26 January 2023

The Logic of Forex in Trading Markets

When considering markets, one can note that each is characterised as distinctive. Indeed this is due to the fact that markets reference things, from companies to metals. So each market is separated by its characteristics and the way these interact with the world. Specifically for markets these are generally the way they interact economically with the world.

Some markets are designed to interact in this way. Companies aim to take money in, use this money to make things and then sell these prooducts to produce money out. The idea is that the money in is less than the money out, and companies are fine tuned over time to do this as efficiently as possible (in an ideal case).

Now what about Forex. Forex is traded as Forex pairs, which is a market with one currency valued in terms of another. This market can be analysed by looking at what might change the relative valuation, for example by examining the economic performance or other metrics of the country behind each pair.

However Forex pairs reference more than economies, they also reflect factors such as money flow, for example funding flows in and out of stock markets. In a market crash, some Forex pairs may have sharp increases or decreases in value, in flight to safety. This reflects to some extent the utility of the Forex market itself, as the stock market reflects the funding needs of each company. However both markets are also speculative markets, with traders attempting to ride these flows (which can happen on a daily basis at a lesser scale). In this are Central Banks which may wish to influence the direction of a Forex pair, in effect by altering the relative attraction of a side of a pair for money flow (or a side effect of another aim).

The function and utility of the Forex market can be seen as an element which adds surprise and randomness to the value of Forex pairs. This can be honed in on through news trading events, with the surprise sought for instead of being viewed as a potential market event to change valuation. In a news trading event, the alteration in value of a Forex pair, because of the utility of a side of the pair, can be seen as the trader grounding the trade in the function of the Forex pair, from the perspective of one or both of its economies.

Otherwise the trader may be in effect ignoring the pair's utility and rather using technical data to trade. In this case the direction of a Forex pair is expressed in technical signals, which can be seen as capturing the speculative trading view of the market. Like a stock market being traded on technical signals ignoring the fundamentals, which may not be as compelling as trading Forex this way. This is because the utility and function of a company is expressed to varying extents in its share valuation, in a market which has preset hours. A similar kind of statement could be made of commodities as well. The Forex market is on continuously from open on Sunday to close on Friday. This can be seen as adding more randomness and recourse to technical data.

The appearance of structure from randomness can make for a potential Forex trade. However it may be helpful to see that structure as random in and of itself and prone to dissipate and change. This can produce the capacity of a Forex pair to go in a number of different ways at any point, and particularly at inflexion points, for example when hitting past resistance or support.

It might be seen that traders riding patterns is one way for the randomness to be given some structure, helping to produce trends, for example. This said, trends can be fragile and prone to alterations from news or changes in the way currencies are being used as part of money flow into and out of markets, for example the stock market.

It might also be said that fundamental factors may act as triggers to structure formation in Forex, but it needs traders to coalesce around the signal, assuming that it can be seen as directional. However the legacy of past patterns can itself produce an expectation or confidence in direction. Such is the nature of patterns. This said, each pattern can have a logic all of its own, which changes and alters for a wide range of reasons, resulting in complex outcomes to simpler expectations.

Composing this logic are the varying approaches and strategies used by traders in the market. These themselves can have their own logic, for example based on indicator signals or a wide range of other strategies. To some extent the Forex market is made up of highly logical elements (algorithms), however the logic of each elements can result in an illogical random market per se or as it interacts with the market. This said the confluence of logic which can happen, that consensus driven for whatever reason may from time to time produce logical outcomes. This logic can be seen reflected in structure, for example repeated patterns which might happen.

These patterns can be composed of different aims and application of logical strategies. An example would be traders fading a move for a wide range of reasons, which other traders are going in on (e.g. continuing a trend).

This said, patterns may not reflect anything except random events, driven perhaps by fundamentals, with the appearance of structure. This is why they may not go anywhere and why the patterns may alter. One way to look at a kind of abiding market 'logic' is to consider value levels. In a market which is so driven by technicals, these may have a particular utility in Forex. Thus without considering complex fundamentals and how they interact with the market, one can take a technical viewpoint, but one which may seem more grounded in numbers than patterns. Is this a better view ?

Patterns may seem more amenable to trading, but in the end numbers have a clarity and a relative simplicity. However value levels cannot be depended on either. This said, they may provide in and of themselves a certain clarity, however it may be that indicator signals and pattern formation may be a better indicator of some kind of market consensus, because in general traders might not like raw numbers.

It may be noted that using value levels is a more apparently complex method, which comes up against this factor in Forex trading, using something many others are using. It needs to be borne in mind that computer programs may add a kind of trading logic which differs markedly in effect from human logic, for example in high frequency trading.

Value levels might however provide insight into why support or resistance is occurring. That is, patterns can be seen around such figures which may produce more horizontally inclined moves. An indication of the potential for support or resistance can be useful in Forex.

Despite perceived differences there are similarities across trading markets, including technical events. In fact when trading one it may seem similar to another, to the extent of there being no apparent difference. Thus indicators developed on one market are used across markets. However fundamentals can be quite markedly different, although even here fundamental events in one market can affect other markets. Major interest rate decisions can be seen affecting markets from A to Z, for example in a risk on/off scenario or flight to safety. However in more expansive times, effects may be more muted and varying.