There are different ways to analyze movements in the foreign exchange market and predict how price action will fare in the future. These methods have their own merits and are helpful in determining setups with greater probability of winning. Which method you use depends on your knowledge and preference but you can also decide to combine the three types of forex trading analysis.
Firstly, traders make use of fundamental analysis. This method analyzes economic performance in order to determine if a currency will rise or fall in value. Strong economic data, which is reflective of good economic performance, usually leads to currency appreciation. On the other hand, weak economic data highlights poor economic activity, which then leads to currency depreciation.
Fundamental analysis also watches monetary policy of central banks. This has a direct effect on currency value because it has to do with the return on holding a currency and the amount of cash in circulation. With that, it impacts the supply and demand of the currency and therefore its price. Political and environmental factors could also play a role in fundamental analysis because these usually have an indirect impact on economic activity.
Secondly, traders use technical analysis. This method takes a look at past price action and looks for patterns that can repeat in the future. Specifically, chart patterns and candlestick formations have been known to be useful in predicting reversals or continuation patterns.
On top of that, technical chart indicators are also used in technical analysis. This includes leading and lagging indicators, such as moving averages or stochastic, which can be combined to predict market tops and bottoms. Inflection points or support and resistance levels also play a role in technical analysis.
Third, there's sentiment analysis. This takes a look at the bullishness or bearishness of traders for particular currencies. One way to conduct this kind of analysis is to take a look at the risk environment. This shows if traders are hungry for risk or if they are feeling averse to risk.
When risk is on, market participants usually go for higher-yielding currencies. When risk is off, traders usually buy up lower-yielding currencies such as the dollar and the yen. The Commitment of Traders report is a good gauge of market sentiment as well since it shows how large speculators and retail traders are positioned for some currencies.
In combining these different kinds of analysis, a trader can achieve better odds of winning a trade since he will be able to analyze the markets from various angles.
Firstly, traders make use of fundamental analysis. This method analyzes economic performance in order to determine if a currency will rise or fall in value. Strong economic data, which is reflective of good economic performance, usually leads to currency appreciation. On the other hand, weak economic data highlights poor economic activity, which then leads to currency depreciation.
Fundamental analysis also watches monetary policy of central banks. This has a direct effect on currency value because it has to do with the return on holding a currency and the amount of cash in circulation. With that, it impacts the supply and demand of the currency and therefore its price. Political and environmental factors could also play a role in fundamental analysis because these usually have an indirect impact on economic activity.
Secondly, traders use technical analysis. This method takes a look at past price action and looks for patterns that can repeat in the future. Specifically, chart patterns and candlestick formations have been known to be useful in predicting reversals or continuation patterns.
On top of that, technical chart indicators are also used in technical analysis. This includes leading and lagging indicators, such as moving averages or stochastic, which can be combined to predict market tops and bottoms. Inflection points or support and resistance levels also play a role in technical analysis.
Third, there's sentiment analysis. This takes a look at the bullishness or bearishness of traders for particular currencies. One way to conduct this kind of analysis is to take a look at the risk environment. This shows if traders are hungry for risk or if they are feeling averse to risk.
When risk is on, market participants usually go for higher-yielding currencies. When risk is off, traders usually buy up lower-yielding currencies such as the dollar and the yen. The Commitment of Traders report is a good gauge of market sentiment as well since it shows how large speculators and retail traders are positioned for some currencies.
In combining these different kinds of analysis, a trader can achieve better odds of winning a trade since he will be able to analyze the markets from various angles.