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Wednesday, October 21, 2020

It’s the Economy, Stupid: Forex Trading and Economic News

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Forex trading is a high risk, high reward form of speculation on the global currency markets. Not only are the Forex markets exceptionally volatile, but they are also notoriously unpredictable.

Successful Forex traders are those with a high level of financial education and an extraordinary capacity for risk-related stress. Beginner Forex traders require an iron rod of discipline and the ability to stick to a Forex trading strategy – whether the markets turn against them or go massively in their favor. But one thing that is often overlooked is how intricately linked the Forex market is to geo-political events and global economic news.

The study of global economic news and how it affects Forex trading is part of a subject called fundamental analysis. Fundamental analysis looks at the Forex market through the prism of social, economic, and political events. Some of these events are predictable, like the monthly US employment numbers (the non-farm payroll report or NFP); others are less predictable, like the outcome of the Brexit referendum in the United Kingdom or Trump’s election to the US presidency in 2016.

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Other events, often large news events, can come out of the blue and turn the financial markets upside down in seconds. Notable examples are the 9/11 attacks or the Fukashima nuclear power plant meltdown in Japan. While events like these are completely unpredictable, they have massive economic effects and can turn winning Forex trades into massive losses very quickly.

Most of the time, fundamental analysis is a more sedate affair. Those who trade the fundamentals will pay close attention to changes in economic indicators such as interest rates, employment rates, and inflation.The COVID-19 pandemic has been especially interesting for fundamentalists: Case numbers, deaths, government response – and the economic impact of government response – have all played a part in making the Forex markets incredibly volatile over the last few months.

Fundamentalists have been keeping a particularly close eye on the decisions of the Federal Reserve in the United States. The Federal Reserve is the central bank in the US and operates independently of any political leaders. In recent weeks, the board of governors of the Federal Reserve have made it clear that they are willing to let inflation increase above the usual limit of 2%, some members of the board believe that a looser economic policy will allow them to better tackle the economic fallout of the COVID-19 pandemic.

The consequence of higher inflation in the US would be a weaker US dollar. So, this move has sent the US dollar falling against the other major currencies, as investors and currency speculators look for more profitable markets.  Another reason for the weakening US dollar is uncertainty, investors hate uncertainty. The reason the British Pound collapsed so significantly in 2019 wasn’t that Brexit was on the horizon, it was because no-one knew what form Brexit was going to take, or even if it was going to happen. When economic outlooks are uncertain, investors like to sit on the side-lines rather than risk their money.

With the prospect of rising inflation in the US, there is an air of uncertainty to the economic situation – add the unpredictable outcome of the November election into the mix and investors are being rightfully careful.

All of this is gold-dust to a good fundamentalist Forex trader. Traders who have been buying Euro’s or British Pounds against the US Dollar have been doing very well for themselves. But who knows what is around the corner? COVID-19 has turned the world upside down and will continue to do so for some time. Many good traders have lost out badly by letting their greed get the better of them and throwing their risk management strategies out the window. But now more than ever, disciplined, and careful trading is of the utmost importance.

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