Successful trading in any market occurs when the trader buys at the right time and sells at the right time. But how does anyone know when that time is? Once in a while it's luck, and amateurs tend to rely on luck far too much. But for success traders who have been in trading for a while, it isn't luck at all.
It's research. There are two kinds of research that a trader can do in order to find out the right times to buy or sell. The two types of research are called "fundamental analysis" and "technical analysis". In this article, we will look at each one and talk about their merits and constraints.
Fundamental analysis
Fundamental analysis is when a trader looks at the influences and qualitative information about their particular investment. In the case of a futures contract, the trader will apply fundamental analysis by looking at the underlying asset and asking themselves about what influences might increase or decrease the sale of the asset. For example, in the case of coffee, perhaps a trader will explore the coffee buying habits of people around the world and see how those have changed over time. Then the trader might examine any environmental factors that could influence the price of coffee beans. For example, maybe a flood, drought, bad storm, or coffee bean disease could impact the availability of beans. The trader would also look at potential successes or challenges at the roasting stage, at the packaging stage, at the shipping stage, and at the distribution stage. Perhaps everything about coffee seems great except that no shipping company is available to ship the product. This could have an impact on the price. There are political, social, and economic influences as well. Perhaps coffee suddenly becomes extra popular to drink or perhaps a major coffee supplying country closes its borders to exports.
In doing this kind of analysis, the trader is able to accurately predict what kind of price movements may happen in the underlying asset and then he or she can predict how that will impact the price of the futures contract itself. However, fundamental analysis takes a lot of "legwork".
Technical analysis
Technical analysis is when a trader looks at the market itself (either the futures market as a whole or the market of the specific futures contract in question) and applies an algorithm that measures price and/or volume and/or other factors to determine trends in the movement of the buying and selling of the contract. Technical analysis is quantitative, using very specific numbers to look at historical data to predict future activity.
In doing this kind of analysis, the trader is able to accurately predict movement of contract prices based on historical market activity. However, technical analysis can't always predict the impact of immediate social or political realities.
Smart traders do both kinds of analysis and use a tool like a trading platform to help them gather all of their analysis into one place.
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(Article by Aaron Hoos).
