Fundamental analysis is taking less and less of an important role in today's forex markets.
Is this justified and on closer inspection, is this really the case? Fundamental analysis relies on the relative economic fundamentals of both nations to determine what the exchange rate between the two currencies should be.
Technical analysis, on the other hand, relies on a series of mathematical formulae to forecast the future forex rate.
The basic assumption here that technical analysts make is that all publicly available information is already incorporated in the market price and therefore there is no point in (re)analysing any fundamental data.
Forex perhaps is the most "technical analysis"-driven financial market nowadays.
It is such a large and liquid market that it's fair to assume that most, if not all the information is already incorporated into the exchange rate.
Make sense: the more players in a given market, the more pairs of eyes analysing the information available and the more likely is that that all of it is priced into the exchange rate.
Hence large importance of technical analysis in the currency market.
But this applies mostly to short term trading.
Most forex traders are short term traders - they have an investment horizon of 3 months or less.
So going back to the original point: the fewer the players, the less the market information will be incorporated into the price, the less important technical analysis become and the more important fundamental analysis becomes.
Hence the title of this article.
Over the short term (say a few days), fundamental analysis is unlikely to play a large role.
But if you are looking to make profits with a trading strategy that would require you to hold the position for anything more than a few days, keep an eye on fundamental analysis.
Let us not forget that the large hedge funds, CTAs and investment banks often hold positions on the basis of economic forecasts (i.
e.
fundamental analysis), and less on technical analysis.
If a piece of data comes out that causes them to unwind their position, such large volume on the market may cause the price to move.
If we really go to the bottom of the matter, you can argue that what a trader should be doing then should be predicting the reaction of these large players to economic data, not the economic data itself.
This is difficult to do however, as the positions are kept very confidential.
The good news however, is that once you predict the economic data release in itself, forecasting how the currency will react is fairly straightforward.
Is this justified and on closer inspection, is this really the case? Fundamental analysis relies on the relative economic fundamentals of both nations to determine what the exchange rate between the two currencies should be.
Technical analysis, on the other hand, relies on a series of mathematical formulae to forecast the future forex rate.
The basic assumption here that technical analysts make is that all publicly available information is already incorporated in the market price and therefore there is no point in (re)analysing any fundamental data.
Forex perhaps is the most "technical analysis"-driven financial market nowadays.
It is such a large and liquid market that it's fair to assume that most, if not all the information is already incorporated into the exchange rate.
Make sense: the more players in a given market, the more pairs of eyes analysing the information available and the more likely is that that all of it is priced into the exchange rate.
Hence large importance of technical analysis in the currency market.
But this applies mostly to short term trading.
Most forex traders are short term traders - they have an investment horizon of 3 months or less.
So going back to the original point: the fewer the players, the less the market information will be incorporated into the price, the less important technical analysis become and the more important fundamental analysis becomes.
Hence the title of this article.
Over the short term (say a few days), fundamental analysis is unlikely to play a large role.
But if you are looking to make profits with a trading strategy that would require you to hold the position for anything more than a few days, keep an eye on fundamental analysis.
Let us not forget that the large hedge funds, CTAs and investment banks often hold positions on the basis of economic forecasts (i.
e.
fundamental analysis), and less on technical analysis.
If a piece of data comes out that causes them to unwind their position, such large volume on the market may cause the price to move.
If we really go to the bottom of the matter, you can argue that what a trader should be doing then should be predicting the reaction of these large players to economic data, not the economic data itself.
This is difficult to do however, as the positions are kept very confidential.
The good news however, is that once you predict the economic data release in itself, forecasting how the currency will react is fairly straightforward.
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