Forex traders often use a variety of economic data to determine where a given country’s economy and currency may be headed next. This data may include: Gross Domestic Product (GDP), imports, exports, employment, unemployment, growth, debt and many other factors. Collectively, these factors are often referred to as the fundamentals. Therefore, fundamental analysis refers to the analysis of any data, as well as the actual price patterns of the currency itself. The price patterns frequently impact on the value of the currency on the Forex market.
Supply and Demand
The value of currencies responds to changes in supply and demand. For example, if the demand for US Dollars rises, so will the value of the Dollar (USD). Likewise, if there are too many Dollars available on the market their value will drop along with the demand.
Forex Currency Pairs
Currencies on Forex are traded in pairs – one currency’s value either drops or rises in comparison to another. Currencies are represented by a three-letter abbreviation such as USD, JPY or EUR. In the currency pair, the first currency is called the base currency and the trailing is called the quote currency. The price at any given moment shows how much of the quote currency is needed to equal one unit of the leading or base currency.
For example: When the EUR/USD pair is priced at 1.5000, this means that it takes 1.5 US Dollars to exchange for 1 Euro. If the Euro rises in value, then the EUR/USD price will also rise as more US Dollars are needed to buy each Euro. Likewise, if the Euro drops in value, then the price of the EUR/USD pair will also drop as fewer US Dollars are now required to equal each Euro.
The value of the leading or base Forex currency is not the only factor in determining the value of a particular currency pair. Any change in the value of the trailing or quote currency also affects this relationship.
So, in the same example, if the US Dollar now rises in value, then the EUR/USD pair would drop as fewer Dollars are now needed to buy each Euro. If the US Dollar drops in value, then the EUR/USD price would rise, as more US Dollars are now required to equal each Euro.
Another key factor that influences the value of a given currency is the constantly changing interest rate. Interest rates are determined by the central bank of a particular country.
For example: If the Federal Reserve (Fed) in the United States lowers its interest rate, then the value of the US Dollar usually drops, causing the EUR/USD pair to rise. If the Fed raises interest rates, then the US Dollar will typically go up as well, causing the EUR/USD to drop.
Central banks are always caught in a delicate balancing act. If a country’s currency gets too strong, its exports become too expensive and other countries may look elsewhere.
Higher interest rates also tend to attract more foreign investments, which is why the currency of that country frequently goes up with the interest rates. Meanwhile, cheaper interest rates tend to stimulate lending inside the country and therefore economic growth.
The most important indicator is the GDP report. Basically, the GDP is the broadest measure of the state of an economy. The GDP is an aggregate monetary value of all the goods and services produced by the entire economy during a quarter (excluding international activity). The key number to look at is the GDP growth rate. Generally, deviations from the normal level can prove to be rather influential. Growth above this level is often thought to be unsustainable and a precursor to high inflation, while growth below this range (and especially negative growth) means that the economy is running slowly, which can lead to increased unemployment and lower spending. It is worth noting that each initial GDP report will be revised twice before the final figure is settled upon: the advance report is followed by the preliminary report about a month later and a final report a month after that. Significant revisions to the advance number can cause additional ripples on the markets.
Do not confuse Gross Domestic Product with Gross National Product (GNP). GDP includes only goods and services produced within the geographic boundaries of a country, regardless of the producer’s nationality. GNP does not include goods and services produced by foreign enterprises but does include goods and services produced by national firms operating in foreign countries. For example, if a U.S. firm was operating a chain of stores in France, the goods and services produced by those stores would not be included in the GDP but would be included in the GNP. As the global economy grows, the difference in GDP and GNP is decreasing for developed countries like the U.S. But for smaller, developing countries, the difference can be substantial.
The PPI is one of the two basic ways to measure inflation (the other one is the CPI). The index measures the price of goods at the wholesale level. So, while the CPI tracks the cost paid for goods by consumers, the PPI shows how much the producers are getting for the goods. There are three types of goods measured by the PPI: crude, intermediate, and finished goods. Crude goods are raw materials used in production of something else, intermediate goods are components of a larger product, and finished goods are what is actually sold to a reseller. The finished goods data are the most closely watched since they are the best gauge of what consumers will actually have to pay. The Core PPI is a measurement of prices assessed by producers of goods and services, factoring out the items that fall under the food and energy category.
