and
technical analysis. Fundamental analysis is based upon underlying economic conditions,
while technical analysis uses historical prices to predict future movements. There
is an ongoing debate as to which methodology is more successful. Short-term traders
prefer to use technical analysis, focusing their strategies primarily on price action,
while fundamental traders focus their efforts on determining a currency's proper
valuation, as well as future valuation. It is important to take into consideration
both strategies, as fundamental analysis can explain technical analysis movements
such as breakouts or trend reversals. Technical analysis can explain fundamental
analysis, especially in quiet markets, causing resistance in trends or unexplainable
Fundamental analysis consists of the examination of macroeconomic indicators,
markets and political considerations when evaluating a nation’s currency in relation to
another. Macroeconomic indicators include figures such as growth rates; as measured
by Gross Domestic Product, interest rates, inflation, unemployment, money supply,
foreign exchange reserves and productivity. Asset markets comprise stocks, bonds
and real estate. Political considerations impact the level of confidence in a nation’s
government, the climate of stability and level of certainty.
Aside from technical analysis, another primary approach to analyzing currency market
fluctuations is called fundamental analysis. Fundamental analysis is the examination
of economic indicators, asset markets and political considerations when evaluating
a nation's currency relation to another. The key to fundamental analysis is to gather
and interpret this information and act before the information is incorporated into
the currency price. The lag time between an event and its resulting market response
presents a trading opportunity for the fundamentalist.
Here some major fundamental factors that can affect currency prices:
- Decisions on interest rates made by central banks such as the US Federal Reserve
or the European Central bank (ECB) monthly.
- Quarterly GDP figures. Only preliminary national GDP figures generally have the
effect of changing market sentiment.
- Market sentiment data. Market expectations are formed from one week to two days
before an event. Participants establish positions based on expectations, and realize
the results after the figures are released.
- Political Events. National elections, the September 11th attacks, and the war in
Iraq are examples of events that have affected currency values.
- Major indices. Inflation indices, Institute of Supply Management (ISM) in the US
and the Purchasing Management Index (PMI) in Europe are also carefully followed
- National industrial production figures.
- US nonfarm payrolls (indicating new jobs created), Michigan sentiment figures in
the US, the western German business climate or IFO index, and the Tankan quarterly
survey in Japan.
Currency interventions have a notable and oftentimes temporary impact on FOREX markets.
A central bank could undertake unilateral purchases/sales of its currency against
another currency; or engage in concerted intervention in which it collaborates with
other central banks for a much more pronounced effect. Alternatively, some countries
can manage to move their currencies, merely by hinting, or threatening to intervene.
Technical analysis examines past price and volume data to forecast future price
movements. This type of analysis focuses on the formation of charts and formulae
to capture major and minor trends, identify buying/selling opportunities by assessing
the extent of market turnarounds. Depending upon your time horizon, you could use
technical analysis on an intraday basis (5- minute, 15 minute, hourly), weekly or
Money managers, traders and investors who seek ways to outperform the market must
also remain flexible and innovative. A method that works today does not mean it
will work tomorrow.
The Beginning of Technical Analysis
At the turn of the century, the Dow Theory laid the foundations for what was later
to become modern technical analysis. Dow Theory was not presented as one complete
amalgamation, but rather pieced together from the writings of Charles Dow over several
Technical analysts believe that the current price fully reflects all information.
Because all information is already reflected in the price, it represents the fair
value and should form the basis for analysis. After all, the market price reflects
the sum knowledge of all participants, including traders, investors, portfolio managers,
market strategists, technical analysts, fundamental analysts and many others. It
would be folly to disagree with the price set by such an impressive array of people
with impeccable credentials. Technical analysis utilizes the information captured
by the price to interpret what the market is saying with the purpose of forming
a view on the future.
A technician believes that it is possible to identify a trend, and market turning
points, invest or trade based on the trend and make money as the trend, or turning
points unfolds. Because technical analysis can be applied to many different timeframes,
it may be possible to spot both short-term and long- term trends.
What is more important than Why?
It's been said, "A technical analyst knows the price of everything, but the value
of nothing". Technicians, as technical analysts as they are called, are only concerned
with two things:
- What is the current price?
- What is the history of the price movement?
The price is the end result of the battle between the forces of supply and demand
for any particular item. The objective of analysis is to forecast the direction
of the future price. By focusing on price and only price, technical analysis represents
a direct approach. Fundamentalists are concerned with 'why' the price is what it
is. For technicians, the 'why' portion of the equation is too broad and many times
the fundamental reasons given are highly suspect. Technicians believe it is best
to concentrate on 'what' and never mind why. Why did the price go up? It is simple,
more buyers (demand) than sellers (supply). After all, the value of any item is
only what someone is willing to pay for it. Who needs to know why? You may never
Many technicians employ a broad-based, longer term, macro, long-term analysis first.
The larger parts are then broken down to base the final step on a more focused/micro
short-term, perspective. Such an analysis might involve three steps:
- Broad market analysis through the major indices such as the S&P 500, Dow Industrials,
NASDAQ and NYSE Composite, or Commodity Futures Index, or other broad indexes of
- Group analysis to identify the strongest and weakest groups within the broader market
groupings, i.e. Indexes, Meats, Grains, Currencies, Metals, Energies, etc.
