Fundamental analysis is an important part of forex trading that everyone should know about.
But what exactly is fundamental analysis in forex? In this article we’ll look at how traders use it in their daily trading activity and explain what it is.
Let’s take a look:
What is the fundamental analysis in forex?
It’s basically a method of analysing the forex market to see if there’re any situations that could affect the market.
Situations to look out for include any that could change the supply and demand of an asset, as well as affect the movement of a currency.
Supply and demand is a classic trading concept that’s been used by traders since ancient
times to determine prices. These days it allows forex traders to establish the currency exchange rate for the forex market.
However, when supply and demand is used by traders, they must also use analysis alongside it.
This is so that all the different conditions that influence supply and demand can be analysed.
Although forex traders are not fortune-tellers, it’s possible for traders to make an educated guess about the market. This can all be done by assessing 3 fundamental conditions which can adjust the supply and demand.
What are these 3 fundamental conditions?
The 3 Fundamental Analysis Conditions
These are the 3 main fundamental analysis conditions that must be considered:
- Political conditions
- Economic conditions
- Social conditions
All the above fundamental conditions can shape and change the forex market.
This is because they’re all factors that can cause major changes to the forex market. These changes can impact the foreign exchange rate and other assets. Let’s look at some examples of these now:
Political conditions: this can include things such as Governmental changes, election results and political relations with other countries. One good example of this is the ongoing trade ‘war’ between the USA and China. This situation has affected trade tariffs, which in turn has affected the USD value.
Economic conditions: these fundamental conditions can be applied to many economic events. For example, when countries release their economic growth data. Traders can see how healthy a country’s economy is by analysing GDP rates, inflation and general economic policies.
Social conditions: this covers data that looks at social changes. For instance, a countries current unemployment rate or housing market prices.
Importance of Fundamental Analysis Conditions
It may not be immediately clear why a country’s unemployment rate should affect it’s national
currency- but it does in quite a big way. The main thing to remember is that an increase in the unemployment rate would affect the country’s economy negatively.
Because of this negative impact, the demand level for that country’s currency would change.
That’s why the main thing to remember about fundamental analysis is that positive & negative conditions will normally affect a currency the same way.
For example, let’s say that the United States future and present economic positions look good. You have analysed this using the 3 fundamental conditions and everything looks positive. As a result their currency, the $/USD, should also increase in value.
This is why traders use fundamental analysis in forex to examine possible changes that could affect currency value. It also helps to understand which countries economies are doing well and which ones are not.
When a countries’ economy is strong and performing well, they’ll attract more wealth as overseas companies will want to invest in that country.
For foreign companies to buy their chosen investments, they’ll need to buy up that countries national currency. When they have enough of that national currency they’ll be able in to purchase and acquire the planned investments.
This will cause the value of the national currency to increase due to the economy improving from outside investment and wealth creation.
Of course for forex, traders should also be on the lookout for countries whose economic situations aren’t looking so healthy. Poor economic situations could be a sign that a specific currency may drop in value.
Example of Fundamental Analysis
To understand a clear example of fundamental analysis, let’s imagine a situation where an economy is struggling.
For instance let’s say that in Britain, after an analysis, the £/GBP has been dropping in value because the British economy is struggling.
When the economy continues to weaken, the banks may need to lower interest rates to manage inflation and prices.
These lower interest rates will cause GBP listed financial resources and assets to be less attractive to investors.
So to avoid losses, investors and brokers must sell their GBP based assets.
This action, plus the fact that the economy is struggling, would likely cause the GBP to fall in value and affect the forex market.
Of course this is just an example of a situation, however fundamental analysis can be applied to any situation which is likely to affect a country’s political or economic situation.
That’s why it’s important for you to stay aware of global events that are likely to affect the forex market.
Conclusion to Fundamental Analysis in Forex
Although fundamental analysis in forex sounds complicated, hopefully this article shows that it doesn’t have to be a headache for traders.
However, we would always recommend that each forex trader keeps a note of all major global news events to stay up to date with what’s happening in the world.
That way a forex trader can always be ready to analyse any potential event that might affect a currency or country economically. Always keep an eye out for election news, trade tariff changes and political updates.
These are all relevant situations that can help you when using fundamental analysis. It’s also worth mentioning that many forex brokers offer access to economic calendars. These calendars list daily as well as monthly events that are likely to affect the markets.
With an economic calendar it’s possible to filter for events by their economic impact level and by date. Because the forex market is a global market there is also the option to filter the calendar results so that events can be viewed by country and time zone.
So make sure to take advantage of this tool so you can stay aware of important events. This will all help you to analyse situations.
It’s important to remember that with good analysis, you can make the most out of the market.
Here to learn more about other important forex strategies and analysis that work: https://tradingonlineguide.com/what-is-forex-trading/forex-trading-strategies/