The Retail Sales Index measures goods sold within the retail industry, from huge chains to small local stores, by taking a sampling of a set of retail stores across the country. This report reflects data for the previous month. Many analysts prefer to look at the figures excluding auto, which means excluding the volatile car sales figure. This number is believed to be a better measure of across-the-board purchasing trends. The report does not include money spent on services, so it represents less than half of total consumption during the month. However, even with these limitations, the figures are closely watched as an indicator of the state of the economy.
The Beige Book is part of the Federal Open Market Committee’s preparations for its meetings and is published eight times a year. The report is released on two Wednesdays before each FOMC meeting at 2:15 pm EST. The book is a summary of economic conditions in each of the Fed’s regions. The report is mostly seen as an indicator of how the Federal Reserve might act at its upcoming meeting.
The indicator signals industrial demand on durables and non-durables. An increase in the reading indicates a possible growth in production activity, while a decrease signals a phasedown. That is why the currency rate rises on increases and falls on decreases. This indicator includes Durable Goods Orders and Non-durable Goods Orders. The Durable Goods Orders indicator includes goods with intended lifespan of more than 3 years (cars, furniture, building materials), which make more than 50 of the total. Non-durable goods orders include food, clothes, light industrial goods etc. The Factory Orders report characterizes production activity. Increase in the indicator is a positive factor for the economy, while decrease in the indicator signals a downturn.
This weekly report indicates the number of claims applied to the Employment Department for the redundancy awards. This is an up-to-date, but often delusive, indicator of economic tendency. Increase/decrease in the number of those who applied for initial claims signals in favor of growth slowdown/acceleration. In this respect, the influence of this report on the market is low, though some impact on trading behavior is probable in rare cases. Due to the weekly data variability, most of analysts prefer monitoring the four-week moving average to get a more distinct reading while determining the main market tendency. Usually strong displacement (about 30K) is considered to get significant change of the trend. The steady decrease in initial jobless claims signals economic growth and improvement in the labor market and causes the dollar growth. The readings above 400,000 point to the problems in the labor market.
ZEW Survey is the main indicator of investors’ confidence. It is calculated on basis of 350 analysts’ and institutional investors’ poll. The indicator reflects the difference between analysts who are optimistic about forthcoming economic development of Germany within six months and those who are pessimistic. If most of respondents are optimistic, the reading is above zero, if pessimistic — below zero. Example: if thirty analysts are optimistic, thirty are neutral and forty are pessimistic, the reading will make -10. The survey is used for German economic prospects estimation. ZEW Survey growth triggers the euro growth.
Personal Income measures households income from all sources before personal income tax is paid. It includes rental income, interest income, government subsidy payments, dividend income, etc. Personal income indicates future consumer demand. It is reported together with Personal Spending. Personal income increase may trigger growth in retail sales, which is a positive factor for economic development and provoke USD rise.
This is a monthly survey of consumer confidence conducted by the University of Michigan to detect consumers’ sentiment. In fact, consumers’ willingness to spend money is measured. It is a leading indicator of the consumer climate. It consists of two components: sentiment (about 40% of the total index) and expectations (the other 60%). About 500 consumers answer five questions about current and future economic situation (two and three questions correspondingly). Answers to the first two questions form Current Conditions survey, whereas the last three questions form the Expectations index. The increase in the index signals positive perspectives of the economic growth, whereas decrease signals possible deceleration in growth. The index increase triggers USD rise.
Chicago PMI is the result of Chicago industry purchasing managers polling. It characterizes manufacturing orders, output prices, and inventories. The readings below 50 indicate an economic recession. The index is very closely watched. It has a significant impact on the market because it can give an idea of what will be the ISM Manufacturing Index. The report is released on the last business day of each month at 3:00pm (GMT).
The index is based on a survey of more than 300 manufacturing firms by the Institute of Supply Management. The ISM Manufacturing Index monitors employment, production inventories, new orders, and supplier deliveries.
By monitoring the ISM Manufacturing Index, investors are able to better understand national economic conditions. When this index is increasing, investors can assume that the stock markets should increase because of higher corporate profits. The opposite can be thought of the bond markets, which may decrease as the ISM Manufacturing Index rises because of sensitivity to potential inflation.
