There are two main methods of predicting risk in Forex trading: fundamental and technical analysis. Fundamental analysis factors in all of the political, social, and economical aspects which may alter the value of a currency. This can include environmental catastrophes, changes to governmental policy, and social climate. Technical analysis instead focuses on historical trends in the market with the idea that history often repeats itself.
In studies, it was found that fundamental analysis is more accurate in for predicting the long-term trends on the foreign exchange market whereas technical analysis was more accurate for short-term predictions of less than 90 days. For predictions of between 90 days to a year, studies found that combining fundamental and technical analysis worked best.
While it is true that one method of analysis may be more appropriate in certain situations, a Forex trader would be completely remiss to overlook the fundamental or technical aspects of a currency trend. Yet, these forms of analysis are considered to be mutually exclusive. That is why it always comes down to the Forex trader to determine which aspects are going to be the most influential for that specific trade over its duration of time.
Here is an overview of the various fundamental and technical analysis considerations for predicting Forex trading.
The economy is the major force of fundamental analysis. Of course, the economy itself is affected by numerous forces which must be analyzed. On a basic level, the economy must be considered on a local level of the currency and the impact that the global economy takes on that local economy.
Political stability, or the lack of it, is a major factor in fundamental analysis of Forex trading. Do keep in mind that political stability can change rapidly which is why it is wise to look at technical analysis while factoring in any political stability factors. Fundamental analysis should also look at governmental policies, agency reports, interest rates, assets, and employment rates of a country.
Technical analysis of Forex trading usually is done with complex charts which show the market trends over a course of time. While these trends can usually be directly linked to fundamental aspects (such as a drought or a new government policy), the idea of technical analysis is that history will repeat itself. Rather than looking at the fundamental aspects which caused the changes in trends, the technical analysis will look at the larger picture to get an idea of the market’s direction.
There are numerous types of charts which are used in technical analysis of Forex trading, such as bar and candlestick charts. There are also many methods used for analyzing the charts, including the Fibonacci study, Pivot points, and Elliott Wave theory. Forex traders can purchase software programs which use technical analysis to predict market trends. But do keep in mind that no program is perfect. It would be unwise to completely ignore the fundamentals, like a natural disaster occurring, when managing your Forex risk.