Case Study: Real World Fundamental Trades Playing Out

We will show you how the fundamentals play out in real life by taking a look at a classic example of central bank monetary policy in action
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We will show you how the fundamentals play out in real life by taking a look at a classic example of central bank monetary policy in action.

We will also see how short term sentiment can impact these moves and how all of this can give you many fantastic opportunities to make money once you understand how it works.

By the end of this course you will have the complete framework for understanding how the fundamentals work and why applying this type of analysis will give your trading performance a clear boost.

We will begin by taking a look back to the beginning of 2013.

In April of that year we had a special announcement from the Bank of Japan that would give us a long term trading opportunity for many months ahead.

Leading into this announcement the economy of Japan had been sluggish and growth had been barely non-existent.

To counter this the Central Bank of Japan announced, in April 2013, that they would be conducting a large scale programme of quantitative easing.

Quantitative easing is essentially the act of printing money and then injecting it into the economy. Most central banks will take this money and start buying up low risk assets such as government bonds.

This has a double edged effect. On the one hand it increases the price of these bonds, which also means that the returns an investor can get from holding them become much lower.

On the other hand it actively devalues the related currency. This is down to the simple laws of supply and demand. When supply goes up the value naturally starts to fall as demand cannot keep up.

Lower bond yields and a weaker currency have an interesting effect on a nation’s economy.

First of all it encourages the investors to move away from bonds and start investing in other things that will provide a fairly stable profit. These things often include property and stocks and shares. This has the effect of increasing the value of those assets too. 

All the normal everyday people that own their own house get a very nice boost as the value of their property increases at a rapid pace.

As the currency weakens it makes it much easier for businesses to sell their goods to foreign consumers, which boosts sales, revenues and profits. This helps companies to expand and drives growth in the economy as a whole.

The net result is that the economy is much more buoyant and less sluggish than it previously was.

As Japan initiated this programme, professional currency traders knew about this and began positioning themselves for the big sell off on Japanese Yen that would surely follow.

The best part is that the bank of japan even gave the market a specific price target for the USDJPY currency pair. 

They stated that they wanted the pair to reach at least 110.00 before they would even consider halting their progamme of printing money.

This gave the markets confidence that the move would last a long time and that the bank were committed to their goal. 

It also gave them a firm price target to aim for and base any trades they took around.

This move didn’t happen fully, right away. Instead it took several years to play out and provided many opportunities for traders to enter the market and make a profit.

If you take a look at a price chart of the USDJPY currency pair you will clearly see how the markets reacted on April 4th2013, which was the day of the announcement.

The price of the USDJPY had been at around 92. In the first 24 hours the price increased to 96. 

This brings us back to one of the most common myths surrounding news and fundamental analysis, that all news is priced in at all times.

This example illustrates how this is completely false and that when there is a strong central bank policy change, the move can play out over a very long period of time.

In fact, it took around 18 months for the USDJPY pair to hit that 110. Target set by the Bank of Japan. 

Imagine if you knew that the pair was heading higher based on these fundamentals and you then had 18 months to take advantage of that fact.

This is how it is possible to trade around a full time job or other commitments. You do not necessarily have to be sat in front of the screens full time to make money from the fundamentals.

The moves on USDJPY following the announcement from the Bank of Japan also show us how it is possible to use sentiment for trading short term shifts in the sentiment.

You may remember from the previous videos that sentiment is simply the current mood of the market. 

And the mood of the market changes frequently, just like the mood of a person would. The markets are just a collection of people after all.

If you do have the ability to trade through the daily sessions then this could be another very powerful way to make money off the back of these fundamentally based moves.

To illustrate this, using the same USDJPY pair that we have been looking at in this video, we are going to look at the very common phenomenon of safe haven plays.

This is something that we also looked at in previous videos. This is something that regularly occurs when the markets fall into a negative sentiment that is driven by fear or panic.

When this occurs the markets tend to flock to currencies that they believe to be safe and secure.

One of these currencies is Japanese Yen.

This creates an interesting dynamic because we know that after April 2013 the long term direction of the Yen was most likely lower but occasionally we could have a situation where the vast majority of the market were buying it, as they sought shelter from short term economic risks.

As a trader this simply means more opportunities to make money, if you understand how the markets operate and what to look for.

For example, if you are a longer term investor operating on a part time schedule then you can use these temporary periods of buying In the Japanese Yen as opportunities to start selling it again for when the long term fundamentals start to play out once again.

If you are a short term trader that is actively engaged with the markets then you trade around these events and make money both ways as the markets mood changes back and forth.

To illustrate this, let’s take another look at the USDJPY. You can see several occasions where the price of the pair reversed against the anticipated upward trend. 

These reversals were great trading opportunities for short term traders that are in a position to monitor the sentiment and trade in line with it. 

Taking their profits in between the larger make moves.

This also helps to demonstrate that fundamental moves are not simple and linear. 

Just because we expect the pair to rally over the coming months, it definitely does not mean that it will simply go up every day.

Long term fundamentals will always exist in the background but the short term sentiment of the market will change regularly alongside it.

You need to be tuned in and focused to the sentiment of the market and understand the overall fundamental picture so that you can spot any opportunities that come along.

You should always know if a current price move is in line with or against the big picture fundamentals. This alone will result in a marked improvement in your trading as you begin to really understand how and why the prices of currencies move in the way that they do.

Of course, both techniques require the skill to be developed over time through dedicated practice, but that skill is then with you for life and you can trade any market and any asset class once you understand how the market operates and what drives it.

There are many more examples of how central banks operate and almost every major currency is cycling between positive and negative central bank policies.

The entire FX market is focused on trying to figure out which way the central banks will go next with those policies based on the economic data that is released. 

Your job as a trader is to tune into things like economic data and monetary policy to catch the big moves and uncover high probability trades.

In fact, that’s exactly what we help traders do.

If you want to master fundamental analysis, check out our website to learn more about how we can help you do just that.

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