This index shows the number of new dwellings sold in the past month. An increase in home sales suggests a growing housing market which tends to fuel the rest of the economy. The New Home Sales report confirms trends in housing reports that record earlier stages of construction such as Building Approvals and Construction Work Done and is considered a leading indicator for broader economic developments.
The headline figure is the percentage change in housing sales from the previous month.
This indicator reflects the rate of growth in housing construction. The Housing Starts report acts as an indicator measuring the strength of a construction sector and housing market. Economists also use the figure as a leading indicator for the economy as a whole due to Housing Starts’ sensitivity to changes in the business cycle. The number of housing starts dwindles at the onset of a recession and quickly grows at the beginning of an economic boom; consequently, a high Housing Starts figure forecasts strong economic growth.
The headline figure is the percentage change in new home starts.
Consumer Confidence is a measure of popular sentiment regarding an economy. The figure is derived from a survey that asks thousands of consumers about personal expenditure patterns and inflationary expectations. In general, rising consumer confidence precedes increased consumer spending, which drives both economic growth and inflation.
A headline figure above 50 shows positive consumer sentiment, while a number below 50 shows negative consumer sentiment; the greater the distance is, the stronger the sentiment is.
The CPI is the most widely used measure of inflation. It gauges changes in the price level of a market basket of consumer goods and services purchased by households. The bundle includes about 200 types of goods and thousands of products, ranging from foods and energy to expensive consumer goods. The prices are measured by taking a sample of prices at different stores. In addition to the overall CPI figure, it is important to also look at the core CPI report excluding volatile goods like food and energy and gives a closer measure of real inflation. Most reports of the CPI figures will include both the overall and the core numbers.
There is also a harmonized CPI (HICP). This is an indicator of inflation and price stability for the European Central Bank (ECB). It is a Consumer Price Index which is compiled according to a methodology which has been harmonized across the EU nations. The HICP is produced by each European Union country to help measure inflation and to guide the ECB in shaping its monetary policy. The HICP is also used as the basis of the European Index of Consumer Prices that is weighted towards household expenditures.
One of the key macroeconomic indicators is the Unemployment Rate, which is the percentage of unemployed workers above 18 years in relation to the total labor force. It is based on a survey of a random sample of about 60,000 households, 375,000 plants. The unemployment rate is calculated by dividing the number of unemployed by the number in the labor force, where the labor force is the sum of the unemployed and the employed. The natural rate of unemployment is considered to make about 4-5% of the labor force. It is treated as an indicator of possible inflationary pressure through wages increase. Salary is considered to grow faster with low unemployment rate, especially in case inflation acceleration is expected.
There are also such reports as the Average Workweek and Average Hourly Earnings. It should be kept in mind that the work force is not the entire population; it is a subset of people that meet certain criteria. The unemployment picture is a key gauge of the health of the economy while the Average Hourly Earnings figure impacts inflation.
Non-Farm Payrolls, known as Non-Farm Employment Change, is a fundamental indicator, which measures jobs added in the previous month. The report excludes farm-related jobs because they tend to be seasonal general and not necessarily indicative of employment trends. In addition to these standard reports, the U.S. statistical authorities also publish a weekly Initial Jobless Claims report on the number of people filing for unemployment benefits for the first time. These numbers help to take the pulse of the job market. Another crucial report on employment in the U.S. is the ADP National Employment Report that estimates the changes in U.S. employment using payroll data for over 500,000 firms from Automatic Data Processing, Inc. (ADP). This information is compiled by Macroeconomic Advisors, LLC into a report showing aggregate numbers, as well as segments defined by companies’ size, goods versus services, and manufacturing vs non-manufacturing firms.
Consumer confidence is considered an essential element of the economic picture. The report measures how confident consumers feel about the state of the national economy and their spending potential. The idea is that the more confident people feel about the stability of their incomes, the more likely they are to make purchases. The Consumer Confidence Index uses about 5,000 households as a sample population and even measures the number of help wanted ads in newspapers to gain a sense of the state of the labor market. Many analysts believe that high consumer confidence can cure a lot of what ails an economy. When most data points to a slumping economy, high consumer confidence and consistent spending may help soften the blow or spark a recovery.
The Durable Goods Orders report measures how much people in the U.S. are spending on long-term purchases (products that are expected to last more than three years). The report is made at 8:30 am EST around the 26th of each month and is thought to provide insight into the future of the manufacturing industry. The reports are broken down by industry, which helps to eliminate the effects of single volatile industries like defense spending. Investors are concerned with the overall picture, and the markets are moved by general trends across most industries.
