The foreign currency exchange (or FOREX as it is most commonly known) is uniquely placed as a truly global trading market with a daily turnover in excess of $4 trillion.
The FOREX operates across international boundaries and as a result is open for business 24 hours per day, excluding weekends. It holds a fascination for investors of all types and can provide a very rewarding trading experience.
However, it can be extremely daunting to those just starting out and there are some basics which need to be earned. So to help understand how FOREX trading works, here are the most common frequently asked questions by beginners to FOREX.
What actually is the Foreign Currency Exchange (FOREX)?
The FOREX is an exchange for trading in currencies. Basically, a buyer of a particular currency pays for it (or exchanges it) for an amount of another currency.
The FOREX operates as a cash (or “spot”) market and is different from regular stock exchanges in that it does not have a location like a trading floor. Instead it is completely electronic and is comprised of a network of global banks.
Given that the FOREX operates across global territories it is continuously open can be accessed from a computer with an Internet connection, making it very appealing to all types of investor.
How is FOREX traded?
Currency is traded on FOREX in pairs and in dollar amounts known as lots.
What is a FOREX pair?
For starters, there are seven major currencies on the FOREX – US dollar (USD), Euro (EUR), Great Britain pound or sterling (GBP), Japanese yen (JPY), Canadian dollar (CAD), Australian dollar (AUD) and Swiss franc (CHF).
This leads to six major FOREX pairs involving the US dollar – USD/EUR, USD/GBP, USD/JPY, USD/CAD, USD/AUD and USD/CHF.
What is a FOREX lot?
If you are operating a “standard” FOREX account, one (standard) lot is $1,000 and it in turn controls $100,000 in currency. A further breakdown is a “mini” account which is one tenth of a standard account.
Using a standard account as an example, let us say you you want to buy one lot of EUR/USD. This means you are simultaneously buying the EUR and selling the USD.
If you are expecting that the EUR will go up against the USD (known as going long) then for every increase of $0.0001 in the EUR, you would make one price interest point (known as a pip) of profit, equivalent to $10.
The converse occurs when you are selling the EUR, expecting it to go down (known as going short) against the USD. Again, for every decrease in the EUR of $0.0001 you make one pip.
If the USD is not the quote currency as used in this example, then of course the pip value and amount per pip will be different.
What are the benefits of FOREX trading?
The overwhelming benefit of FOREX trading is the very low cost of getting started. The only equipment you need is a computer connected to the Internet, and a FOREX mini account which costs as little as about $300.
As a home based business it has further benefits, such as not having to worry about servicing clients, managing employees or carrying stock. How much time you spend trading at your computer is entirely flexible and comes down to personal preference.
The speed of order placement and execution is another benefit of FOREX trading. Unlike traditional stock markets, FOREX transactions can be completed in just a few seconds.
Because currency prices are inclined to respond to historical trends, they tend to move in cycles which can be predicted with reasonable degrees of accuracy. Once you become a competent FOREX trader you can read these signals and it is possible to earn significant profits from a small financial base.
Of course there is learning to be done and experience to be gained, just like any profession. To get a complete understanding of how FOREX trading works, we recommend Forex Mentor Pro which provides training, professional support and a community of like minded FOREX traders. Check it out for yourself.
What are the risks of FOREX trading?
Any form of market trading carries some risk, as does crossing the road!
With all forms of risky activities, there are mitigation factors to minimize (if not eliminate) the risk so let us consider a few of the major FOREX trading risks.
FOREX market volatility – this can occur for a number of reasons and these are generally known in advance. As such, traders get warning in special announcements and the best approach is to hold back on your trades until things have settled again.
Too much hanging on a single trade – this is an example of the old adage of having all your eggs in the one basket (never a good strategy). To cut down the risk you can utilize stops so that any losses are minimized. Also, your trading strategy should have a rule that you never have more than 2% to 3% of your holding invested in one transaction (see our Ten Commandments of Successful Online Stock Trading – the principles are the same for FOREX trading).
End of the world (or equivalent) – this would be an extreme case of the volatility mentioned above. A major global catastrophe could empty your account, but depending on the actual event you might also make a killing.
Human nature – by this we mean one of the most common of the seven deadly sins, greed. Ignorance can also play a role in determining FOREX trader behavior and ultimately the level of success you achieve. The way around this one is to engage in quality FOREX training.
How can I get started with FOREX trading?
Whilst it is simple to get an online account from a FOREX broker, it is advisable that your do two things before trading for real.
Firstly get some top training from a reputable organization (like Forex Mentor Pro) and secondly, use a demonstration account to try out your learning.
These demo accounts are free and are just like real trades using real data except that none of your money is being used. When you feel comfortable in this simulated environment you can move to your live account and starting trading currencies on your way to becoming a successful FOREX trader.
To your FOREX trading success.