the current market situation. But how can you get an idea of the overall sentiment
of the market? You can do so by reading reports by analysts and financial
journalists in news wires or by visiting online trading forums to see what other
traders are discussing. However, these ways of getting a feel of the current market
sentiment are not too accurate; you may think that other traders are in a buying or
selling mood, but that may not be what is really happening in reality. Here are some
of the more effective ways of gauging market sentiment:
1. The Commitment of Traders (COT) report
2. The market’s reactions to news releases
These are explained in more details below.
1. Commitment Of Traders (COT) report
What is the COT?
The COT report provides traders with detailed positioning information about the
futures market, and is, in my opinion, one of the most underrated tools that forex
traders can make use of to enhance their trading performance.
The report is compiled and released weekly by the Commodity Futures Trading
Commission (CFTC) in the United States every Friday at 15:30 Eastern Time, and
records open interest information about the futures market based on the previous
Tuesday. Anyone can access the COT report for free on the CFTC website
(www.cftc.gov/cftc/cftccotreports.htm).
There are basically two types of reports available: the futures-only COT report and
the futures-and-options-combined COT report. I usually just access the futuresonly
report for a glimpse of what has happened in the futures dimension of the
forex market. In order to get through to the currency futures data, you have to wade
past other commodities like milk, feeder cattle and so on, so a little patience is
required.
Even though the data arrives three days late, the information nonetheless can be
helpful since many traders spend their weekend analyzing the COT report. The time
lag between reporting and release is the main handicap of the COT data, but despite
this limitation, you can still use it as a sentiment tool.
Market’s reactions to news
Another way for traders to gauge the market sentiment is by analyzing how the
market responds to unanticipated news.
The forex market is very efficient at discounting future expectations by
incorporating them into current prices. Very often, when news comes out better
than is expected by economists and analysts, the currency of that country is more
likely to soar against another currency.When the news is worse than expected, that
currency is more likely to fall against another currency.
However, if the news or data turn out to be worse than expected and still the
currency price soars, that is, the market reacts in a very bullish way to worse than
expected data, a bright red flag should be waving at you. The opposite situation also
applies: if price action remains very bearish to much better than expected news, it
signals a highly suspect price move.
In short, you should look out for a contrarian market reaction to better or worse than
expected news. Under these circumstances, it is better to assume that the price
move is hardly supported by substance, and could reverse sometime soon.Abullish
price move that is not accompanied by evidence will soon be due for a reality
check, just like a bearish price move that is not accompanied by evidence is very
likely to be corrected very soon. If you day trade the forex market, you may judge
the market’s reaction based on one piece of news, but if you position trade, monitor
the market’s reactions to several news to see if the responses are still contrary.
For example, if a piece of news turns out to be worse than expected, and assuming
that there are no pre-release rumours or leaks of the news, and the currency pair
rallies to break above a significant resistance level, you have reasons to suspect that
the breakout move is likely to be false and unsustainable. Even if the currency pair
manages to make new highs later on, you should be prepared for a possible trend
reversal very soon. Monitoring the market’s reactions to news can enable traders to
identify corrective moves in the forex market.
Not all news items get the same amount of attention from big market players; news
relating to the job or housing market usually get more attention. The relative
significance of news will vary from time to time.
Source: 7 Winning Strategies for Trading Forex: Real and Actionable Techniques for Profiting from the Currency Markets
