Like some other forms of trading in financial markets, forex trading may seem complex, abstract and intimidating for beginning traders. However, the underlying activity involved—trading one national currency for another—is relatively simple.
Forex trading used to be the exclusive territory of large market operators, but it's now accessible to the general public and there are many resources available to help beginning traders achieve success. That being said, those same traders will want to consider the following information about the market before they get started.
There are several reasons forex can be an attractive market, even for beginners who have little experience. The forex market is accessible, requiring only a small deposit of funds for traders to get involved. Also, the market is open for 24 hours per day/5 days a week (it's closed for a short period on weekends). This means that traders can get into the market at any time of day, even when other more centralised markets are closed.
Forex traders also pay only a simple trading fee determined by the spread between currency bid and ask prices, and trading is often governed by simplified tax rules. Finally, traders can pre-determine their stop-loss and trade exit prices prior to entering each trade, meaning they have full control over how much risk they want to take on.
Forex trading does involve some risk, and traders should be aware of this before jumping into the market.
The bulk of forex trading around the globe is still done among major banks and financial institutions. These entities generally have more information, leverage and technology resources than individual traders. As a result, traders in the retail forex market often find themselves under the influence of market movements they may have little or no power to control.
Also, in some situations of price volatility, traders may also be exposed to "execution risk," which occurs when market orders are not able to be filled at exactly the same price that was requested.
How To Get Started
While the forex market can be complex and may require some study for traders to become familiar with it and trade successfully, getting involved in forex trading is relatively simple.
Aspiring traders who are new to the market will need to:
- set up a trading account at a forex broker,
- install a trading platform on their home computer or mobile device using the broker's trading software
- and deposit at least £50 in their trading account before beginning trading.
Once they have their account set up, traders will have access to live price movements, enter orders and set up trading strategies. Currencies are traded in pairs, so every time a trader buys one currency, they are selling another. Many currency pairs are available for trading, involving several major currencies and also a number of less-well-known, or minor, currencies.
Before diving headlong into the forex market, traders will do well to test the waters with a demo trading account. Many brokers offer this service so traders can get used to the trading and forex market environment.
Demo accounts will allow traders to track actual market situations and simulate trading strategies and trades so they can practice trading without having to put any money on the line. Once they feel confident they are ready to begin, they can then go live on a real trading account.
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Many experienced traders make use of technical analysis of prices, but most are familiar with the fundamental factors influencing the currencies they're trading. It's a good idea to get to know the countries and national policies governing the currency you are planning to trade. This may also include getting to know the calendar of key data releases, such as interest rate decisions, and national trade and balance of payments information.
Most brokerages will offer traders access to margin to leverage their trades under guarantee of a deposit in a margin account. Margin functions as loan collateral to help multiply the amount of funds that are effectively placed on a trade and potentially also multiply profits.
However, margin can also multiply losses if a trade is unsuccessful. Given this, it's typically wise for traders to begin trading with a small amount of leverage and increase it only once they have begun to gain confidence in the success of their trading strategies.
One helpful rule of thumb traders use to minimise their risk is to trade with a "risk-reward ratio" in mind. This means that when they enter a buy or sell order, they will set a stop-loss allowing a given amount of risk and a limit (or profit limit) at a given amount of profit that is a multiple of the amount of their risk.
Typically, the ratios might range from 1-to-1 to 1-to-5 (or more), depending on the trader's risk tolerance. For beginners, what may be counter-intuitive is the old adage of "let your profits run." This means that they will want to assure that they can get enough profit out of any given trade to assure that their overall trading activity less any commission, fee or tax costs is profitable.
What often happens in forex trading, however, is traders get "stopped out," meaning their stop losses are triggered and their traders are cashed out at a loss before they have a chance to make a profit. These are some of the reasons why traders may want to carefully study the market environment they are trading in and come up with a promising trading strategy before putting money down on a trade.
Traders may use a variety of styles, depending on what is most comfortable for them. Generally, these may affect the amount of time and intensity of the activity they dedicate to trading during their week.
- "Day traders" will be looking at short time frames of minutes or hours to complete their trades.
- "Swing traders" may trade on market tendencies within a period of one day to a week.
- "Position traders" may trade over time frames of one week to a month or more.
Swing and position traders may need to dedicate less time to following short-term movements in the markets, allowing them more time to dedicate to other activities. However, they may also need to take on larger amounts of risk to account for price volatility over time and use lower leverage, meaning their profits could be relatively lower.
The forex market lends itself particularly well to automated trading, which is another reason it has attracted a growing number of participants. Trading platforms at many brokerages allow for trades that will automatically be put into effect when certain price or market conditions occur.
In this way, trades can be left unattended while the trading account holder is busy with other activities. Working with automated trading does require that traders invest some time learning about the platform trading features and strategies that they intend to use.
Forex is a fast-moving and accessible market with potential for rewards as well as losses beyond initial investments, even for beginning traders. Forex trading is not more difficult than trading in other markets, but the forex market does present its own particular conditions, behaviour and risks that beginners should be aware of before they start.
Senior Market Specialist
Russell Shor (MSTA, CFTe, MFTA) is a Senior Market Specialist at FXCM. He joined the firm in October 2017 and has an Honours Degree in Economics from the University of South Africa and holds the coveted Certified Financial Technician and Master of Financial Technical Analysis qualifications from the International Federation…