Trading the News in Forex

You now know that there are three outcomes of news items—no change, or a big up or down move. There are two ways to trade the news in foreign exchange: predicting or following.

Predicting the Move

Forex traders can make money trading the news by predicting it. In the last section, we used retail sales as an example. If a forex trader thinks the retail sales number will be stronger than the consensus, then he or she can buy the US dollar. If a forex trade thinks the number will be weaker than expected, then he or she can sell the US dollar.

This is a fairly simple way to trade the news. But there’s more to it than just simple prediction. You have to create the trade in a way that creates the most reward (pips!) with the least amount of risk (lost pips!).

Trading on your predictions can be done within the framework of other analysis. If, for example, you see a continuation pattern in the form of a channel, you might decide to enter a buy order above the channel. When the news breaks, you’ll be proven right or wrong. If you’re right, the resulting move is confirmed with technical analysis and fundamental news. You’ll be entered into the market to buy into the coming momentum. Here’s an example diagram that explains this concept:

Following the news

Whereas some look to follow the news, others just want to get in on the news and ride the wave toward profitability. This is a non-biased trade, one in which you have little interest in predicting what will happen, but plenty of invested interest on making money regardless of what does eventually happen.

With this trading technique, you prefer to sit on the sidelines to place trades both long and short the market above and below the current price. This diagram will help explain how this works:

As you can see, above the current price and trading range is a buy order. Below the current price and bottom of the trading range is a sell order. You’ve also set take profits for each trade, so that you’ll automatically close out once your target is hit. You don’t want to get greedy here!

If the report beats expectations, the price of the currency pair will rise through the top of the channel and hit your preferred entry position for a long order. If the report fails to beat expectations, then the price falls through the trading range and into your sell limit order. The momentum that follows the event will carry your trades into profitability.

Frenzies Create Slippage

The frenzy that starts with an upcoming news release creates a problem in the market known as slippage. Slippage occurs when the price changes so quickly that you may not enter at exactly the point you had wished to enter the market.

Generally, forex brokers increase their spreads during news releases to reduce the chance of slippage. In increasing the price to trade, forex brokers limit the activity to only those who are very serious about trading the news. Those that aren’t trading the news will go elsewhere; they have little interest in placing a trade that might cost them 5-15 pips in spreads. For the news junkies, though, this slippage is of little concern. With big news items come big opportunities for profit