When you are trying to figure out what strategy you want to use to trade forex, some people may suggest to you to try trading the news.
What does it mean to trade the news, and is it a good idea? This post will go over the basics. We will let you know what types of news events move the forex markets, what you need to be successful, and the benefits and risks of trading the news.
What Does it Mean to Trade the News?
Major economic and political events can cause significant moves in the forex markets.
Trading the news simply means following news events and using them to enter and exit trades.
What Types of News Events are Relevant to Forex Traders?
Here are some examples of the types of news events that you can trade:
- The releases of economic reports (i.e. the nonfarm payroll report)
- Declarations of war
- Truces and treaties
- Speeches from politicians
- Decisions about interest rates
- Major changes in laws
When a news event happens, the market tends to have an instant response. But even hours after the news event takes place, you may still see price responding. Sometimes that influence lasts for days.
How Do You Trade the News?
Multiple approaches for trading the news exist, but here is the simplest way to do it:
1. Look for consolidation in the market leading up to a news event.
2. Be ready to trade when the news event takes place.
3. Enter the market when the news releases.
4. Hypothetically, price may make a major move in one direction or the other. Hopefully, you caught the move.
5. Exit at a profit.
Some traders have a directional bias as part of their approach. They believe the market will move in one direction and not the other, and prepare to enter based on that belief.
So, for instance, they might expect a particular currency pair to take a nosedive after a report release. That means they set up a sell order and wait for it to get triggered.
But other traders prefer to approach news trading without a directional basis. They set up entries on either side of the consolidated price. Whichever one gets triggered when the news comes out determines whether they are in a long or short trade.
Often, trading without a directional bias is referred to as making a “straddle trade.”
Straddle trades have two major benefits:
You can catch a move in either direction. That means you will not miss out on a chance to profit just because the market did the opposite of what you predicted.
You do not get caught up in your emotions regarding your predictions. Maybe you want the reaction to the report to go a particular way. But if you have entries set up for both possibilities, you will not allow your preferences to blind you to an opportunity to profit.
It is up to you whether you want to make straddle trades or directional trades. Either way, make sure you test your techniques before trading the news with real money.
What Knowledge Do You Need to Trade the News Successfully?
You cannot just start trading the news casually. You need a strong foundation of knowledge and a viable strategy if you want to be profitable.
Note that this is especially true if you are placing directional trades.
When trading with a directional bias, you have to predict not just that the market will move, but whether it will go up or down.
That means that you need a strong underlying knowledge of economics and human behavior.
Consensus Numbers vs. Actual Numbers
One of the simplest mistakes that newbies make when trading the news is that they ignore consensus numbers.
They think that the market is reacting solely to the news. But in actuality, it is reacting to the difference between the news and expectations leading up to the news.
So, let’s say we are talking about the nonfarm payroll report (NFP). Imagine it comes out and the numbers are good. You might assume the price of USD would rise, right?
But sometimes, it might drop. The reason why often comes down to consensus numbers vs. actual numbers.
- Consensus numbers: These are the numbers people expect to be on reports.
- Actual numbers: These are the numbers that actually appear on reports.
Let’s say that a much better consensus number was projected for the NFP than the actual number.
This comes as a disappointment, because it means the US economy may not be doing as well as people thought. As a result, even though the NFP number might be an improvement over the previous one, USD might drop since that improvement was not as good as expected.
There is another important consideration as well, and that is that major players may already have done their trading in advance of the report.
So, by the time the report hits, they may sometimes be exiting their positions. As a result, you might see a movement in the opposite direction of what you expect.
Pros of Trading the News
Now that you know the basics of how to trade the news, let’s go over the potential benefits and risks, starting with the advantages.
- Big moves at predictable times. News releases, speeches, and other market-moving events tend to be scheduled down to the minute. So, instead of waiting around for big moves at random times, you can take advantage of times when you know big moves are likely to occur.
- Profit when others lose. Let’s say something happens that negatively impacts the US economy, and the stock market plunges as a result. Well, you can still make money at a time like that by trading forex. It is nice to be able to take a bad situation and turn it to your advantage.
- News happens around the clock. Most news releases happen during the AM hours (in Eastern time). But there are still news releases during the PM hours as well. And other news events can also happen around the clock. So, you can find a lot of trading opportunities regardless of your schedule or time zone.
Cons of Trading the News
Below are some of the potential drawbacks and risks of trading the news.
- Slippage. News events tend to result in volatility in the markets. As a news trader, you are looking to cash in on those huge volatile moves. But here’s the thing—sometimes, your orders might get executed at different prices than you expect due to that volatility. This is called “slippage.” When it occurs, you will sometimes see a big gap on your chart. Slippage can eat into your profits or sometimes produce losses.
- High spreads. Forex brokers profit through their spreads. You want your spreads to be as narrow as possible. Alas, they tend to widen quite a bit when news events take place. Trading gets more expensive for you as a result.
- Lockouts. A lockout occurs when there is a delay between trade execution and visibility of that trade in your platform. This is a scenario that can sometimes occur during volatile times, such as news events. Unfortunately, when you are locked out in this fashion, you can neither see what is going on nor do anything about it. Sometimes, by the time your trade is visible, you find out you have lost money.
- Complexity of analysis. Finally, it is quite a bit harder than a lot of novice traders think to really understand economics and to make predictions based on fundamentals. This is mostly an issue if you are trading with a directional bias, however. If you are trading without one, you do not need to worry about it as much.
Some traders love trading the news, and build their entire strategies around it. If you are good at trading the news, you might be very successful.
Other traders can’t stand trading the news. The high volatility and resulting issues with spreads and slippages are all things they want to actively avoid.
How Can You Keep Up with the News for Forex Trading?
One of the challenges of trading the news is simply keeping up with everything that is coming up. Some ways you can do that include:
- Following market news and analysis feeds provided by your forex broker.
- Checking economic calendars provided by your broker.
- Reading actual news articles about the economy.
- Reading research reports.
- Subscribing to news trading signals.
If You Don’t Trade the News, Should You Avoid Trading During News Events?
Having read this far in the article, right now, you are probably leaning toward or away from trading the news. But if you are leaning away from it, you might be wondering how you should handle it.
Some traders flat-out will not trade when a news event is coming up. They mark it on their calendars and hold off until it is over to avoid being caught off guard by the volatility.
Other traders ignore the upcoming news events. They trust their systems to steer them around potential losses sufficiently on their own.
Either way, you should test your approach before you go live.