FUNDAMENTAL ANALYSIS - Lesson 7

In this lesson you will learn:

• What is Fundamental Analysis
• How do macro-economic data releases affect the market

Fundamental analysis can be described as "a method of evaluating a security, in an attempt to measure its intrinsic value, by examining related economic, financial and other qualitative and quantitative factors." In short, were forex trading is concerned; we look towards all the macro and micro economic information regarding the performance of a particular country or region, in order to establish the worth of its currency, versus other currencies.

Different Classifications of Fundamental Analysis

There are key description novice traders need to become familiar with regarding fundamental news trading and the data published; the publication either: misses, beats, or comes in as forecast. If the data "misses the forecast", then the impact for the relevant country is often negative. If the data "beats the forecast", it's considered positive for the currency versus its peers. If the data comes in as forecast, then the impact may be moderated, or neutralized.  Some of the macro economic data releases that may have a high impact on the financial markets are:

• Unemployment and employment numbers
• Inflation figures
• GDP

Unemployment and Employment Numbers

As an example we'll use the USA governmental department's unemployment and employment data. In particular the high impact monthly non-farm payroll data, has the ability to move markets, if the published data beats, or misses the forecast. We'll also use some likely, but hypothetical numbers, to illustrate how the data can be interpreted by investors.

Firstly, each trading week, usually on a Thursday, we receive the weekly number of recent unemployment claims and the continuing claims from the BLS; bureau of labour statistics. The recent claims for the preceding week may be 250k, greater than the previous week's 230k and missing the forecast of the 235k. Continuing claims may have risen from 1450k to 1500k, also missing the forecast. These data publications are likely to negatively impact the U.S. Dollar. Naturally the impact will lessen, depending on the severity of the miss.

Secondly; the now infamous NFP data is published once a month, it's eagerly awaited as it can often dramatically impact the value of the U.S. Dollar. However, it must be noted that the impact of this data is far less recently (2017) than in previous years. Shortly after the financial crises and subsequent credit crunch from 2007-2009 and during periods leading up to it, the series of  employment numbers relating to the NFP data were often extremely volatile, therefore the movements of currency pairs such as: GPB/USD, USD/JPY and EUR/USD were considerable. At the current time the NFP figures published are generally within a tight range, therefore the major currency pairs' movements are far less dramatic.

Inflation Figures

There are many inflation figures published by governments' official agencies, such as the ONS in the U.K. The ONS (official national statistics) publishes the UK's inflation figures each month, the key inflation figures are the CPI and RPI, consumer and retail inflation figures. The ONS also publishes figure such as wage inflation, the input and export inflation figures and home price inflation figures, but the CPI is regarded as the most prominent, both the monthly and annual (YoY) increase or decrease. We're using the UK's inflation figures as an example, because at the current time (2017), inflation is a key subject in the UK.

Inflation had spiked recently in the U.K. from a rate of 0.2% in 2016, to 2.9% in the first quarter of 2017. This rapid rise has created speculation that the UK's central bank (the BoE), through its monetary policy committee, will be forced to raise the base interest rate. The sudden spike in inflation has been caused by the UK's referendum decision to leave the EU. Sterling fell sharply versus its main peers (the euro and dollar) dramatically and despite a recent recovery, is still currently down approx. 15% versus both peers since June 2016. And in an economy approximately 70% dependent on the consumer spend, with retail and services being the key drivers, the impact of sterling's fall on the economy has been severe. Retailers are now (Q2 2017) witnessing sales collapsing (only up 0.9% annually), wage rises are falling; only up 1.9% annually, whilst the UK's GDP (gross domestic product) for the Q1 of 2017 was 0.2%, the lowest in the 28 countries that make up the EU.

If inflation comes in significantly ahead of the forecast, analysts and investors may listen carefully to various briefings from the UK's BoE, to ascertain if the central bank would raise rates in order to control inflation, therefore the pound sterling would rise versus its peers. Investors may en masse immediately translate a miss, or a significant beat, as reason to either go long or short a currency. 

GDP

Analysts and investors will always carefully monitor the GDP publications from various countries and or regions, in order to establish the economic wellbeing of the specific publisher. The releases are usually published by government departments and GDP data is often referred to as hard data; it's an important high impact release that if it misses or beats the forecast, has the power to move forex, commodity and equity markets.

Gross domestic product (GDP) is a monetary measure of the final market value of all goods and services produced in a period, generally by countries, as opposed to a global measure, or a continent's GDP; quarterly or yearly. An exception to this would be the Eurozone's GDP, which is broken down to individual countries, but a reading is also generated for the single currency blocs collective GDP.

Nominal GDP estimates are therefore used to determine the economic performance of a whole country, or region, allowing analysts and investors to make international comparisons. Nominal GDP per capita has one major flaw, in as much as it doesn't reflect the true differences in the cost of living and the inflation rates of individual countries, or regions. This is why many economists prefer to employ the basis of GDP per capita at what is termed "purchasing power parity" (PPP), as it's arguably far more relevant and accurate when looking to compare the differences in living standards between various nations.

The major advantage of GDP per capita, when used as an effective indicator of the standard of living in various regions and countries, is that it is measured frequently, widely and on a consistent basis. It is measured frequently and in unison; the majority of countries provide GDP information on at least a quarterly basis, although most advanced countries also provide it monthly, therefore it allows any developing trends to be quickly observed.

GDP is calculated so widely nowadays, that some measure of GDP is available for almost every country in the world, using very similar arithmetic technique, allowing simple inter country comparisons. It is measured so consistently that the technical definition of GDP is now a consistent measurement amongst the majority of G20 countries.

Analyzing fundamental analysis and applying it to our trading, is a relatively simple business. We need to be aware of the upcoming events on our calendar and ensure that (if we're a manual trader), we make ourselves available to deal with the impact of any given publication. Without a doubt it's fundamental events that move markets such as forex, commodities and equity indices. Whilst evidence exists that price reacts to reaching certain big moving averages, or pivot points, or Fibonacci areas, it's fundamentals that historically move our markets.