When trading news, there are three questions we need to ask ourselves before each trade: Is news important? Is the surprise big enough? And does the surprise match the market mood?
1. Is news important?
The first task is to find out what matters and what doesn’t. The first three parts of the potential market economic data for each country, which are the employment, retail sales and activity and service activity reports, also known as the ISM or PMI reports. In addition, gross domestic product (GDP) reports and inflation reports (consumer prices and producer prices) are also tradable. What cannot be traded are reports such as the Beige Book, as there is no specific figure for comparison, the data are published weekly and any Japanese or Swiss economic reports are almost always overshadowed by general market sentiment.
If you find it difficult to know whether the data can be traded or not, most Forex sites will list the impact that each piece of data can have on the currency. High impact events are the ones we want to trade.
2. Is the surprise big enough?
The second question is the most difficult of the three because it is interpretable, but the good thing is that the market will usually do the interpretation for you. As a rule, if the number is higher or less than the forecast by more than 5 percent, this is considered a big surprise, but sometimes a surprise of 2 percent is enough to cause a big reaction in the currency.
So what do you need to do? Just wait and see how the market reacts to the release. If the currency pair is barely moving, then the surprise is probably not so significant. If the currency pair immediately rises or falls like a stone, there is a good chance that the market will be surprised. The key is to wait five minutes before entering the trade to make sure the currency reacts the way it is supposed to. In other words, a positive surprise should raise the currency pair, and a negative surprise should lower it.
3. Does the surprise correspond to the market mood?
The third question is important because sometimes economic data is something we would normally expect to provoke a great reaction, but for whatever reason the rally subsides quickly or traders are simply not interested.
This usually happens when something else overshadows the data and leads to the general mood of the Forex market. It can be anything from a risk appetite to US data or worries about problems in Europe. If the economic data is surprising or the “fundamentals” are in line with the prevailing market sentiment, this is stronger trade. In other words, if the market wants to buy dollars and retailers are strong, this usually gives Forex traders an even better reason to send higher greenbacks. However, if the market is worried about the prospects of the US economy because the Federal Reserve warns that there will be more problems, then good data may not help much for the dollar, because it will be viewed with skepticism.
Quantifying prevailing market sentiment can be difficult, but moving averages can help because they measure current market trends by averaging a number of past prices. If the data is good and the currency pair trades above the 50-period moving average on a 5-minute chart (or the data causes the currency to break above the moving average), then there is a better chance that sentiment and fundamentals support trading. However, if the data is good and the currency pair is trading well below the 50-period moving average, then this suggests that prevailing sentiment does not support the economic surprise. In this case, we will not accept the deal because we want to have as many key variables as possible, aligned in our favor.
To summarize, we want to trade only important economic data, with surprises large enough to provoke a reaction in the currency, and only if the economic data is in line with general market sentiment. With these guidelines in hand, let me show you how fast and furious news trading works.