Why look at more than price trends in FX markets -

Recent research on trend breaks is suggestive of the relationship between trends and other macro fundamentals. Trends in price should be related to the trends in the underlying economics that drive prices. For example, if there is a rise in inflation over time, there will be a rise in interest rates. Both will trend together. Of course, there will be noise in the relationship and the link may not be one for one but these trends are linked. This is the basis for much of the work on financial econometrics through cointegration; however, it has not been explicitly analyzed through tracking trends and breaks.

Because asset markets do not always trend in one direction, work in finding trend break and links with other markets is very relevant. Consequently, it is interesting to see some researchers start to examine price trend behavior in simple frameworks. See “Dating Breaks in Exchange Rates” D.V.O'Toole, School of Finance & Economics, University of Technology Sydney July 2006 for the latest work.

There are two stylized facts about trends and exchange rates.

• One, there are long swings in exchange rates. While short-term rates have often shown random behavior, exchange rates over the longer-run of a year seem to have trend swings. The dollar can go through long periods of appreciation and then depreciation. 
• Two, there are breaks in these trends. After a period, a long swing will see a dramatic change. However, there does not seem to be any particular reason for this change which is associated with the length of the trend or the time in a trend. As expressed by the leading econometrician, P.C.B.Phillips "No-one really understands trends, even though most of us see trends when we look at economic data." Trend identification is still often in the eyes of the beholder.

O’Toole uses some new techniques for finding trends and determining price breaks. This work shows marked improvement over previous work of looking for structural trend breaks in exchange rates. However, O’Toole takes his work to the next level by trying to find a reason for the price breaks in the long trends. He theorizes that trend breaks are related to interest rate shocks. He examines trend behavior in interest rates and finds the break points in these rate series. He then compares the breaks for exchange rates with interest rates and makes to key observation that these breaks come at similar times. This suggests that interest rate shock or changes in the direction of interest rates are related to breaks in exchange rates. This work is done without any assumption on theory of exchange rates which makes it all the more promising. More research is needed but this provides a link between trends which has not been previously explored.

Following price trend could be improved through relating to  trends in related markets. A shock in these related markets may be the cause for a break in the long-term trends in exchange rates. It is simple, but has good intuitive appeal.