Lesson 3: What Is Fundamental Analysis

Whereas technical analysts concern themselves with market prices, fundamental analysts concentrate on the forces that drive these prices. 

In fundamental analysis, the focus shifts from the market itself to the various influences that can potentially dictate how markets will behave. 

This lesson will help you better understand fundamental analysis, the factors used in this approach, and how they determine market prices. 

Lesson Highlights 

• Fundamental analysis focuses on the different economic factors that affect currency prices. 
• Fundamental analysts use economic indicators to predict future market movements. 
• A country or region’s economic health affects its currency’s value. 
• Assessing the overall health of a country’s economy requires looking at multiple economic indicators simultaneously. 
• Sentiment analysis takes into account the overall “mood” of traders. 
• Some analysts consider sentiment analysis as a subpart of fundamental analysis. 

What Is Fundamental Analysis in Forex? 

Fundamental analysis is a method of determining the future movements of markets based on economic factors. 

Instead of technical indicators, fundamental analysts use economic indicators to assess the overall financial health of a given country or region. They then use the results of this assessment to determine how the market will behave. 

Fundamental analysis works on the premise that underlying economic determinants dictate and control market prices. By studying these factors, fundamental analysts argue that they can predict the future movement of market trends and prices. 

Simply put, the principle behind fundamental analysis posits that a strong economy equals a strong currency and vice versa. 

What Are Economic Indicators 

Economic indicators are the tools that fundamental analysts use to study a country’s financial health. These instruments point to specific areas of a particular region’s economy and indicate how well it is performing. 

Individually, each economic indicator shows only a small part of a country’s economy. To assess its overall health, fundamental analysts must look at several economic indicators simultaneously. 

Some examples of economic indicators fundamental analysts use include: 

Central Bank Events 

Central bank events are regularly scheduled events where a country’s central bank announces its policies and other statements. 

An example of a central bank event is the US Federal Reserve’s eight-times-a-year meetings and subsequent announcements of policies. 

Aside from the policy announcements on predetermined dates, ranking central bank officials’ statements regarding financial matters are also considered central bank events. 

For instance, if the Bank of Japan’s (BOJ) Governor Kazuo Ueda states at a press conference that the BOJ is mulling over interest rate adjustments, it would affect markets as much as a regular policy announcement would. 

Geopolitical Events 

Geopolitical events are politically relevant events that can often affect a region’s economy. A geopolitical event can be limited to within a country, or it can involve one or more countries. 

Examples of country-specific geopolitical events include: 

• National elections 
• Major government policy changes 
• Civil wars 
• Political turmoil 

These events can significantly impact a country’s economy and economic policies and rarely affect other regions directly. However, these events still affect other nations’ perceptions of the concerned country. 

On the other hand, geopolitical events that involve one or more countries affect the trade relations and economic policies of many countries. 

Examples of international geopolitical events include: 

• International wars (e.g., the Russian invasion of Ukraine) 
• International sanctions (e.g., the UN economic sanction against Russia) 
• Major regional upheavals (e.g., Brexit) 
• Territorial disputes (e.g., China-Taiwan dispute) 

These events have far-reaching sociopolitical and economic implications extending beyond the borders of a single country. 

Economic Data 

Economic data are country-specific information about the different sectors of a country’s economy. 

These data include: 

• Interest rates 
• GDP growth 
• Employment/unemployment rate 
• Inflation rate 
• Consumer Confidence Index (CCI) 
• Consumer Price Index (CPI) 

These economic components indicate how well a particular country’s economy is doing. 

Fundamental Analysis vs. Sentiment Analysis 

Sentiment analysis is the third leg of the stool that is market analysis. It is concerned with how the overall sentiment of traders can affect market prices and movements. 

These sentiments refer to how market participants react to news and developments that can affect the markets. 

For instance, the UK leaving the European Union was a shocking development in the Eurozone. Speculations about how it would affect the UK and the EU’s economy split the market. 

Although market sentiment analysis is a useful complementary tool to fundamental and technical analysis, some analysts argue that it isn’t a standalone approach but is a subcategory of fundamental analysis.