Table of Contents
The Basics of FOREX Trading
Reasons To Trade In The FOREX Market
Getting Started In The Exciting World Of Forex Trading
Overview of Basic FOREX Strategy
An Introduction To Forex Charts
Forex Charts, Technical Indicators, and Trading Systems
An Introduction To Trading Forex Without Indicators
Determining Your Strategy
Forex Spread Basics
Tips For Trading Forex Successfully
More Rules Of Thumb for Successful Forex Trading
In Conclusion
The Basics of FOREX Trading
What exactly is FOREX trading? Put simply, FOREX trading is the buying and selling of international currencies.
Traditionally, participation in the FOREX market was confined to major banking and trading institutions.
But in recent years, technological developments have opened up this once exclusive arena to smaller companies and even individuals by allowing them to trade currencies online.
The world‘s currency rates are not fixed. They follow a floating exchange rate and are always traded in pairs— EuroDollar, Dollar/Yen, etc.
Most international transactions are exchanges of the world‘s major currencies.
When it comes to Forex trading, there are a number of major currency pairs. : Euro v. US dollar, US dollar v. Japanese yen, British pound v. US dollar, and US dollar v. Swiss franc.
These currency pairs are considered major in comparison to the other currency pairs because of their trading volume.
In the FOREX market, these relationships are shortened: EUR/USD, USD/JPY, GBP/USD, and USD/CHF.
They may also be listed as follows (without the slash): EURUSD, USDJPY, GBPUSD, and USDCHF
Below is a chart of 4 currency pairs clearly illustrating their relationship to each other.
Figure 1.0 Major Currency Pairs – Daily Data
It is also important to remember that there are no dividends paid on currencies.
If you are a trader in the FOREX market, you look to see whether one currency‘s value will appreciate against another currency.
When this is the case, you exchange the latter for the first.
Ideally, you will be able to exchange the first currency for the other at a later time and collect a profit from the trade.
FOREX transactions are typically conducted by professionals at major banks and brokerage firms.
FOREX trading has long been an important feature of the international market. At all hours of the day, currencies are being traded by brokers around the world.
In fact, the FOREX market operates virtually twenty-four hours a day and five days a week with traders at international banking institutions working a number of separate shifts.
The FOREX market is different from the normal stock market in the fact that price shifts are much smoother and do not result in significant gaps.
Each day the FOREX market turns over trillions of dollars, allowing traders to enter and exit certain position very easily.
As you can see, the FOREX market is a dynamic and continuous system that basically never sleeps.
To be sure, even on September 11 in 2001 it was still possible to obtain currency quotes.
Also known as the foreign exchange market, or FX, it is the oldest and most expansive financial market in the world.
In comparison, the currency futures market is a mere one percent the size of the FOREX market.
Trades are brokered between major banking groups and circulate around the globe, from America to Australia, to Asia, to Europe, and back to the U.S.
For a long time, financial prerequisites and hefty minimum transaction amounts put the FOREX market out of reach of small traders.
Consequently, at one time major banks and financial institutions were the only parties that could benefit from participation in the FOREX market‘s fluidness and strong exchange rates.
Today is a different story. FOREX market dealers can divide large units within the market, allowing smaller corporations and even individuals the ability to trade these smaller units.
Even though it is the oldest financial market in the world, the FOREX market has evolved a great deal in a short amount of time.
High-speed internet connections and sophisticated online Forex trading platforms has definitely made it easier for individual traders to get involved in Forex trading and possibly be very successful at it.
This basic guide is your first step towards a successful future in trading in the extremely lucrative FOREX market.
Reasons To Trade In The FOREX Market
If you asked Forex traders the number one reason they traded Forex most of them would say, “profit potential”
Figure 1.1 Daily GBPUSD Data
The chart above shows the daily GBPUSD (British Pound/US Dollar) currency pair.
This chart shows the ―BUY‖ entry where the blue arrow is (the bottom left of the chart). This represents where a particular Forex trading system went long (bought).
The profit so far in this trade is approximately $24,000 per Forex contract. This is from just one simple trade in the Forex market!
So as you can see the profit potential is there and opportunities such as these exist in all Forex currency pairs.
There is a unique and potentially very profitable opportunity offered through cash/spot FOREX markets regardless of the condition of the market.
The advantages of FOREX trading are:
Around the clock market:
A trader can trade anytime that they think market conditions are favorable; Forex offers a 24-hour market.
This is particularly convenient for those who wish to trade Forex on a part-time basis.
You could easily find markets to trade that will not conflict with your work schedule.
There is basically no schedule that the Forex market‘s trading hours can‘t accommodate.
Easy in-Easy out:
A trader can enter or exit the market almost totally at will; no other market offers as much liquidity.
There are very few execution barriers and no limits are placed on daily trading.
The leverage available in Forex is much higher than equity markets: A leverage ratio of up to 400:1 in comparison to 2:1 in the equity markets.
Although the risk of using greater leverage can be higher in FOREX trading, the potential for profit is there as well!
A low-cost transaction:
Compared to other markets the Forex market has some of the lowest transaction costs available.
