How To Find the Fair Value of a Currency Pair Using Support and Resistance
Fair value areas are essential concepts in trading that help you identify whether a currency is over or undervalued. To illustrate this, let’s use an analogy involving house prices. When you drive around your neighborhood, you get a sense of what a house should be worth based on its size, location, and visible features. If a house is listed at half the expected price, it seems like a bargain. Conversely, if it’s listed at twice the expected price, it appears overpriced.
Similarly, each currency has a fair value based on market perceptions. Determining whether a currency is above or below its fair value involves analyzing fundamentals and market sentiment. You might already do this subconsciously by assessing whether a currency pair is trading higher or lower than what you believe its fair value should be.
Fair value in Forex reflects the market’s consensus on a currency’s worth from a fundamental standpoint. However, you can also identify fair value areas on a chart by examining recent swing highs and lows. For instance, if we look at a EUR/USD chart, we might see that the market considers 1.1020 a fair value area on the upside because sellers consistently enter the market at that level. Conversely, the market might view 1.0740 as a fair value area on the downside where buyers step in.
Fair value areas can be thought of as dynamic support and resistance levels or swing points. They indicate where the market has reacted previously, offering high-probability areas to look for buying or selling opportunities. If the market approaches a previously identified fair value area, it might present a good opportunity to buy or sell, depending on the prevailing sentiment and fundamentals.
To leverage fair value areas in your trading:
- Identify Fair Value Areas: Look at recent swing highs and lows on your charts to determine potential fair value areas.
- Analyze Market Sentiment: Use tools like the Financial Source Economic Calendar to gauge current market sentiment and fundamentals.
- Plan Your Trades: When the market nears a fair value area, consider it a potential buy or sell zone, but always confirm with sentiment and fundamental analysis.
- Set Targets and Manage Risk: Use fair value areas to set profit targets and manage risk. For example, if trading towards a fair value area, consider reducing risk or taking profits before reaching the zone.
Understanding and utilizing fair value areas can enhance your trading strategy, providing clear zones for high-probability trades based on historical market reactions. This method, combined with robust fundamental and sentiment analysis, can help you make more informed trading decisions.