How to Start Forex Trading: An All-You-Need-To-Know Guide
Humanity has evolved quite a bit from the days when bartering was the primary form of commerce. Back then, the mere thought of almost every country in the world having its own set of objects used for payments would have sounded preposterous, let alone the idea of those objects being exchanged for profit over an invisible network of devices. Yet, here we are.
Trading foreign currency on the world’s largest and most active liquid market poses an enticing business opportunity for many new traders. But how to start forex trading when even the abbreviation for the market sounds confusing? Have no fear, our beginner's guide is here to provide you with all the clarifications and instructions you may need.
We’d like first to get you acquainted with a few terms and concepts essential for this topic.
What is Forex?
If you’ve already done some research on your own, you may already know this, but it’s important enough to at least mention it for the sake of those taking their first steps in this economic field: Forex and FX are the two most commonly used abbreviations for foreign exchange, which is, simply put, the exchange of one currency for another. These transactions are conducted simultaneously.
What are Currency Pairs?
You’ll often hear people say they traded a specific currency pair. A currency pair represents the estimated value of a currency unit against a unit of another currency. In other words, it’s the amount you would pay in one currency for the unit of another currency. The first currency you see in a pair is the base currency, while the second one is called the quote currency. The profit you wish to make through forex trading lies in the difference between your two chosen currencies.
The eight most traded currency pairs are EUR/USD, USD/JPY, GBP/USD, USD/CHF, USD/CAD, AUD/USD, NZD/USD, and GBP/JPY. As you can see, all but one of them contain the US dollar. This is because it’s the world’s former spare currency. Currency pairs that don’t include the American dollar are referred to as crosses.
To simplify, let’s say that the current foreign exchange rate for the currency pair EUR/USD is 1.2000 (in most cases, the exchange rate is quoted to four decimal places). This would mean that you’d need to pay $1.20 to buy €1.
How Does the Foreign Exchange Market Work?
The market for trading foreign currencies is unlike the markets for trading shares or commodities. It’s an over-the-counter (OTC) market where banks, financial institutions, and natural entities (as opposed to legal entities) can conduct trades. The fact that it’s over-the-counter means that trades take place directly between two parties and not on an exchange of any kind.
To better understand this, you should know that, although markets and exchanges are often used interchangeably in everyday speech, a market represents an aggregation of buyers and sellers, while an exchange is a formal organization that enables trading.
The forex market is decentralized, which just means it doesn’t have a specific physical location. Instead, it’s run by a global network of banks. The four major trading centers are London, New York, Sydney, and Tokyo. Due to the different time zones, trading can be done 24 a day in different parts of the world from 5 p.m. EST on Sunday until 4 p.m. EST on Friday.
What Is a Position?
A position is the amount of security, commodity, or currency you own. In forex trading, you open a position by buying a currency pair when you expect its price to rise or sell it if you expect the exchange rate to fall. Closing a position refers to nothing more than canceling an existing position by doing the exact opposite of what you did to open it.
Long and Short Positions
Entering a short position means selling your asset, hoping that the currency will depreciate (go down) so that you can buy it back at a lower price later. To have a long position entails purchasing an asset expecting it to appreciate (go up).
Who Can Forex Trade?
The term “broker” is usually associated with people who carry out trades, but they aren’t the only ones who trade.
Brokers are professionals that sell and buy assets for their clients’ portfolios in return for a commission. Dealers trade assets in the name of a firm and for the firm’s account. One of the main differences between the two is that brokers act as an intermediary and, as such, execute orders only when instructed to do so by their client, while dealers are free to make their own decisions.
The term “trader” is the broadest one. In practice, it’s most frequently used for individuals who trade for their own portfolio.
How to Start Forex Trading?
Finally, let’s get down to the exact steps you need to take to begin your trading endeavors.
1. Learn as Much as You Can
At first glance, it may not seem all that complicated. Still, considering the numerous factors that affect the forex marketplace, such as political stability, imports and exports, economic growth, and monetary policies, to name a few, trading foreign currencies is not to be taken lightly. The best way to become a successful trader is to acquire as much knowledge as possible on currency trading and everything associated with it.
2. Choose Who Will Handle Your Trading
As we’ve already mentioned, you can do it yourself or hire a forex broker to do it for you. Trading through a broker is more expensive, but it’s easier and offers the security of knowing that you’re cooperating with an expert who can offer you advice. On the other hand, aside from the obvious affordability of it, trading by yourself makes it all the more rewarding when you earn a profit.
If you’d like to take on the responsibility of becoming an fx trader but feel insecure about your skills, you might want to research popular robo-advisory options and see if one of them would suit you. You can think of them as low-cost digital assistants.
3. Get a Stable Internet Connection
It may seem trivial, but having a fast internet connection that almost never breaks can make all the difference between success and failure. Being in the middle of a trade and suddenly losing internet access can lead to huge losses if the fx market moves against you.
4. Find a Trading Platform
Nowadays, there are countless trading platforms to choose from. We recommend assessing every foreign currency trading platform you’re interested in based on its reliability, ease of use, costs and charges, analysis tools, charting features, automation and testing capabilities, as well as its customer support team (you never know when you might encounter a problem that you can’t resolve on your own).
Keep in mind that not everyone agrees on what the best forex trading brokerages are since every person has different preferences, needs, and trading styles. For instance, you as a beginner should prioritize user-friendly trading platforms that have good technical analysis functionalities, testing tools, and maybe even forex trading tutorials. At the very beginning, you won’t need an abundance of features since they are more likely to confuse instead of aid you.
5. Practice by Demo Trading and Backtesting
Before you start trading real money, you can open a demo account, which lets you place trades on the live market in real-time using pretend funds. You can also use backtesting tools that allow you to create strategies and then try them out on historical market data.