Current Account is the sum of the balance (i.e., net revenue on exports minus payments for imports), factor income (earnings on foreign investments minus payments made to foreign investors) and cash transfers. The current account balance is one of two major measures of the nature of a country’s foreign trade (the other being the net capital outflow). A current account surplus increases a country’s net foreign assets by a corresponding amount, and a current account deficit does the reverse. Both government and private payments are included in the calculation. It is called the current account because goods and services are generally consumed in the current period.
To compose a survey, about 8-10 thousand businessmen from different economic spheres are polled. The companies, among which 10-15 are large enterprises, 30-35 — medium-sized enterprises, 50-55 small enterprises, are asked about 1) business environment, 2) production and sales, 3) demand and supply, 4) prices level, 5) gains, 6) direct investments, 7) employment, 8) fiscal conditions. Top managers are polled separately. Estimation methods: Diffusion Index (DI) — «Favourable» minus «Unfavourable», % points, percent change — change of the index in relation to the same period of the previous year. The survey increase signals improving economic conditions and is favourable for the JPY rise.
PCE is a measure of price changes in consumer goods and services. Personal consumption expenditures comprise actual and imputed expenditures of households; the measure includes data pertaining to durables, non-durables, and services.
Similar to the CPI, the PCE is a report (a part of the Personal Income report) presented by the Bureau of Economic Analysis of the Department of Commerce.
The PCE is a fairly predictable report that has little impact on the markets.
This indicator measures the degree of industrial capacity utilization. This is the ratio of total output to the maximum-rated capacity. It shows the current state of the economy. The optimal value of this indicator is 81.5%. The value more than 85% signals that the economy is overheated. A lower value implies a weakening currency and economy
The index surveys about 100 manufacturers from Philadelphia, the U.S., which indicates their attitude towards the current economic situation and perspectives for the nearest six months. The index signals growth slowdown when it is below zero. This index can indicate what to expect from the ISM Index (Institute of Supply Managment’ index), which comes out a few days later. This index increase triggers USD rise.
Personal Spending is a comprehensive measure of how much consumers spend each month, counting expenditures on durable goods, consumer products, and services. A healthy Personal Spending figure means that consumers are buying goods and services, fueling the economy and spurring output growth. The report is particularly valued for forecasting inflationary pressures. Taken in excess, these high levels of consumption and production may lead to an overall increase in prices. Indeed, the Fed uses a measure of inflation derived from the PCE as their primary gauge of inflation.
On the other hand, persistently low Personal Spending may result in decreasing levels of output and an economic downturn.
These economic indicators are derived from monthly surveys of private sector companies. They provide insight into business conditions in services and manufacturing sectors of a country. The headline figure is reported as an index where 50 reflects the centerline of boom-bust sentiment. The larger the divergence from 50 is, the bigger the change in business conditions is.
The indicator represents a number of domestic building permits granted for the month. Strong growth in new approvals and permits indicates a growing housing market. Because real estate generally leads economic developments, housing tends to thrive at the start of booms and wane at the onset of recession. The figure can be used with others to forecast future growth in the economy as a whole. A strong housing market also tends to lead consumer spending. The headline number is the seasonally adjusted percentage change in new building approvals from the previous month.
The Existing Home Sales indicator records sales of previously owned homes in the United States. This report provides a fairly accurate assessment of housing market conditions, and because of the sensitivity of the housing market to business cycle twists, it can be an important indicator of overall conditions at times when housing is particularly important to the economy.
While used home sales are not counted in GDP, they do affect the U.S. economy. Sellers of used homes often use capital gains from property sales on consumption that stimulate the economy. Higher levels of consumer spending may also increase inflationary pressures, even as they help grow the economy.
The Existing Home Sales report is not as timely as other housing indicators like New Home Sales or Building Permits. By the time the Existing Home Sales is released, market conditions may have changed.
Trade Balance is the difference between imports and exports of goods. Trade deficit indicates that imports of goods are greater than exports. When exports are greater than imports, there is a trade surplus. Trade surpluses indicate that funds are coming into a country in exchange for exported goods.
The balance of trade is sometimes divided into a goods and a services balance.
Trade balance forms part of a current account.