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Data releases from a country establish the basis for understanding the health of an economy. It reveals the performance and patterns in the past, which traders use to speculate on the future of the economy and the markets. This is because the release of economic data can potentially change market sentiment, traders’ risk tolerance, and, hence the trading decisions of market participants. Here’s a deeper dive into trading with economic news.
Economic data can be released weekly, monthly, quarterly, half-yearly, or annually. Each economic update affects various assets and even other economic data. For instance, improved numbers of building permits signal improvement in job opportunities, a reduction in unemployment numbers, increased consumption, and a strengthening of the local currency. Each of these impacts other economic releases. For instance, in the above case, enough building licenses may boost the nation’s GDP, a major economic update that moves the domestic markets.
Before an economic release, analysts speculate on the potential numbers based on leading financial figures. This speculation is called the market consensus or estimate. Therefore, an economic release has a dual effect – first, due to the release and second, due to any deviation from the estimates’ actual numbers. Traders may open trades based on consensus and market sentiment, and later adjust their positions or risk measures once more data is out.
Based on whether an economic release predicts economic health or assesses it, the economic indicators are classified as leading, coincident and lagging.
These predict changes in business cycles before they actually happen. Policymakers use to adjust monetary and fiscal policy to ensure growth, control inflation, etc. These include the yield curve, central bank interest rates and share prices.
Coincidental indicators show how the economy is currently performing. These are used to confirm a trend that is underway. Trade balance, Producer Price Index (PPI) and Consumer Price Index (CPI) belong to this category.
These releases lag the current cycle and give information on the previous cycle to help traders and analysts speculate on the economy’s performance in the current and/or upcoming cycle. Unemployment figures and inflation are lagging economic releases.
In short, leading indicators act as the windshield, coincidental as the side windows, and lagging as the rear-view mirror, if economic health were a car.
Now that you appreciate the fundamentals of macroeconomic data releases, you must remember that certain releases are high-impact while others are not. This is because these releases affect a larger section of the financial markets. Here are the top 4 to stay updated on:
The NFP tends to impact most markets across the globe. It is released on the first Friday of every month by the US Bureau of Labor Statistics. This report also includes average hourly earnings, providing insights into purchasing power. Notably, the NFP is closely related to the GDP, which is released quarterly and is a lagging report. Since the Federal Reserve considers stable prices and maximum employment critical to the economy, the NFP affects its interest rate decision.
The central bank of each economy tweaks interest rates to curtail inflation while ensuring growth. Decisions by the Fed and ECB tend to have ripple effects across markets. A nation’s interest rates are likely to affect its foreign exchange rate, influencing the financial markets. Interest rate decisions drive or discourage foreign investment, directly affecting a country’s economy. Higher foreign investment with increasing interest rates lifts the currency and vice versa. Also, high interest rates discourage internal credit and borrowing, which slows growth.
Inflation is a direct reflection of the health of an economy. Inflation measures the change in prices and is a major market mover. Most central banks have a target level for inflation, and their fiscal and monetary policies aim to achieve this goal. Implicit price deflator, a data point released with the GDP, is used to gauge how fast (or slow) the economy is approaching this target. However, this data is released only quarterly, so traders prefer the CPI or PPI to estimate inflation and develop their trading strategies accordingly.
Source: https://www.babypips.com/learn/forex/interest-rates-101
Experienced traders prefer to use core inflation while making decisions.
GDP is the most effective indicator of the economy despite being a lagging one. Since it is a delayed report, it does not directly move the markets. However, deviations from the consensus may induce volatility. Since it is the widest measure of economic activity, it helps analysts and traders understand the state of expansion or contraction of the economy. Analysts make predictions while traders adjust their trading strategies based on whether the economy is growing or contracting.
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