6. Fund a Trading Account
Some trading platforms don’t have a minimum deposit, so, in most cases, you’ll be free to decide on the amount of money you wish to invest. While you’re still learning forex trading, you should stick to sums that don’t exceed $100.
7. Start Trading
Once you’ve completed all the steps mentioned above, you can commence exchanging currencies. The list we’ve compiled is indeed a bit long but try to resist the temptation of rushing into anything since the risks associated with forex trades are plentiful, which is something we’ll cover in more detail in the next paragraph.
Making money off the difference between the value of currencies carries more risk than you might think. By no means do we wish to scare you away from foreign exchange trading, but we do feel the responsibility to inform you about the potential challenges you’ll face.
There are three main risks you should be aware of:
Exchange rate risk
The supply and demand of a specific currency directly affect its value, and as long your position is outstanding, it can be affected by these changes. For example, let’s say you want to buy €100 because you believe that the currency’s value will go up soon. Currently, $1 may equal €0.83, which means that you need $82.81 to make the foreign currency trade. However, despite your predictions, the euro's price doesn’t rise but continues to decrease gradually over the next few weeks, and now, if you want to buy back your dollars, you need to spend more than €100 to regain the $82.81 you invested.
If you decide to hire a broker, you need to know about margin trading. It’s a trading method where you borrow money from your broker for trades you can’t afford, but that could potentially involve a higher reward (as opposed to the one you’d receive without borrowing the extra funds).
A forex trader whose estimates are correct will make a profit and repay their debt plus the added interest and have plenty left over. But, as you can probably guess, there’s a catch. In situations in which the trader’s assessments of the market are incorrect, they not only end up with personal financial losses but they now owe money as well.
Margin trading is called that because every broker requires a margin percentage to give you the loan. Simply put, you need to deposit a part of the sum you wish to trade. Therefore, if a broker offers a 1% margin, to trade $100,000, you’d have to deposit $1,000.
Experienced forex traders keep a close eye on the latest news regarding any events that could impact the currencies they are interested in.
A currency issued by a country that has become unstable due to political turmoil tends to devalue. In the best-case scenario, you predict this outcome and move your money out of that country’s currency.
Nations may also decide to intentionally lower the value of their currency. Although it may sound odd, it makes the nation’s exports less expensive and thus more desirable. Nevertheless, if you own the said nation's currency, it won’t benefit you.
Forex Trading VS Stock Trading
The most popular markets to trade in are, without a doubt, the foreign exchange and the stock market, which is why many people freshly stepping into the world of financial trading have a hard time deciding between the two. Of course, once you master one, nothing is stopping you from trading on both. To help you make your mind up, we’ll quickly go over their most prominent differences.
Unlike forex, which allows 24-hour trading, stock trading depends on the opening hours of the exchange the shares you’re interested in are listed on. However, more and more companies are starting to offer trading platforms that allow after-hour trading. These extra hours are usually between 4 p.m. and 8 p.m. EST.
To devise quality forex trading strategies, you need to be acquainted with the economic status of specific countries, whereas with stocks, your focus needs to be on a few factors that directly impact your chosen company.
The stock market is less liquid than forex, which means that it sees fewer trades on a daily basis. Then again, this makes forex more volatile (the market’s prices fluctuate more frequently).
When it all comes down to it, the choice is entirely yours. We hope that our How to Start Forex Trading guide has given you a good jumping-off point, and remember, whichever one you pick, one thing remains the same: you have to do your research. If you don’t have time for it, you can always look up the top-rated forex brokers or beginner-friendly online stock brokers and hire a professional at least until you feel confident enough to dive into financial trading yourself.
Can you get rich by trading forex?
Yes, you can hypothetically get rich from trading forex. However, you might get disappointed if that is your main goal for attempting it. Although an average, experienced trader can make a nice profit, without extremely deep pockets or an exceptional amount of skill, you shouldn’t expect more than that.
Is forex trading illegal?
The exchange of foreign currency is not illegal in the USA, but many countries around the world have very strict and specific regulations in regard to it. However, if you choose to hire a forex broker to deal with trading currency on your behalf, you must know that not all of them follow the law and that some brokers don’t have US trading licenses. So, make sure to only look for recommendations from reputable websites, and don’t forget to read several client reviews.
Do I need a license to trade forex?
You don’t need any specific license to trade foreign currency if you plan to use your own money, but you do need a stable internet connection and a good trading platform. You should acquire a license if you wish to become a broker.
How can I join forex?
To join the foreign currency exchange market, you’ll need a computer, mobile phone, or a tablet from which you can access a trading platform. Most people decide to trade from their computers, but with the rapid advancement of mobile technology, many have started looking for the investment apps they can install and use alongside their desktop platform. You’ll also have to have a reliable internet connection and to open a trading account.
Can I teach myself to trade forex?
Yes, you can learn to trade by yourself, but you must understand that it’s a skill like any other, and to learn how to start forex trading properly, you’ll need a lot of patience and persistence. Aside from reading up on the subject, you should also do some demo trading. If you want to speed up the process, you can always look up a few courses. In the meantime, you can check out our All-You-Need-To-Know Guide for some useful tips.
Albert Einstein is said to have identified compound interest as mankind’s greatest invention. That story’s probably apocryphal, but it conveys a deep truth about the power of fiscal policy to change the world along with our daily lives. Civilization became possible only when Sumerians of the Bronze Age invented money. Today, economic issues influence every aspect of daily life. My job at Fortunly is an opportunity to analyze government policies and banking practices, sharing the results of my research in articles that can help you make better, smarter decisions for yourself and your family.
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