In deciding what trades to take and when we all must use various forms of information to make those choices. How we arrive at the conclusion, though, consists of virtually unlimited combinations of options and pathways in both information acquisition and utilization. So, while it may be impossible to discuss every such combination, we all start from one of trading methods: Fundamental, Technical or Sentiment.
All three trading methods have the same goal of profitable trading, but take a look at the market in a different way to arrive at that conclusion. By understanding your own goals, personality, and skills, utilizing one to all three trading methods can be the path to successful and consistent trading. Let’s take a look at what each encompasses:
- Fundamental Analysis: This type of analysis relies on understanding the macro elements of each country, and hence each currency related to that country. It is like viewing each country as a company and deciding the strength of price based on similar fundamentals found in equities where numbers like GDP and interest rates might take the place of earnings and dividends. By understanding currency moves based on where interest rates might go, or how each currency is used during different macro economic events, the trader can benefit from proper analysis and make profits. Fundamental analysts pay close attention to various news announcements and central bank statements to determine both the valuation of the underlying currency and the direction in which they anticipate it to move.
- Technical Analysis: This method of understanding the market from price action, charts and indicators of various sorts. By understanding the moves price makes, we can “see through” the market and understand various forms of buying and selling pressure. Technical analysis is built on the reasoning that the collective psychology (the overall decisions) made by traders can be plotted and understood on a visual chart and through the use of indicators and oscillators. Technical analysis relies on the fact that faced with similar circumstances, such as approaching an important support/resistance, a reversal candlestick formation, fib level, etc…, that the market will likely follow a certain path or a small number of paths. This tends to be the most mechanical form of trading and can be devised in a way that removes any discretion from the trader. For this reason, it tends to be the most popular form of analysis to traders, although it can also be a shortcoming when the market acts “unusually”.
- Sentiment: This approach relies on getting an idea of what the net positions are on any pair. So if most people are bullish on the Euro, you start buying right? WRONG! Unlike what the surface idea of sentiment suggests, it’s actually a contrarian trading style. You see, if most people are bullish on a certain pair, then that means they are most likely buying and holding for some time. This increase in buyers will eventually turn into a large pool of SELLERS at some point as people try to “cash in” their gains. Sentiment traders are always looking to catch these reversals as they happen. That’s why even during a strong trend up/down, we can get some sharp pullbacks as former buyers/sellers try to capture gains, and sentiment traders are there to piggy-back or cause the reversals.
So, now comes the time where I tell you which one is the best right? NOT GOING TO HAPPEN. You see, they all have their place in trading, and it would be silly for me to say one is particularly advantageous over the other. It depends on your goals as a trader. For example, one of my friends takes the very long view of the market and trades fundamentals. Particularly with the Aussie and it’s high-interest rate. He likes to use fundamentals for the “carry trade” where he banks profits on the rollover from one day/week to the next. Myself, I am a heavy technical trader because it suits my personality and personal view of the market. I understand the visual processing of information and marking up charts is a skill I have worked on. That being said, I am constantly trying to develop skills in both the fundamental and sentiment arena. Regardless of which style you choose, make sure you stick to it in a disciplined manner so you can achieve the best results. As far as which is the best, that debate will have to continue into the future(s).
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