Learn Fundamental Analysis for Forex Trading – Fundamental Analysis vs Technical Analysis
As a modern-day trader, no matter what instruments you invest in, how much experience you have, or what your future goals are, one of the most important things to focus on is information. Gaining as much information about what you’re trading can help you make more informed trading decisions, but what exactly does that information look like? Say, for example, you’re a forex trader—beyond knowing what currencies constitute such popular currency pairs as EUR/USD and USD/JPY, what sort of information should you be gathering in order to make more confident trading decisions?
The answer falls into two categories: fundamental analysis and technical analysis. We’re sure you’ve heard of both, but you may not be as familiar with one as the other. Not to worry. Today we’ll break down the difference between the two and introduce some factors of both that you can start practicing today. Although both are quite different in their approach, learning the basics of fundamental analysis for forex trading as well as technical analysis (and how to combine the two) can be invaluable to your trading strategy going forward. Ready to begin?
Fundamental analysis for forex trading
Simply put, fundamental analysis is used to measure the fundamental value of your trading instrument (in the case of forex trading that means pairs like EUR/USD and USD/JPY) by taking a close look at the external factors that can affect its price and performance. This includes a variety of public data such as economic factors, interest rates, geopolitical tension, the general state or health of the economy—basically stuff you could pick up on a variety of financial or online trading sites as well as the evening news. Of course, before springing straight for these facts and figures, it’s also important to do your research to understand the connection between them and whatever instrument you’re trading. Let’s use interest rates as an example. In forex trading, it’s generally believed that as interest rates increase, the interest in the currency of a country also increases, which tends to affect its currency price. And when talking about two of the world’s most traded currency pairs—EUR/USD and USD/JPY, the topic of interest rates rarely fails to make front page news, providing traders with plenty of information.
In essence, using fundamental analysis for forex trading can help you gain a collective feeling of which way a currency pair’s price will go. Here’s a basic example: if a certain country seems to be experiencing economic turmoil—such as most of the world during the Covid-19 pandemic—you can use that knowledge to decide whether its price will increase or decrease by a certain date depending on the data you gather, such as an announcement from the country’s leader about an economic stimulus package. Fundamental analysis for forex trading should never be thought of as a guarantee, but rather guidance to help you better understand how the markets work.
Technical analysis for forex trading
While fundamental analysis more or less requires gathering information from the present, technical analysis relies more on analyzing past data of an instrument’s market performance to identify trends and speculate future price movements. Like fundamental analysis, technical analysis is never a guarantee of which way a price will move, as past performance is never a reliable indicator of future performance, but rather a great way to learn about the history of your instrument and what sort of factors have affected its price in the past.
There are many different trading strategies that fall under the umbrella of technical analysis, but three of the most widely used include Fibonacci retracement levels, Bollinger Bands, and MACD.
Fibonacci Retracement Levels
Remember learning about the Fibonacci sequence in school? This is based on the same principle but adapted to trading forex pairs like EUR/USD and USD/JPY. The basic gist of how Fibonacci retracement levels work can be summed up as: when an instrument’s price is moving in one direction, its pullback will match one of the percentages that form the Fibonacci retracement levels (23.6%, 38.2%, 50%, 61.8% or 76.4%). Need a visual? Let’s say a price goes from $10 to $11—the Fibonacci theory posits that its pullback could be 23 cents, 38 cents, 50 cents, 62 cents or 76 cents. Using Fibonacci retracement levels as guidance may help you choose which direction to open your CFD deal but remember—it’s never a guarantee.
Named after their founder John Bollinger, Bollinger Bands involve creating trend lines that are two standard deviations away from the simple moving average price of your instrument. The general belief is that Bollinger Bands can help identify changes in volatility by indicating when an instrument is overbought or oversold, which could be of use in helping you determine whether to open a ‘Buy’ or ‘Sell’ deal.
Moving Average Convergence Divergence—or MACD for short—is employed by traders to spot trends and indicate whether they are bullish (increasing) or bearish (decreasing). MACD uses three figures: the faster moving average, the slower moving average, and the moving average of the difference between the faster and slower moving averages. Think of each figure as a line overlaying a typical market performance chart. The movement of these lines are used to spot trends: when the lines come together it’s called convergence, and when they move away from each other, it’s called divergence. The point: understanding when the lines cross above or below the signal line can indicate whether a trend is bullish or bearish and help you make a more informed trading decision.
Confused? Don’t worry.
This was just a basic introduction of both technical analysis and fundamental analysis for forex trading. While technical analysis seems like it requires a degree in mathematics to understand, the good news is that most brokers offer technical analysis functions built right into their trading platforms, meaning all you have to do to find out the Fibonacci percentages or MACD numbers is tap a button and let the app do all the work for you.
If you’d like to use technical analysis or fundamental analysis for forex trading, the next logical step would be to do further research to learn more about how they function and affect prices of top forex pairs like EUR/USD and USD/JPY. And remember—while both types of analysis can be helpful, neither are meant to be taken as a guarantee or trading advice. There are no guarantees in online trading—just the experience you build. Best of luck on your trading journey.