How to trade the news

The biggest
mistake new traders make when trading the news is to look at only the so-called
“high impact” data on the economic calendar. What you see on the economic calendar
is generally the scheduled economic reports and events like inflation data,
central bank members’ speeches and so on.

There can
be also unscheduled news though that can catch you off-guard if you don’t have
a real-time news feed. Those could be leaks, breaking news reports and so on,
and they can have a strong impact on the markets.

CONTEXT IS KEY

Now,
looking at the economic calendar and thinking that only the data labelled as “high
impact” is important is wrong. There are times when the calendar will label
something as “low impact” when in reality it should be like very high. A recent
example that comes to my mind is the Japanese wage data before the BOJ meeting
in April when they raised rates.

That’s
because calendars consider only the historic volatility of the data and not the
context. The market focuses on different things based on the context. For
example, there are times when inflation reports have low impact on the market
even though they are always labelled as “high impact”.

This
generally happens when the economy is in recession or getting out of it and the
focus is mostly on growth indicators rather than inflation. On the other hand,
when we are well into the expansionary phase, the market places more emphasis
on inflation and the next central bank’s move. This is why trying to understand
where you are in the business cycle is key.

HOW TO TRADE THE NEWS

So, the way
you should look at the news is through a cause-effect point of view and mainly focusing
on growth, inflation and interest rates. Say you expect inflation to pick up forcing
the central bank to tighten monetary policy. You want the data to confirm
your views and act as a catalyst for the market to start pricing in that
change.

Generally,
you want to see the data beating or missing expectations because the bigger the
surprise, the bigger the market reaction will be. Data in line with consensus
shouldn’t trigger major market moves because it’s already expected and
basically priced in.

When you
build your idea, you need to visualise what is likely to happen in the next say
6-12 months and trade in that direction. You can time the market via technical
analysis or fundamental catalysts, but you shouldn’t focus on the present because
the present is already in the price.

CUTTING OUT THE NOISE

Every week
there are many economic indicators being released, but very few of them are
actually market moving. That’s because most of them do not change the future
expectations. You always need something that can change the future
expectations. A rule of thumb is knowing what the central bank is most focused
on and look at those indicators.

There’s also
kind of hierarchy for the country releasing the economic data. The US data is
by far the most influential one and can move all the asset classes across the
globe. As the dominant financial system in the global economy, the US business
cycle tends to be a major driver of the global business cycle as well. There’s
a reason why they say “if the US sneezes, the world catches a cold”.

In fact, if the US does well, it can create a positive risk sentiment (as long as the rest of the world is not doing too bad) and that’s when good US data may actually weaken the USD across the board.

IN SUMMARY

So, to sum up, here are some questions you should ask yourself when trading the news and fundamentals in general:

• Where are we in the business cycle?
• What is the central bank most focused on?
• What data can change the future expectations?

This article was written by Giuseppe Dellamotta at www.forexlive.com.