There are two main ways to trade the news:
a) Having a directional bias
b) Having a non-directional bias
Having directional bias means that you expect the market to move a certain direction once the news report is released. When looking for a trade opportunity in a certain direction, it is good to know what it is about news reports that cause the market to move.
Consensus vs. Actual
Several days or even weeks before a news report comes out, there are analysts that will come up with some kind of forecast on what numbers will be released. As we talked about in a previous lesson, this number will be different among various analysts, but in general there will be a common number that a majority of them agree on. This number is called a consensus.
When a news report is released, the number that is given is called the actual number.
“Buy the rumors, sell on the news”
This is a common phrase used in the forex market because often times it seems that when a news report is released, the movement doesn’t match what the report would lead you to believe.
For example, let’s say that the U.S. unemployment rate is expected to increase. Imagine that last month the unemployment rate was at 8.8% and the consensus for this upcoming report is 9.0%.
With a consensus at 9.0%, it means that all the big market players are anticipating a weaker U.S. economy, and as a result, a weaker Dollar.
So with this anticipation, big market players aren’t going to wait until the report is actually released to start acting on taking a position. They will go ahead and start selling off their dollars for other currencies before the actual number is released.
Now let’s say that the actual unemployment rate is released and as expected, it reports 9.0%.
As a retail trader, you see this and think “Okay, this is bad news for the U.S. It’s time to short the dollar!”
However, when you go to your trading platform to start selling the dollar, you see that the markets aren’t exactly moving in the direction you thought it would. This is because the big players have already adjusted their positions way before the news report even came out and may now be taking profits after the run up to the news event.
Now let’s revisit this example, but this time, imagine that the actual report released an unemployment rate of 8.0%. The market players thought the unemployment rate would rise to 9.0% because of the consensus, but instead the report showed that the rate actually decreased, showing strength for the dollar.
What you would see on your charts would be a huge dollar rally across the board because the big market players didn’t expect this to happen. Now that the report is released and it says something totally different from what they had anticipated, they are all trying to adjust their positions as fast as possible.
This would also happen if the actual report released an unemployment rate of 10.0%. The only difference would be that instead of the dollar rallying, it would drop like a rock! Since the market consensus was 9.0% but the actual report showed a bigger 10.0% unemployment rate, the big players would sell off more of their dollars because the U.S. looks a lot weaker now than when the forecasts were first released.
Keeping track of the market consensus and the actual numbers, you can better gauge which news reports will actually cause the market to move and in what direction.
A more common news trading strategy is the non-directional bias approach. This method disregards a directional bias and simply plays on the fact that a big news report will create a big move. It doesn’t matter which way it moves… We just want to be there when it does!
What this means is that once the market moves in either direction, you have a plan in place to enter that trade. You don’t have any bias as to whether price will go up or down, hence the name non-directional bias.