Let's begin our brief examination of fundamental analysis by observing that up until a century ago there was only one school of analysis, and there were still a large number of self-made trading millionaires. That one school of analysis, of course, was fundamental analysis. Technical analysis has been with us as an organized discipline since the end of the 19th century, but fundamental analysis has been here since the beginning of economics in the days of Lydians and Persians, at the very least. Those new to online Forex trading can benefit from this little detail as they make their decisions about the merits of the two schools of analysis.
Fundamental analysis aims to predict future market action on the basis of economic data and news. While technical analysis focuses strictly on the price, fundamental analysis studies the economic, political, and social dynamics in an economy in order to reach conclusions about an asset, which is a currency pair in Forex of course. As fundamental analysts are aim is to identify the most powerful forces driving the price action, and then to formulate our strategies on that basis. At different times different factors will acquire greater significance in fundamental analysis. For example, in the first half of 2008 the ruble would be expected to appreciate by fundamental analysts as oil became more expensive, and commodity prices were the most important dynamic behind the prices. In August 2008, however, as war between Georgia and Russia broke out, traders would disregard economic factors and sell off the ruble as political factors (in our case, a war) became the dominant mover of the currency prices.
It is important to make a distinction between news trading and fundamental analysis. The markets immediate reaction to news events is mostly unpredictable, since there is not time to evaluate and formulate a proper strategy so soon after a release. News trading is more about technical patterns than fundamental analysis. Fundamental analysis involves the refinement of news data, the isolation of important pieces from the irrelevant ones, and the construction of a big picture which can then be used as a long term road-map for trading. Economic events interact with each other, and individual pieces of data do not mean much for a Forex strategy in isolation.
Fundamental analysis is reputed to be hard, but there's no evidence for this. It does require a bit more thinking on the part of the trader, but given how profitable and satisfying it can be to succeed in trading, that is only a small price to be paid. If you choose to apply this method to your trading, and persevere in your practice, surely the rewards will be more than satisfactory in comparison to even your highest expectations.
By Carl Hayes