Always An Opportunity To Profit:
FOREX trading actually consists of buying or selling one currency against another, and there is always a profit opportunity for one currency pair or another.
Global market:
With no organized exchanges like the New York Stock Exchange, trading is facilitated by electronic communication and telephones.
No market monopoly:
Because of the size of the FOREX market, no single trader or bank can control the market price for any length of time.
Because of the ineffectiveness of bank interventions to manipulate prices, they have diminished.
It is basically unregulated:
There are no specific FOREX regulations for daily operations. Of course, banks are always regulated through banking laws.
There are many different advantages to trading FOREX instead of futures or stocks, such as:
Lower Margin
A FOREX trader can control a large amount of currency with only a small account deposit, just like when futures and stock speculation is done.
Futures require a 5% margin and the margin required for FOREX is around 1%.
In layman‘s terms, in FOREX trading, a currency trader can control 5 times as much with his money as in futures trading and 50 times more than stock trading!
There is much profit in trading on margin, but you need to be fully aware of the very high risks too.
Be sure you understand the ins and outs of your margin account and that you have read the margin agreement between you and the clearing firm.
If you still have things you are not sure about, discuss these issues beforehand with your account representative.
If you allow your account to fall below an amount set in your agreement, you could experience the partial or complete liquidation of your positions.
It may be done before you even get a margin call, so be sure you review your margin balance regularly.
Take advantage of stop-loss orders on each open position; this is a must in order to reduce risk and preserve valuable working capital.
There are No Exchange Fees and NO Commission
You pay exchange and brokerage fees in the futures market, but FOREX trading is commission free with most Forex brokers.
You benefit from free access to this worldwide network where buyers and sellers are matched almost instantly.
Although the trading is commission free, the spread (difference between the asking price and the bidding price) is larger than futures.
Guaranteed Stops and Limiting Risk
Unlike the sometimes unlimited risk involved in the futures market, FOREX is said to have guaranteed stops that can be utilized to limit risk. This is a myth.
During a time of extreme volatility your stops in the Forex market can be ―run‖ just as in any other market.
We personally know of a trader with one of the largest Forex brokerages who had his stops run by over 140 pips per contract!
Basically it is the equivalent of not being able to get out of a futures trading position as the price moves against you.
You are able to plan ahead to limit risk to some degree in the FOREX trading market.
An example of this would be losses sustained in the futures market due to Mad Cow Disease.
Trade Rollover In FOREX trading, you need to rollover each trade every two days just to keep your position.
In futures, you must plan ahead to rollover when a contract expires.
Open Around the Clock
In the futures market your trading is limited during the window of time that each market is open.
If current events make getting out of a position important, you still must wait until the market reopens. That could be hours, creating financial disaster for you.
But, the FOREX market is open around the clock, five days a week.
It actually follows the sun! From the United States, to Europe, Asia, Australia, and back again to the States, it allows you to trade at any time you desire.
A Market place of Free Trade On a daily basis, the foreign exchange is a $1.4 trillion (and growing) dollar market!
This is 46 times larger than all the futures markets combined.
Governments around the world struggle to control their own currency because of the massive number of people trading FOREX worldwide.
FOREX trading is a tremendous opportunity and an alternative to futures and commodities trading. As is true with all trading, there are certainly risks involved.
To reduce your risk, the services of a Broker are important and advised.
This comprehensive guide will help you learn what is necessary to achieve success in the FOREX market. Let‘s get started!
Getting Started In The Exciting World Of Forex Trading
Learning to trade with Forex is not unnecessarily difficult; however, there are definitely a few items you must be aware of and instructions to follow.
Before beginning any trading, obviously you need to locate and forge a relationship with a broker to execute the trades.
Just as with doctors, lawyers and other professions, there are a multitude of Forex brokers from which you can select.
To help you choose, here are some factors to consider:
Minimal Spreads
Unlike standard stock trading brokers, Forex brokers do not charge any commissions on the trades. They earn their income from what is called a spread.
The spread is simply the difference between the buy and sell price of currency at a particular point in time.
As you locate and investigate the brokers, you should inquire as to the spreads they charge. The lower the spread, the less it will cost you to trade in Forex.
This is the same rule as with traditional brokers. The higher their commission on the trades, the lower your profit at the conclusion of the buy and sell transaction.
It is in your best interest to choose a Forex broker offering a low spread.
Compliance and Reputation
Traditional stock trading brokers generally operate through their own brokerage houses.
Forex brokers, however, are most often affiliated with a large bank or other financial institution. This is due to the substantial sums of capital required.
In addition, you should confirm that the Forex broker you choose is properly licensed and registered.
Forex brokers should be registered with the Futures Commission Merchant (FCM).
IN addition, they are regulated by the Commodity Futures Trading Commission (CFTC).
You can locate and verify the registration as well as other facts and background information at the CFTC website at http://www.cftc.gov .
Without a doubt, you want to retain and trade through a broker who is affiliated with a reputable bank or financial institution.
Available Research Tools and Information
Like traditional stock and commodity brokers, Forex brokers maintain various types of websites, trading platforms and underlying research and information portals.
