Forex trading involves dealing with the currencies of many countries pitching one against the other. Forex is a short form of Foreign-Exchange. For instance the euro (EUR) is the currency of Europe and in U.S. the circulating currency is the dollar (USD). In forex trading one simultaneously sells off the dollar and purchases the Euro. The technical name for this deal is ‘going long’ on the EUR/USD. Generally forex trading is operated through a market maker otherwise known as the forex broker. A forex trader has to make a choice as to which currency pair he or she expects to change in value and accordingly trades. For instance, if in 2005 the forex trader had bought 1,000 euros the cost would have been about $1,200 USD. All through 2005 the value of euro against the dollar increased. At the close of that year the worth of 1,000 euros was $1,300 USD. If the trader decided to close the trade at that juncture then his or her gain would have been $100.
Forex trading can be done through the market maker or broker. It only requires a few clicks to place orders and the market maker passes along this order to his partner in Interbank-Market so as to fill in the position of the trader. When the latter closes the trade, the market maker closes this position on the Interbank-Market and credits the account of the trader with either loss or of gain. All this can take place within the span of few seconds – literally.
Advantages of Forex Trading
Typically there are five special advantages in forex-trading.
1. Round the clock market:
Since the forex-market is across the globe the trading goes on continuously so long as in some corner of the world the market is running and open. The trading begins with the opening of markets in Australia on Sunday evenings and closes after the market shut down on Fridays in New York.
2. High Liquidity:
By liquidity is meant the changing of an asset into cash without undergoing any discount in prices. In forex-trading this means the moving of huge sums of money into and then out of foreign currencies with the least possible movement in price.
3. Low Cost of Transactions:
Generally in forex-trading the transaction cost is included in the price. It is known as the ‘spread’. The gap between the buying price and the selling price is known as the spread.
4. Leverage:
The brokers of forex-trading permit the traders to use leverage while trading. By leverage is meant being able to trade with more money than what is there actually in the account of the trader. If the trader were to trade at leverage of 50:1 then he or she can trade $50 in the market for each $1 that is in the account. This means the trader can manage a trade amounting to $50,000 by using as capital only $1,000.
5. Potential Profit from Increasing and Decreasing Prices:
There are no limits to directional trading in forex-market. It means if the trader thinks that the value of a currency pair is going to escalate then he or she can purchase it or go long. In the same way if he or she thinks that its value might decrease then it can be sold or the trader goes short.
Forex Trading Margin
In the world of forex-trading the brokers permit foreign currency trading to be executed on margin. Margin is fundamentally an operation of extension of credit for trading purposes. For instance if one is trading on 50:1 margin then for each $1 in the account of the trader, he or she will be able to trade $50. This has both advantages as well as disadvantages.
Advantages:
The benefit of margin trading is that the trade has the possibility of netting high gains in comparison to the balance in the account of the trader. For example if the trader has an account balance of $1,000 and not margin trading, he of she can start a trade of $1,000 that will net in 100 pips. In a trade of $1,000 the worth of each pip is 10 cents. Then the profit from the trade would calculate to $10 or a gain of 1%. If the trader uses this same $1,000 to make a margin trade of 50:1 then the trade value will be $50,000. The same pips numbering 100 would bring in to the trader $500 or a gain of 50%.
Disadvantages:
The risk factor in using margin is its disadvantage. To highlight this let us assume the opposite of the above instance. The trader is still using an account balance of $1,000. A trade of that amount is initiated and 100 pips are lost. The loss is $10 or a mere 1%. This is not bad enough to prevent the trader from trying again. There is a good amount of capital still left. If the trader took a margin trade of 50:1 and endured a loss of $50,000, then a loss counting to 100 pips will take away $500 or 50% from the capital. If another trade of similar proportions is undertaken then the account is wiped out. Thus in the first instance the trader has lost a mere $10 or 1%. Thus he or she can go on trading 99 times again without emptying account.
Summary:
Margin trading is another instrument. It can be made use of to make either impressive profits or equally substantial losses. Margin trading is best for those having some experience and who observes a policy of disciplined risk management.
Before anyone can trade in Forex, they are required to open a forex trading account with a forex dealer or broker. Check pricing with more than one dealer at first, as there is no hard and fast rules dictating how much they are able to charge or what trading limits they should provide. Compare their services as well as their charges, the same as you would for any product.
Some forex broker firms make use of a commission structure while others earn their share from the spread. The spread is the difference between the bid price and the ask price and the wider this is, the more the price of the forex needs to move before any money can be made. As the point of trading forex is to make money, make sure you are fully informed regarding spread before choosing a dealer. Even if a broker advertises that they offer a “commission free” service, they still have to make money somewhere and they will make money on your trades somehow; ask about this. When you open a trading account you want to know what compensation all parties will make through the bid/ask spread.
Liquidating or offsetting forex transactions takes place by entering into equal and opposite transactions with the broker. To effect this, the currencies are coupled so a transaction will be closed out by for example buying Euro with US Dollars and then selling Euros for US Dollars.
In the most part retail transactions of forex have settlement dates, to extend a settlement date, you will have to request that the broker extend you a rollover. This will in effect keep your position open, so you also need to enquire of the dealer, what fee they charge for a rollover position. There are some brokers who will do this automatically, but in the most part, a request must come from the trader. They may charge a fee which is based on the differential interest rate between the currencies you are trading, so check your agreement, or find out what this is before you select a forex retail broker.
Forex Trading Signals
Forex Signals? It is not difficult to describe forex signals, they are essentially any information or data which is pertinent to a change, either up or down in foreign exchange. Forex can be influenced by politics, the economy or even a large sporting event. A prime example would be the current financial predicament in Greece. They are a member of the EU and therefore use Euro as currency.
When they announced they were going bankrupt, the burden to assist them fell upon other EU nations and this would drive the value of the Euro down. This is a vital forex signal and you can pretty much guarantee that traders holding Euro positions got out of them as soon as they could.
Depending upon the strategy being used by the trader, this kind of signal could make or break them. This announcement was drastic and most currency (except perhaps the Zimbawean dollar) gained on the Euro. This drop lasted for a number of days and was a defacto loss on this currency. In the most part these signals affect currency by very small amounts, but it is these small amounts which allow profit and loss for traders. The Greek announcement drove the Euro down by whole numbers instead of mere fractions of numbers. Forex percentages are measured in 1/100′s or 1/1000′s.
Forex signals can also be positively or negatively affected by major news networks, even if they don’t have their facts straight. Mistakes and opinions have also been known to affect foreign exchange rates, even if they are not true or don’t turn out to be true. If CNN publishes information on their website, this may provoke selling and affect the value of the dollar. For this reason it is very important for a trader to make use of a good source for forex signals as well as learn how these signals would affect a particular currency. The Greek debacle was obvious, but sometimes these signals are not so obvious and can be as insidious as a negative forecast for employment, or a change in foreign policy towards another nation.