Forex or foreign exchange refers to the network of sellers and buyers that transfer currency between them for a specific price. It is through forex trading that central banks, companies, and individuals transfer currency between one another. For example, a person traveling abroad has to convert their home currency to that of the visiting country.
Many foreign exchanges take place for practical needs. But the majority of it happens for the purpose of scoring a profit. As the volume of currency converted daily keeps fluctuating, their price movements can become highly volatile. This volatility makes forex trading an enticing possibility for many traders. It is always possible to earn huge profits, and risky too.
A pictorial representation of a comparison of the Euro to the U.S dollar. Image courtesy-Pexels
How forex trading works
Forex trading works in different ways. However, these methods have a common pathway: you buy a currency and simultaneously sell another. In earlier days, forex trade used to happen through forex brokers. But with the advent of the internet, this has changed into other modes like CFD trading, which allows you to factor in forex price movements.
CFD refers to leveraged products that allow a trader to open one position for a much smaller value than the trade. Contrary to non-leveraged products, one cannot own the asset but assume a position based on the assumption of the path market would take. Leveraged products can amplify profits, but also amplify loss if the market backfires.
Forex Analysis refers to the practice of evaluating the variations in currency prices and the factors affecting these changes. It helps forex traders to understand the market better so they can gain more from this trade. Let’s see what fundamental and sentimental forex analysis mean:
Fundamental Forex Analysis
Fundamental forex analysis involves observing the forex market through the economic, political, and social lenses as they impact currency price.
This basically involves finding the route cause of the price fluctuations. In other words, it’s about pinpointing the social issues and social factors that drive currency price change. It’s easier said than done because analyzing social factors affecting supply and demand is no easy task.
For example, it involves understanding the reasons behind major events of a country like unemployment. These affect the economy directly, leading to a rise or fall in demand for their currency.
The essence behind such analyses is that the overall economic status of a country is a reliable indicator of its currency strength. This is because the better the national economy, the more overseas ventures will invest in that nation. In other words, the demand to buy assets in that country’s currency increases, raising its value.
Let’s see an example for a better understanding of the concept. The U.S dollar gains strength because U.S national economy is strong. As the economy prospers, the country may have to raise interest rates to keep inflation and growth under control. The higher the interest rates, the more profitable are the transactions involving the dollar. Seeing this opportunity, traders and investors dive in to purchase greenbacks, raising the demand for the dollar further. Ultimately, the U.S dollar rises in comparison to currencies that are not so much in demand.
What Is Sentiment Analysis?
Forex sentiment analysis involves understanding the position of traders, whether it is net long or net short. This can help traders influence trading decisions taken for the currency market. It is possible to translate sentiment analysis into forex as well as stocks and similar assets.
One can observe that contrarian investors wait for crowds to sell or purchase a currency pair. Once this happens, they grab a position on the opposite side of the sentiment, in hopes of gaining higher rewards.