Currencies are among the largest and most actively traded markets out there. This is important to know because this means there is a lot of liquidity in the market, making it easier to get in and out of trade. However, this alone will not do you any good unless you understand the underlying currencies and how to trade them.
In this article, I will be reviewing how to trade the Euro/US Dollar pair, which is one of the main pairs traded in the currency market. As you know, currencies react mostly to macro events within a country. That’s why it is important to keep an eye on GDP figures, unemployment, consumer confidence, etc.
Currently, Europe continues to face its debt crisis and a recessionary environment. These events have given the US dollar the upper hand as it has strengthened considerably against the Euro and other pairs around the world. With that said, US macro conditions continue to be soft as the economic recovery continues its slow process. From a short term standpoint, the US dollar continues to be a “safe haven” asset which will continue to put downside pressure on the Euro. However, once conditions show signs of improvement out of Europe, it may be time to switch to the long side of the pair. However, it is still too soon to think about being long the Euro.
To tie it together, the macro reports and events described above are considered fundamental data which could be used to trade. Conversely, you could trade the Euro/USD using technical analysis. If you are unfamiliar with technical analysis, it is the art of following the charts with little to no regard for the fundamentals; although, it is important to match up your technical opinions with the fundamentals.
To use the EUR/USD daily chart above, we can see that the pair is currently in an downtrend. That means that the Euro is currently losing ground against the dollar. However, we can visually see that the pair hit a new low just above $1.20 in late July. Since then, the Euro has made up some ground but quickly faces resistance at around $1.24 or so. The Euro will have to break this first resistance to be considered further as a long.
As you read above, this is the starting conversation you should have with yourself when you open a chart of the pair that you want to trade using technical analysis. From here, you would move on to your indicators to get a more in depth look at where the pair is heading.
The bottom line here is that the currency market moves quickly and is, essentially a 24 hour, 6 days a week market. This poses other risks such as your position moving against you while you sleep! This is why you use stop orders which limit your downside risk in the event that your trade does not work out. Additionally, it is important to check and see if any country’s currency that you are trading has important economic data out while you sleep.
I will give you an example. Say you are living in the US and you are trading the EUR/USD pair. I would hope that the trader knows the US data schedule but it is equally important to keep an eye on any data coming out from Europe. If the trader falls to keep tabs on both economic data sources, you could be exposing yourself to extreme risks.
With that said, fundamentals and technicals can be used to trade currencies but remember to check your technical findings with the underlying fundamentals. Trading currencies can be very rewarding but it takes iron discipline and a thorough understanding of what you are trading.