The Correct Approach to a News Trade
The reason why we have placed so much emphasis on trading the news in some of our previous articles is because the news moves the markets. A high-impact news release will not wait for a rounded top or a head and shoulders pattern to play out and perhaps lead the market; the news will dictate the pace even when the technical pattern is showing something to the contrary. So trading the news is still an important part of trading Forex, but it has to be done carefully.
Bearing that in mind, what is the correct way to research and execute a news trade?
Step1: Examine the News Calendar
The news calendar is usually available for traders to peruse a full month ahead of time. As such, traders can get access to the month's activity in the forex market as far as news trading is concerned and decide ahead of time which news item is likely to give them money. News releases are divided into low, medium and high impact news items. Some news items are just unpredictable and best left alone. Only trade news items that have statistically predictable outcomes should be looked at. The following new releases fall into this category:
b) Retail sales
c) Employment data (the US Non-Farm Payrolls is an exception and requires a special skill to trade).
The Forex news calendar is found on several broker websites as well as websites of many third-party providers. They can be accessed by the trader at any time.
Step2: Decide on the Trade Plan
The next step is for you to decide on how you want to trade the news. The news is traded either on the spike or on the retracement. Trading the spike will only work well when you have some of the specialized tools in place (click here for the article on Colocation). Most times, you have to trade the retracement (again refer to our article on retracement trading here) because the big dogs who get in early will most likely liquidate some of their positions to take profit off the table before entering again at a better price for a more sustained approach to profiting from the news.
Step3: Understand How to Interpret the Numbers
Every news item has the following numbers:
a) Consensus (expected figures)
d) Revision (to previous numbers if any).
The key parameters are:
a) Whether the actual matches the consensus or deviates from it to the upside or downside.
b) The extent of the deviation
c) By how much does the deviation exceed the difference between the previous and the consensus figures.
If the actual number matches the consensus, or the difference between the actual and consensus numbers is less than the difference between the consensus number and the previous number, the news item is usually not tradable because there isn't much deviation.
The beauty of the news trade is in the deviation between what is expected and what the released number actually is. When there is a lot of deviation between the actual and consensus numbers, and when this deviation is more than that of the previous and consensus numbers, then the news can be traded in the direction of the deviation.
As a rule, more pips are made from a news trade when the direction of the news release is contrary to the current market trend, as the market will respond sharper to the news. In contrast, if the news outcome is already factored into the market and it comes out in the direction of the previous market trend, it is possible to get a muted response to the news.