“Don’t ever make the mistake of believing that market success has to come to you fast. Trade small, stay in the game, persist, and eventually, you’ll reach a satisfying level of proficiency.” – Yvan Byeajee, Paradigm Shift: How to cultivate equanimity in the face of market uncertainty
The Forex trading world is fast-paced and full of excitement. If you look at a graph of a currency pair like USD/GBP, you will see the price moving up and down in small increments 24 hours a day, 5 days a week. It can be overwhelming for a novice trader to find the trends in the price movements in order to open and close trades that move with the currency pair’s price movements.
Trading strategies: Fundamental and technical analysis
Therefore, the question that begs is how to determine the correct trading strategy for each trade. Succinctly stated, the art of successful Forex trading is reliant on the study, and accurate interpretation of the fundamental and technical analysis tools.
Before we delve into an explanation of fundamental and technical analysis, it’s vital to remember that on the Forex market, an asset equals two currencies that are called currency pairs like the USD/EUR. The reason for this name is that when you buy one currency, you have to sell another currency. The currency on the left is called the base currency, and the currency on the right is the quote currency. In this example, a trader will buy USD with EUR.
In essence, fundamental analysis is “a way of looking at the forex market by analyzing economic, social, and political forces that may affect the supply and demand of an asset.” The Economic Calendar is a useful tool to determine the day’s economic news events and how they will impact on a currency pair’s prices.
A second category that you need to consider under the fundamental analysis banner is geopolitical news events. There are many examples where global political events have had a substantial impact on the Forex market. Here are two of the more recent cases:
- Brexit: Brexit continues to dominate the news. The GBP seems to strengthen against all other major currencies when the reports from the Brexit camp are good. On the hand, reports that the Brexit talks are stalling and no deal can be reached between the European Union and Great Britain send the GBP into a downward spiral against currencies like the USD.
- The US-China trade war: A concise definition of a trade war is an “ongoing dialogue between two nations in which each tries to undermine the economic prowess of the other.” Additionally, trade wars tend to undermine the currencies of the involved nations. In our case, both the USD and CNY are being impacted negatively by this trade war as investors implement risk -aversion strategies to avoid getting caught in the potential devaluation of both currencies.
Technical analysis, on the other hand, utilises statistical information in the form of graphs and charts to determine asset price trends.
As a Forex trader, it is vital to study the historical, present, and forecast price movements of a currency pair to determine the trends in the price movements. Without this technical analysis, it is virtually impossible to know at what price levels to enter the Forex market at.
Two of the most popular indicators are the Relative Strength Indicator (RSI) and the Bollinger Bands. Both of these indicators are simple to understand and are used together to indicate price trends.
Let’s take a quick look at each indicator individually and then look at how they operate in conjunction with each other.
- Bollinger Bands: According to Investopedia, Bollinger Bands “are one of the most common volatility indicators used in technical [Forex] market analysis.” These bands consist of three disconnected, independent lines on an asset’s price chart. The first and third lines together represent a two-standard-deviation range, with the middle line representing a moving average calculation. Thus, the Bollinger bands show an asset’s price trends. The top line indicates the top of the price range where the price should turn downwards, while the bottom line indicates the bottom of the price range where the price should turn upwards.
- RSI: The Relative Strength Indicator is used to indicate an asset’s momentum (strength or force). Essentially, it compares the amount of time an asset closes up versus the time an asset spends closing down. The top and bottom outer ranges combined are equal to 100, and they are usually set to 70/30 respectively. Where the RSI returns a value of over 70, it is considered overbought, and conversely, it is considered oversold when the RSI is less than 30.
When both the Bollinger Bands and the RSI are used in conjunction with each other, they act as a reliable indicator of price trends. When the asset’s price is at the top of the Bollinger Bands, and it is over 70 on the RSI, the asset has been overbought and vice versa. However, if the Bollinger Bands and RSI figures do not correlate, then the asset is not overbought or oversold. Finally, this can indicate that the price will continue in its current trend.