Trading CFDs is an activity that requires analysis. When you engage in online trading, you need to evaluate where an instrument’s price could go in the future. To successfully speculate on the direction of a currency pair, you need to analyze the factors that drive the price of an asset. One of the more popular ways to determine the next move of an asset is to perform fundamental analysis.
What is Fundamental Analysis?
Fundamental analysis is the process of evaluating the current macro conditions to determine if the current price of the instrument is overvalued or undervalued. This process differs from technical analysis, which is purely the study of past price movements to determine future trends in the exchange rate of a currency pair. Fundamental analysis could include how global GDP is performing, as well as growth and inflation within a country and how a particular sector is performing.
Fundamental Analysis for a Currency Pair
Each asset that you evaluate will have a different focus. The Fundamental analysis of a currency pair requires information about the countries of the currencies that make up the pair. For example, if you were planning to analyze GBP/USD, you would want information about the U.K. economy and the U.S. economy. One of the fundamental factors that usually drive the direction of a currency pair is the yield differentials between the two countries’ currencies. If you plan to engage in online trading of the GBP/USD as CFDs, you want to have a good idea of where U.S. Treasury yields are trading relative to U.K. Gilts. The yield differential is essential to online trading in that it helps provide a direction of the forward rate of the currency pair.
Since a currency pair is made up of two rates, the spot rate and the forward rate, you must have a gauge of where each might be going. The spot rate is a rate that describes the exchange of a currency pair within two trading days. The forward rate is the delivery of a currency pair after the spot rate. One way to analyze the fundamentals of the difference between the yields that make up a forward rate is to follow the economic releases that are reported by each country. Each month public and private agencies will release data that help determine the future movements of a country’s interest rates.
Using an Economic Calendar
One of the easiest ways to follow the events that can impact a country’s interest rates is to use an economic calendar, which includes the dates and times of economic releases and monetary policy statements scheduled throughout the month. Most economic calendars will tell you the date and time of the report and the last release number, key facts that are expected by economists. The expectation number is essential. You can assume that a currency pair or security value incorporates what is expected by the market. Any deviance from that expectation may cause a security or currency pair to move.
An economic calendar is a useful tool to enhance your online CFD trading. If you plan to use fundamental analysis as part of your trading arsenal, you need to follow particular events. The most critical events in the currency markets are monetary policy decisions. A decision announcement occurs when a central bank reports a change in its policy. This situation could include increasing interest rates, decreasing interest rates, or keeping interest rates unchanged.
Other important releases are indicators that can help central banks determine monetary policy. These reports could include employment announcements, such as the U.S. non-farm payroll release. It could also include inflation reports such as the consumer price index (CPI), the producer price index (PPI). Another significant release is the retail sales report. Additionally, when a country reports growth, it usually is announced during the GDP (gross domestic product) release.
What Can You Use for Stocks?
Another tool that you can use to determine when vital information is getting reported is an earnings calendar. This type of calendar tells you when certain companies are releasing their financial information. Like an economic calendar, an earnings calendar usually tells you the report’s date and time, what occurred during the prior quarter, and what is expected by analysts.
The Bottom Line
The upshot is that to evaluate securities using fundamental analysis, you need to understand the macro environment. For currencies, you can assess the economic backdrop using economic reports released by a country and evaluate how you think a central bank will view that data. You can track these releases by using an economic calendar. You can also use an earnings calendar to follow the financial results released by publicly traded companies. Using an economic and earnings calendar, you can follow the critical information that can help you perform fundamental analysis.