Forex market trading requires a special set of skills and a knowledge of world events not necessary for the typical stock market “day trader”. With the increasingly widespread availability of electronic trading networks on the Internet, trading on the Forex capital markets is now more accessible than ever. The foreign exchange market, known as Forex, is mostly the domain of big names — government central branks and commercial or investment banks, hedge fund managers, and massive international conglomerates. At first glance, the presence of these heavyweights may be daunting to the individual investor. But the presence of these powerful entities and the mere size of the international currency market can work to the benefit of the individual trader.
Forex Market Hours
The Currency Forex Market hours will please most traders used to traditional stock trading. Unlike with stock markets, trading occurs all day long. Forex traders work 24-hours a day, five days a week. No more waiting to make trades after the weekend, or trading according to a market’s hours — the currency Forex market is never closed.
Many of the trading moves utilized in Forex capital markets, such as spread betting, forwards and futures, options, the spot market, and contracts for difference, are very similar to those used in more traditional stock trading markets. Since the “financial instruments” of the Forex capital markets tend to maintain minimum trade sizes relative to a base currency, the use of “margin trading” is absolutely essential for the person trading these instruments. For example, the spot market requires a minimum trade size of 100,000 units of the base currency. That’s a ton of margin.
Buying and Selling on Forex
When buying and selling on Forex, it is important to remember that currencies will always be priced by the pair. Every trade on the currency Forex market will result in the simultaneous purchase of one currency and the sale of another. This requires a sea change in the way a trader thinks about exchange — a very different mode of thinking than what a stock trader might be used to. While trading on the Forex market, you should execute a trade only at a time when you expect the currency you are buying to increase in value against the value of the currency you are selling. If the currency you are buying increases in value, you must sell the other currency back in order to lock in a profit. An open trade (also known as an open position) is a trade in which a trader has bought or sold a specific currency pair and has not sold or bought back the equivalent amount to close their trading position.
Forex Market Quotes
Forex market quotes always include a bid and an ask price. The bid is the price which the “market maker” is willing to pay to buy the base currency in exchange for the counter currency. The ask price is the price at which the “market maker” is willing to sell the base currency in exchange for the counter currency. This implies a difference in cost between the bid price and the ask prices — a number known in the Forex market as the “spread”. Therefore, currency traders must become familiar with the way in which currencies are quoted. The first currency in the pair is considered the base currency and the second is the counter or quote currency. Most of the time, the U.S. dollar is considered the base currency, and quotes are expressed in units of $1 US per unit of counter currency. This will be expressed in an easy to read code depending on the currencies involved — for example, USD/CAD or USD/JPY.
The cost a trader incurs to establish a position is determined by the spread, and prices are always quoted using five numbers, the final digit of which is referred to as a point or a “pip”. For example, if USD/JPY was quoted with a bid of 134.85 and an ask of 134.90, you can see the five points between bid and ask as the “cost of trading” this position. This means that from the very start, a currency trader must recover the cost of trading from his or her profits. This means making favorable moves in a given position just to break even.
Margin on the Forex
Trading in the Forex currency markets forces traders to think differently about margin as well. Margin on the Forex is not like a down payment on a future purchase of equity in the equity markets, but is an actual deposit to the trader’s Forex account that will cover the cost of any currency-trading losses in the future. Remember, this is done because of the high volume and high risk potentials on the Forex currency markets. A typical currency trading system will allow for a very high degree of leverage within margin requirements, up to a ratio of 100:1 or higher. The financial system you trade with will automatically calculate the funds necessary for current positions and will check for margin funds’ availability before executing a trade.
As is probably obvious by now, trading in Forex requires a slightly different way of thinking than the way required by equity markets. But because of the Forex market’s extreme liquidity, potential for high profits due to readily available leverage and easy trendspotting, the Forex currency market is hard to resist. The advanced trader, moving from the equity market to the currencuy market, will be excited by the trading and profit possibilites. With this kind of money making potential, however, comes a good deal of risk. Forex market traders should learn the available methods of risk management before jumping into the currency market.