- Individual analysis to identify the strongest and weakest within each group.
The beauty of technical analysis lies in its versatility. Because the principles
of technical analysis are universally applicable, each of the analysis steps above
can be performed using the same theoretical background. You don't need an economics
degree to analyze a market index chart or commodity group. Charts are charts. It
does not matter if the timeframe is 2 days or 2 years. It does not matter if it
is a, market index, currency or commodity. The technical principles of support,
resistance, trend, trading range and other aspects can be applied to any chart.
While this may sound easy, technical analysis is by no means easy. Success requires
serious study, dedication and an open mind. Technical analysis can be as complex
or as simple as you want it.
The first step is to identify the overall trend. "The trend is your friend". This
can be accomplished with trend lines, or moving averages, or both. A Moving Average
(MA) is an average of data for a certain number of time periods. It "moves" because
for each calculation, we use the latest "x" number of time periods' data. As long
as the price remains above its uptrend line, or selected moving average or previous
lows, the trend should be considered bullish. The trend theory holds that an uptrend
remains intact as long as each successive intermediate high is higher than those
preceding it and each reaction low stops and holds at a higher point than did earlier
reaction lows. Conversely, a downtrend prevails when each intermediate decline allows
prices to fall below previous lows and rallies fall short of earlier rally highs.
Support and Resistance Areas:
Support and resistance levels are unquestionably among the most important of all
technical considerations. They are areas, which prices are expected to have difficulty
moving above and beyond (resistance and support), and they therefore deserve especially
careful consideration in buying and selling decisions. Support areas are areas
of price congestion or previous lows, below the current price, which mark support
levels. A break below support would be considered bearish. Resistance areas are
areas of congestion or previous highs above the current price which mark resistance
levels. A break above resistance would be considered bullish. The basic idea behind
resistance and support theory is simply that price levels that were significant
in the past will have significant impact on price action in the future.
Random Walk Theory:
The basic "random walk premise" is that price movements are totally random. Prices
move at random and adjust to new information as it becomes available. The adjustment
to this new information is so fast that it is virtually impossible to profit from
it. Furthermore, news and events are also random and trying to predict this (fundamental
analysis) is also a lesson in futility. While there are some good points to be gleaned
from the random walk theory, it appears to be a bit dated and does not accurately
reflect the current investment climate. Random walk theory was introduced over 25
years ago when institutions dominated the market. Those institutions had superior
access to resources and the individual was at the mercy of the large brokerage houses
for quality research. With the advent of online trading, power and influence are
shifting from the institutions to the individual. Resources are now widely available
to all at minimal cost, if not free. Not only can individuals access information,
but the internet ensures that everyone will receive it almost instantaneously. They
also have access to real time data and can trade like the pros. With the availability
of real time data and almost instant executions, individuals can act on information
like never before.
General Chart Analysis:
What Are Charts?
A price chart is a sequence of prices plotted over a specific timeframe. In statistical
terms, charts are referred to as time series plots, usually containing the open,
high, low, and closing prices.
Much of our understanding of chart patterns can be attributed to the work of Richard
Schabacker. His 1932 classic, Technical Analysis and Stock Market Profits, laid
the foundations for modern pattern analysis. In Technical Analysis of Stock Trends
(1948), Edwards and Magee credit Schabacker for most of the concepts put forth in
the first part of their book. We would also like to acknowledge Messrs. Schabacker,
Edwards and Magee, and John Murphy as the driving forces behind our understanding
of chart patterns.
Pattern analysis may seem straightforward, but it is by no means an easy task. Schabacker
states: "The science of chart reading, however, is not as easy as the mere memorizing
of certain patterns and pictures and recalling what they generally forecast. Any
general chart is a combination of countless different patterns, some being continuation
patterns and some reversal patterns, and its accurate analysis depends upon constant
study, long experience and knowledge of all the fine points, both technical and
fundamental, and, above all, the ability to weigh opposing indications against each
other, to appraise the entire picture in the light of its most minute and composite
details as well as in the recognition of any certain and memorized formula".
To name just a few there are: Double tops and bottoms, Head and Shoulder tops and
bottoms, Wedges, Flags, Triangles, Channels, Gaps (four types), Key Reversals, Island
reversals, and more. There are also Candlestick charts which provide a different
way of looking at, and analyzing, the same basic price data, open, high, low, and
A few other tools used on charts are Trend Lines, Support and Resistance areas,
percentage retracements, Fibonacci retracements, Time cycles, Elliot Wave Theory
Analysis, Gann Analysis, and more. Technical Indicator Analysis:
There are many ways to crunch the numbers and endless combinations.
Here is a list of some of the more popular Technical Indicators:
- Accumulation Distribution
- Advance-Decline lines and ratios
- Arms Index (TRIN)
- Bollinger Bands
- Commodity Channel Index
- Moving Averages (of various types)
- Moving Average Convergence Divergence
- McClellan Osc
- On Balance Volume
- Parabolic SAR
- Relative Strength Index (RSI)
- Stochastic (fast and slow)