Discover how to generate wealth and build for your future by trading forex.
When investors trade currencies in the large liquid foreign exchange market, they’re engaging in forex trading. Forex — short for foreign exchange — offers opportunities to turn a profit in the world’s most traded 24/7 market, where traders exchanging one currency for another at an agreed price. Given its complexities, forex trading is highly suited to experienced investors, though many new traders quickly succumb to the excitement of this dynamic market.
How does forex trading work?
Forex traders come to the market with one main aim: profit from the sometimes minute changes in value of one currency against another. They do this by basing their investment decisions on whichever way they think forex prices will fluctuate in the future.
For example, if experts anticipate that the Australian dollar will decrease in value against to the US dollar, forex traders will sell their Aussie dollars and buy US bucks. If the US dollar then increases in value, the trader gains greater purchasing power to buy more Australian dollars than they initially had — resulting in a tidy profit.
On the global forex market, currencies are quoted in pairs — that is, in terms of their value against other currencies. In the forex market, these pairs are expressed as AUD/USD, GBP/EUR and USD/GBP. You’ll sometimes hear these pairs referred to by nickname. Keeping things lively, AUD/USD is often called the “Aussie,” EUR/GBP the “Chunnel,” GBP/USD the “cable” and USD/CHF the “Swissy,” among others.
You’ll find a range of trading platforms to choose from for forex. To place a trade, you simply select what you want to buy or sell and indicate the amount of your transaction.
What are the benefits of forex trading?
Forex trading has many advantages for the right investor, starting with its 24/7 accessibility. Unlike the New York Stock Exchange, which is open weekdays only from 9:30 a.m. to 4 p.m. EST, the global forex market runs Monday through Friday around the clock. This means that forex prices constantly fluctuate, offer plenty of investment opportunities for traders.
Investors use leverage to significantly increase their profits. Leverage allows investors to conduct a trade without putting up the full amount of that trade, controlling a large amount of money using a little of their own and borrowing the rest.
The forex market offers investors the highest achievable leverage among other markets, which means there is a much higher potential for profit from a small initial outlay. Unfortunately, this also means a greater risk for suffering a loss.
Case Study: Graham Trades USD/EUR
Graham is a veteran investor who buys and sells currency pairs. Anticipating that the US dollar will increase in value against the euro, Graham purchases $100,000 in US dollars at €0.90. He buys a forex contract worth €90,000. Because his forex trading platform allows him to place trades at a margin of 1%, this investment costs Graham $1,000 to place.
Time shows that Graham’s prediction is correct! The US dollar rises to €0.925, resulting in a profit of around some $3,500 for Graham.
What forex trading platforms are available?
Several forex trading services are available to US investors, some geared toward beginners and others for experts.
- Oanda Corporation
- TradeKing Forex
- Fortex Capital Marketing
- Interactive Brokers Limited
- OptionsXpress by Charles Schwab
- TD Ameritrade Forex
Compare the fees and benefits of several providers before deciding on a platform that’s for you.
What’s the cost involved in forex trading?
As with any other form of investment, you need to carefully review the fees and charges that apply specifically to trading forex. To start, compare among a range of providers the margin you’re required to meet in order to make a trade. This margin of 0.5%, 1% or more will affect the total amount you’ll spend to buy or sell forex. For instance, if your account has a margin of 1%, a trade worth $100,000 will require you to spend $1,000.
In addition, most providers charge a commission for every trade you make. These fees can be as low as a few cents per thousand dollars, but some providers charge no commission on your trades. You may pay a fee to pay by credit or debit card.
Finally, consider the spread — or the difference between the buy and sell prices for each currency pair. The spread is effectively what a broker or trading platform charges you to make a trade. Look for a trading platform that offers tight spreads to minimize your overall costs.
Compare services to buy or sell currency
What do I need to open a forex trading account?
Most forex trading platforms allow potential traders to apply online for an account within minutes. The application process varies by provider, but you typically complete an online application and then wait to learn whether your application is approved.
To comply with the law, a provider may require you to supply:
- Your full name and personal contact information
- Your date of birth and Social Security number
- Your employment status
- Proof of government-issued ID, like a driver’s license or passport
- Financial details, including your income and network
- Your trading experience or objectives
What are some common forex trading strategies?
With so many experts touting strategies for nearly any kind of investment, it’s no surprise that you’ll find several strategies for trading forex — from the basic tools to complex approaches.
One common strategy is to perform technical analysis or fundamental analysis to more solidly predict the future performance of a currency pair. Also common is a day-trading strategy, which is based on the simple premise that you don’t hold forex positions overnight. In general, the longer you hold open a position, the greater risk of suffering a loss. To minimize risk, traders can close all positions held before the end of the trading day.
A third strategy is researching the past fluctuations of a currency and using what you’ve learned to predict future price movements. The previous upper limit of a price is called its resistance limit, and the previous lower limit is its support limit. Traders use these resistance limits and support limits to make an educated guess as to when a currency’s value might rise or fall.
Can foreign exchange make me rich?
While it’s possible to make money trading, it’s also inherently risky. Experience trading, time and the ability to make upfront investments—and recover in the case of losses—are all necessary if you want to make meaningful gains.
Trading currency isn’t a get-rich-quick business. You’ll need to dedicate a fair amount of time to watching the markets, and if you’re inexperienced, you’ll also need to spend time immersed in learning the system. Strategies come in handy, but no one strategy is right for every situation.
What are some of the risks associated with forex trading?
Before you start trading forex, research and understand the risks involved with this sort of trading.
- Even though you’ll put down only a small percentage of the value of your trade up front, you are ultimately responsible for the entire amount of your trade.
- Forex rates are volatile and can quickly move against you, possibly resulting in a significant loss of money.
- Markets are open 24 hours a day, which can result in devoting plenty of time to tracking open positions.
- Predicting currency markets is difficult, and a wide range of factors affect currency pairs.
- Even a stop-loss order — a hedging tool designed to minimize your losses — offers only limited protection against the risks involved.
Frequently asked questions about forex trading
- Ask price. The lowest price at which a trader can buy a currency.
- At best. An instruction given to a broker to purchase or sell a currency at the best rate currently available in the market.
- Base currency. This is the first currency listed in a currency pair. It shows the value of one currency when measured against another, for example AUD/USD.
- Bear market. A market or period in which the prices are falling, which typically encourages investors to sell off a currency.
- Bid price. The price a dealer is willing to buy a base currency at.
- Bull market. A market or period in which the prices are rising, which typically encourages investors to buy securities or commodities.
- Forex. An abbreviation of foreign exchange that refers to the market in which currency is traded.
- Hedging. A strategy that protects an asset or liability from wild fluctuations in exchange rates.
- Leverage. A trader’s ability to control a large amount of money in the forex markets by investing only a small percentage of the overall value of the trade.
- Margin. Cash collateral deposited in case of losses due to foreign exchange trades, or the amount you’re required to spend to open a trade.
- Margin call. A broker’s demand for additional funds to be deposited when your trading account doesn’t hold sufficient funds to maintain all your open positions.
- Spread. The difference between a bid price and an ask price.