Foreign exchange trading, or Forex trading, has been growing in popularity over the last few decades. This has happened for a number of reasons. Forex is very liquid, it is easily accessible and maybe most importantly - you can trade Forex at almost any time of the day. When it comes to foreign exchange trading, many beginners will try to jump start their trading by copying somebody else's strategy and try to implement it without any proper knowledge of Forex fundamentals. This is one of the main reasons why many traders fail to become profitable in this highly attractive market.
In this article, we will explain the basics behind the Forex market, and will highlight the most important things a beginner should know before beginning to trade Forex on a live account.
When it comes to the foreign exchange market, size is what really matters. The main item of Forex fundamentals is that the size of the market is simply the largest - even bigger than the stock market. When comparing Forex to the New York Stock Exchange, you may be surprised to learn that the FX market is actually hundreds of times bigger. The daily turnover of the market is counted not in billions, but in trillions of United States dollars.
How is this possible? The answer is rather simple. There are a lot of currencies in the world and there is a constant demand for them, as institutions are often required to settle payments in foreign currencies. This is why there are trillions of dollars traded daily all over the world. Forex trading is a way of speculating the world's money supply and demand.
When it comes to trading, and especially online trading, liquidity plays a vital role. Perhaps liquidity is what differentiates Forex from any other market. In trading, every entrepreneur should know that holding assets that are hard to get rid of is quite risky - even more so when you are virtually holding an asset without actually storing it. One of the main fundamentals of Forex trading is that this is the most liquid market - so getting rid of or purchasing the assets is much easier than it is in any other market. What is important to note is that Forex is also influenced by Black Swan events. So even in the most liquid market, it may be hard to trade some currency pairs in the aftermath of unexpected events.
This is one of the fundamentals of Forex trading that can be quite hard for beginners to understand. Unlike stocks, indexes or other trading instruments, Forex is traded via currency pairs. You are not trading US dollars or Canadian dollars, but instead you are trading euro quotes against US dollars or EUR/USD. So, what does EUR/USD mean? It means that you are trading US dollars for euros - your account holding currency does not really matter. You can easily trade NZD/USD while your account is denominated in euros or pounds.
What's great about the FX market is that it operates without a stop, except for trading breaks which last only minutes. This is one of the main advantages of the FX market and is certainly something that should be noted while taking a look at the fundamentals of Forex trading. There is no central exchange which has its own operational hours. Forex is traded worldwide and this is why you can trade Forex any time of the day, except on the weekends. This can be a great advantage, as people can trade whatever they are interested in at any time of day, regardless of time differences.
The main advantage for many experienced traders - and the main setback for beginners - lies in what is known as leverage, gearing or marginal trading. This is one of the most important fundamentals of Forex for retail traders. So what is leverage? Leverage can be compared to a credit line. A Forex broker supplies its traders with an ability to trade, sometimes up to 1,000 times larger than their actual deposit. In other words, with as little as 100 USD on your account, a sum of 100,000 USD can be traded. Such a high leverage is rarely available on the Forex market. While it can certainly be an advantage for the majority of experienced traders, many novice traders try to use the leverage to its upper limit and end up losing their funds quite fast.
The main beauty of leverage is that it allows you to trade more than you actually have. However, the size of the leverage should be chosen with care. As you may trade 1,000 times more than you actually have, this means that you can profit 1,000 times faster too. On the other hand, if the trade doesn't go your way, you can actually lose funds 1,000 times quicker than if you had no leverage at all. This is why novice traders are recommended to use trading accounts with low amounts of leverage.
One of the greatest advantages of FX trading is that it is one of the most developed markets in terms of technology. While many markets are accessible via old fashioned trading platforms, there is constant competition in terms of the software available for trading the FX market. For the last few years, the FX trading industry has been dominated by MetaTrader 4 supplied by the MetaQuotes Corporation. While this software is known as the most stable and the most widely used, it also has to compete with lots of other platforms now.
MetaTrader 4 and MetaTrader 5 are available at Admiral Markets as a Windows program, Mac Application and also as a trading terminal for Android and iOS devices (for iPhone and iPad). Even though MT4 remains the most attractive platform, it is regularly updated to compete with rival software developers.
One of the fundamentals of Forex that should be known by every trader is its execution system. Usually you will encounter two common business models - Market Maker and Agency Model. While the first one tries to adopt a Dealing Desk execution, it is mostly aimed at betting against traders' success. In other words, your broker may be expecting you to fail in trading, so the broker isn't actually transferring your trades to the market - they are instead executing them on their internal system. This way Market Makers can sometimes interfere with your trading and spoil the whole trading experience for you.
Unlike Market Makers, Agency Model brokers are actually executing your orders on the market and this way you can be sure that your broker is expecting you to make profit and will not interfere with your trades. In other words, the better you are at trading, the larger your trading capital will be - and the larger it is, the higher volume you will trade. If you trade high volumes, you end up paying more to your broker in terms of the spreads and commissions.
When it comes to strategies, traders need to carefully choose their approach. Usually traders are split into two main groups; the ones that trade on news releases and others that mostly make trades based on patterns and indicators. While trading Forex fundamentals or Forex news trading can be risky yet profitable, technical Forex trading is considered to be more reliable. You may choose the approach that fits your profile best, or create your own hybrid mix of the approaches mentioned earlier. What is most important is that Forex should be traded with a clear strategy.
What is often neglected by novice traders is the risk exposure when it comes to Forex trading. While Forex remains quite accessible, it is also very risky. As a beginner trader, you should try trading the lowest amounts possible before you gain the necessary experience, otherwise there is a large chance of losing your deposit. Even for experienced traders it is not recommended to trade with amounts larger than they are willing to lose. The market is quite volatile and may have lots of ups and downs within a single day, this is why it is important to only trade with money you can afford to lose.