Forex trading is risky. Some estimate that about 95% of forex traders lose their money trading, while this estimate is not shared by all, one thing different experts share in common is the agreement that most traders lose money trading. But as with most high-risk investments, there is huge profit potential. Let us discuss how to make money online trading forex. In this article, we’ll cover the basics: forex trading for beginners.
Let’s dive in.
WHAT IS FOREX
An acronym for foreign exchange, forex is the exchange of two different currencies.
Let’s imagine Mr. Shung Hu who’s coming to the US to meet with a business associate. He lives in China and so makes use of the Chinese Yuan. Now that he’s traveling to the US, he needs to sell his Yuan to buy the US Dollar. This exchange of his Yuan for Dollar is forex.
Unlike the stock market, Forex does not have a central exchange body. Instead, banks around the world and other financial institutions oversee the exchanges.
Forex trading is done from Sunday 5pm ET to Friday 5pm ET.
Different markets around the world resume at different times. This is mainly due to the different time zones of the markets.
The table below shows the different forex markets and their resumption times.
|World Market||Local Time||Corresponding ET||Corresponding UTC|
|New York||Open:8:00 AM|
HOW IS PROFIT MADE IN FOREX
When you use a currency to buy another currency at a particular rate, and sell back to your first at a higher rate, you’re said to have profited.
If then, you sell at a rate, and buys at a lower rate, you’re said to have profited too.
Let’s go back to the Shung Hu analogy. The current exchange rate of dollar to yuan is $1=6.71 chinese yuan.
But for simplicity, let’s use a round figure.
So we’ll say $1=10 Yuan.
Mr Hu needed $5000 dollars for his trip, so he buys the said amount for 50,000 Yuan. A day to his trip, he learns that the appointment has been cancelled. But when he returns to exchange his currency back to Yuan, he learns that the Yuan has taken a hit. It has lost some value. At this rate:
$1= 12 Yuan
He converts his $5,000 back to Yuan and is given 60,000 Yuan.
Subtract this from his initial investment of 50,000 Yuan, and he’s profited 10,000 Yuan.
|Mr. Shung Hu|
|Sells 50,000 Yuan||Buys $5,000|
|Sells $5,000||Buys 60,000 Yuan|
|Difference = 60,000 – 50,000||Profit = 10,000 Yuan|
Now that we’ve discussed how profit is made, let’s things we need to put in mind before venturing into forex trading.
GUAGE YOUR RISK APPETITE
Risk appetite is the amount of risk a trader is ready to handle. Forex is highly volatile, so a trader can make much profit from a trade. On the other hand, a trader can lose all his capital from a trade.
The rule, then, is: Never trade what you’re not willing to lose.
After some strings of winning trade, traders are tempted to risk more. Others do their technical analysis and it appears that a trade is definitely going to go a particular direction. With this high level of optimism, a trader might be tempted to risk more, hoping to make more profit from a single trade.
Whatever the reason is, it is a good advice to trade in small increments. Forex profit does not come from those single huge trades. Instead it comes from the small, but consistent trades.
If you have a gambler’s risk appetite, your chances of success in forex are slim.
After deciding what your risk appetite is, its time to research your broker.
FIND A PREFERED BROKER
In the early years, forex trading is done only by banks and big financial institutions. Today, an individual can trade even with small capital. This is possible because of forex brokers.
What is a forex broker? Its a financial service company, that provides a platform for retail traders to trade forex. On the other hand, they charge certain amount (fixed or variable) for providing this service.
The charges are usually in the form of a “spread.” A spread is a difference in the actual price compared to the price you’re buying. For example, if a dollar is 0.94 Euro in the interbank market, they sell to you at 0.95 Euro. The spread is 0.01$. This is what they profit from allowing you to trade on their platform.
So how do you choose a broker? Well, different brokers give different incentives to prospective traders. You’ll have to research what each broker has to offer:
- Are they registered by reputable regulatory bodies?
- Do they have good reputation?
- What accounts do they offer?
- What currency pairs do trade?
- How big is their spread
- What is their minimum trading capital
- What trading platform do they offer?
- Is their operation transparent?
- What is their customer service like?
The decision to choose a broker can have an impact on your trading, profit potential, and cash withdrawal. Remember, forex trading for beginners, in itself, is a daunting task. So, there’s no hurrying in this stage. Just take some time, do thorough research, and when you’ve decided on a preferred broker, the next step is to choose a trading account.
INVEST IN MANAGED ACCOUNTS
Forex trading is a delicate investment options. One way to reduce this risk is by trading on a demo account.
A demo account replicates real trading environment, using virtual money. So, you have the chance to practice, make mistakes, take risks without loosing your capital.
But truth is, no matter how much you practice on a demo, it will be feel different when you trading a real account. Because of this, many prefer investing on a managed account.
A managed account is a type of trading account, that is either traded by any experienced person or one where you copy his trades.
There are 3 types of managed accounts.
- PAMM: Percentage Allocation Management Module
- MAM: Multi-Account Managers
- LAMM: Lot Allocation Management Module
This system of trading allows experienced traders (managers) to trade on behalf of others (investors) for a percentage of accrued profit.
The catch in this trading system are:
- Funds of individual traders are in the trader’s account. However, an automated system replicates trades in percentage from the manager’s account to the investor’s account. Meaning if he trades 5% of his trading capital, 5% is automatically traded from all accounts registered under him.
- A prospective PAMM account manager is required to deposit a higher minimum startup capital. Many brokers require a $1000 minimum deposit. So if you invest $100 in a pamm account, and he trades in percentage, you’ll only loose your capital if he looses his. For every dollar lost he losses $10. This higher investor-manager profit and loss ratio serves as a security to investors.
- The manager only profit from wining trades. Your only pay him a percentage of your profit. He gains nothing from an trade that ends in losses.
Examples of PAMM brokers are: FXTM, FXPro, HFM, FBS
In a MAM system, money managers are allowed to trade on behalf of investors. As with the PAMM system, they earn a fixed percentage of your profit.
The edge this system has over the PAMM is that trades are usually done by experienced money managers. While a PAMM manager can be a regular trading who believes in his trading success.
Many MAM managers work under their respective brokers.
Example of MAM brokers are: Tickmill, Pepperstone, Fusion Markets and Vantage.
In LAMM accounts, an investor sets aside part of his capital, a certain percent for example. The LAMM manager is able to initiate trading with this amount only, defined in lots. The trade amount is calculated by number of lots invested. As so are the profit and loss.
- There’s is also the copy trading. Some argue that this is not a type of managed account. Well, we’ll solve this issue in a different article.
CONTROL YOUR EMOTIONS
Forex trading is a game of emotions. But what do you expect when your capital is at stake? And every tick in a candlestick can either make or break you financially.
This is especially true for new traders. Emotions such as fear and greed can adversely interfere with a trader’s decisions. This can cause a trader to leave a winning trade too early, and a losing trade too late.
Key emotions that can affect a trader are:
To profit from the forex market, a beginner trader must learn to do proper analysis (technical or fundamental). And then, let the trade ride.
He should determine what amount he’s willing to lose on a particular trade. Set his stop loss and take profit accordingly. And let the market do its thing.
It is better not to watch the market move, as it becomes difficult to control emotions then. After placing a trade, close your trading app, go catch fun. Occasionally, you can check to see the status of your trade.
If you set a fixed stop loss and take profit, you’ll not need to close a trade prematurely.
A beginner trader must:
- Understand what forex trading is, and how profits are made
- Make an assessment of his risk appetite
- Research and select a broker
- Decide to trade himself or invest in managed accounts
- And lastly, tame his emotions.