It is frequently held that the secret to profitable Forex trading is information but, although correct and up-to-date information is indeed essential for foreign currency trading, it is the analysis of this information that is the real secret. There are currently two main forms of analysis which are used in currency trading � technical analysis and fundamental analysis - and in this brief article we are going to examine just what is meant by fundamental analysis.
At its simplest, fundamental analysis scrutinizes political and economic conditions that might have an affect upon foreign currency prices and Forex traders who make use of fundamental analysis rely upon news reports for information on a whole range of things including economic policy, inflation, growth rates and employment rates.
Basically, fundamental analysis gives an outline of currency movements together with a broad picture of economic conditions that might well affect the value of a particular currency. With this picture in mind, foreign currency traders will then frequently move on to make use of technical analysis to plot entry and exit points into the market and to add to the information gained from fundamental analysis.
The foreign exchange market is much like any other market and is affected by the laws of supply and demand, which are also affected by economic conditions. Two economic factors affecting supply and demand are the strength of the economy and interest rates and the strength of the economy is affected by the gross domestic product (GDP), foreign investment and the country's trade balance.
Various economic indicators are released by governments and by other sources and are normally held to be reliable measures of the health of an economy that are followed by all sections of the investment market. Most economic indicators are released monthly but some are released more often and normally weekly.
Two of the main fundamental indicators are international trade figures and interest rates, but other particularly helpful indicators include the producer price index (PPI), durable goods orders, purchasing manager's index (PMI), consumer price index (CPI) and retail sales.
Interest rates are a particularly important indictor because they can have either a strengthening or weakening affect on a currency. For instance, high interest rates might attract foreign investment and strengthen the local currency, while investors in the stock market often react to rising interest rates by selling because of a belief that higher borrowing costs will have an adverse affect on many companies. Large-scale selling by stock investors can frequently lead to a downturn in the stock market and the national economy.
International trade indicators are also especially important to the foreign exchange trader. A trade deficit, with imports exceeding exports, is normally seen as an unfavorable indicator as money flowing out of the country to purchase foreign goods might well have a devaluing affect on the currency. However, fundamental analysis will also provide an indication of the expectations of the market and these will often dictate whether a trade deficit is unfavorable. It could be the case, for instance, that a county normally operates on a trade deficit and that this fact has already been factored into the price of its currency. In general, a trade deficit will only affect currency prices in cases where they are above the level that the market would usually expect to see.
Each country has its own set of economic indicators (currently there are some twenty-eight major indicators being used in the United States) and these strongly influence the financial markets. As a consequence, Forex traders must be aware of them and examine them with care when preparing their trading strategies.
Luckily, for those traders who are working online, many websites today carry a wealth of the latest information, but it is up to individual Forex traders to take this information and apply the principles of fundamental analysis to it in order to formulate their trading decisions.
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