How can you analyze the impact of economic shocks on currency markets using TA?

Using Technical Analysis (TA) in currency markets means looking at charts and patterns to understand how traders might react to economic shocks. TA helps identify trends and potential turning points in currency values, allowing traders to make short-term decisions based on market sentiment and historical patterns. For example, sudden shifts in currency prices may indicate how traders are responding to economic news or events, helping investors adjust their strategies accordingly.

Incase the economic shock is on the supply side, it will lead to rising prices of consumer goods and eventually inflation. The inflation calls for high interest rates and hence the subject country attracts foreign capital, therefore strengthening the currency. We can track the inflation using CPI index or other available indexes. We can also track the prices of major commodity items to guage the trend. Currency pairs can be tracked on foreign exchanges.

To analyze any impact of a shock in the market, technical analysts need to identify the type of shock and its magnitude for the duration it lasted. A long term positive shock can mean a good long-term investment opportunity in the currency's country while a short term positive shock will last for a short period of time, forex traders call the positive shock "good news" The negative shock can last as long as the Russian-Ukraine war for example, the surge in crude oil price and the spiked price after increase in demand. So the duration of shock has everything to do with our decision while identifying the shock.

From trader's point, huge importance is given to technical analysis in forex trading as well as stock trading including derivatives. But the fact is that a particular trend in the market caused either by myopic or real factors might be very short lived (a few minutes) or may sustain for longer. A trader needs to understand and decode whether the trend is going to be short lived (may be managed by operators) or longer before taking any position. In this situation, economic as well as policy level factors are the most important thing to look at. All the technical analysis coupled with economic factors can help one in the currency market.

Key TA indicators include trend indicators like moving averages and trendlines, aiding in recognizing market direction changes during economic uncertainty. Momentum indicators such as RSI and stochastic oscillator gauge the speed and strength of price movements, revealing potential reversals during shocks. Volume indicators like trading volume indicate market participation levels, aiding traders in identifying increased volatility and potential opportunities amid economic shocks. TA also helps identify support and resistance levels, crucial for setting entry/exit points and recognizing trading opportunities during uncertain economic periods.

Price action would further confirm the event of the shock and its impact. If it was a positive shock for USD then EURUSD would be a sell opportunity. And if the price action is showing liquidity for bulls at a discounted price, it is a good signal for selling the currency pair for this reason, market will move in direction of liquidity.

Price action due to economic shocks are vital thing that needs to be accounted for. Sometimes, an insider news or a rumor make any stock less or more valuable but these actions are just sentimental. If the price of the same industry other stock are not taking action, it is technically a bait for trader. For a very short period i.e. a day or two, Trader may take advantage using technical chart analysis including candles chart, bollinger band and relative strength index (RSI) and make some profit but it can varies from very short period to short period.

For temporary shocks caused by unforeseen events, high frequency trading (HFT) techniques should be applied to profit from market participants reacting in panic. Typical FX dealers, however, restrain applications of HFT; CME currency futures are perhaps a better alternative for event-driven shocks.

Application of some technical tools will not be out of place in this discourse. Tools like fibonacci tool will help to know area we should be expecting a correction to get to before a swing ride for continuation. Equidistance channel will help to see a consolidation in direction within a price bound range and the break out to the range signals a buy or sell to a technical analyst. Which also facilitates proper use of TP and SL in positions. Numerous tools will perform specific function to aid clarity and insight in the market.

If the reaction of shock on the higher time frame is massive and broke through lows with significant anchoring candlesticks, that is a strong momentum and it signifies a high potential sell on lower time frame. The sole responsibility of a technical analyst with the formation above is to go to lower time frame and seek a suitable entry to take an advantage of a sell opportunity.

Many technical analysts have created and carved a niche of perspective in trading for themselves which is commonly referred to as "chartists" The Idea is good but not with the fact of outrightly neglecting fundamentals (news and events). These data are too much and powerful to influence market direction which may be opposite of the chart some times if not most time. It is crucial for a technical analyst to always be updated with news and events so as to cut losing edges on red folder days. Bloomberg, Forexfactory and Reuters are some places these updates can be gotten for free.

TA disregards fundamental factors and focuses solely on price movements. During times of uncertainty following an economic shock, market participants might react swiftly based on price movements, making TA a tool to gauge sentiment and reactions. Technical indicators and chart patterns adapt to current market conditions and capture immediate reactions to economic news or shocks. This adaptability allows traders to react more promptly to changing market dynamics. TA relies on quantitative data from historical price movements, which some argue reflects market psychology and collective behavior more accurately than fundamental analysis, especially in the short term.

In the course of my PhD (which was primarily in medical research), I developed as a by-product a tool to systematically analyze impact of market news from the economic calendar on FX rates. One of my findings was that movements around the news announcements had been practically indistinguishable from "random" market movements not associated with any significant events. Truly significant shocks, like Covid or Fukushima, occur too rarely to derive reliable patterns. Thus, I do not see a profitable application of classical TA methods (non-HFT) on economic shocks feasible.