The sites should provide you with real time information, current charts, technical information and comparison ability and other relevant data.
A good Forex trader will also sustain the ability to trade on different systems.
As with any major financial endeavor of this type, ask for free trials to you can evaluate the Forex broker‘s various trading platforms.
Forex brokers should offer a wide array of information, schedules, tools and other support functions and records.
The bottom line is to locate a broker who will provide you with all the tools and services you require to be successful.
A Variety Of Leverage Options
To succeed in Forex trading you Leverage the price spreads on your trades. The price differentials are minute down to the small percentages of a penny.
You are, however, using more than your actual capital borrowed from the broker to make the trades which is how you Leverage larger amounts for your trades than you actually have in cash.
This allows you to earn money on the small price deviations.
As an example, if you are leveraging at a ratio of 100 to 1, this means that for every one of your dollars with which you are trading, you are borrowing 100 from the broker.
A wide majority of brokers will allow you to leverage up to a 250 to 1 ratio.
You need to be careful, however, because the leverage ratio is directly related to risk. The higher the ratio, the more you are effectively borrowing from the broker.
While you can earn more profit from the trades, you can also lose more if the price fluctuation is not in your favor.
This risk reward evaluation is based on your own capital amounts and your tolerance level for profits and losses on the trades.
If you are flush with capital, leveraging a higher amount is not as much of a concern.
Nevertheless, brokers offer a large number of leveraging ratios and you will certainly find one or more to fit your desires and financial constraints.
Even if you have a good amount of capital and can accept a certain amount of risk, you may not want to leverage a high amount if the market becomes volatile such as with exotic currency pairs.
Types of Accounts
You will need to open an account with a broker to execute trades. There are a variety of types of accounts which you can maintain.
The lowest account is referred to as a mini account. It has a low minimum opening balance requirement of approximately $300.00.
A mini account provides you with the highest ratio of leverage since you are using a small amount of capital with which to execute larger sums in your trades.
Aside from the mini account is a standard account. That type of account provides a multitude of various leverage ratios.
It has a higher minimum balance to open of approximately $2000.00. Finally, another type of account which brokers offer is a premium account.
These require substantially higher minimums to open.
They also offer you multiple ratios of leverage as well as give you access to additional platforms, tools and services.
As you evaluate and pick a broker, find one that has the right mix of accounts, leverage, information and services for your requirements and financial circumstances.
Stay Away From Disreputable Brokers
Just like in any profession, there are good and bad representatives.
Brokers are no different. Some are reputable and others are the ones you just need to avoid.
These are the brokers who do not have your best interest in hand and simply buy prematurely or sell near a preset price point to increase their own profits.
These brokers will pick up a fraction of a penny always against on your trades.
None of the brokers you evaluate will ever admit to such trading, but there are methods to determine if you are considering a broker who engages in this practice.
You can speak with other brokers to get their opinion on the one or more that you are considering.
You can ask if they are aware of the brokers trading proclivity in terns of the buying and selling near the price points.
There is no organization that tracks this type of activity.
You can try to look on the Internet for discussion boards or messages that might disclose certain brokers and their trading activity.
Margin Calls and Requirements
Obviously since leveraging is all about borrowing money from the broker you need to understand exactly how much risk your broker is going to allow you to take on trades.
Once you establish that together and discuss it, the broker will know the prices and differentials in the fluctuations within which to trade by buying or selling.
This can, however, adversely impact you if the broker has that discretion and trades at losses.
For example, assume you maintain a margin account and your positions dramatically fall before turning around and rising substantially even exceeding the beginning price.
Whether or not you have sufficient capital, a broker might have traded out your position during the fall to lessen the broker‘s risk and potential loss.
That trade could have been at or near the bottom of the price fluctuation.
That would result in a margin call to you and you could be liable for substantial sums of money even though the price rebounded after the broker liquidated your position.
Opening a Forex account, regardless of the type, is similar to taking out a rotating equity loan or maintaining an equity account.
The main thing that separates them from the Forex account is that you are required to execute a margin agreement with relation to your Forex accounts.
The margin agreement acknowledges that you are trading with money borrowed from the broker and that the broker can insert itself into your trades as necessary to lower its risk and protect its interest.
It also explains your liability relating to any losses.
After you execute the agreement and deposit the beginning capital to the account you opened, you are ready to begin trading.
Overview of Basic FOREX Strategy
Technical analysis and fundamental analysis are considered the two main forms of analysis in both the FOREX market as well the equity markets.
However, most FOREX traders opt for using technical analysis.
The following is a quick overview of both types of analysis and how they are used in FOREX trading.
Fundamental Analysis
Using fundamental analysis in the FOREX market tends to be somewhat difficult and is generally used to forecast long-terms trends.
There are, of course, some traders who conduct their trades on a short term basis solely on current news releases.
There are many fundamental indicators of currency values that are released at various times so we have provided a list of a few for to be aware of:
- Non-farm Payrolls
- Purchasing Managers Index or PMI
- Consumer Price Index or CPI
- Retail Sales • Durable Goods
Of course these are not the only fundamental indicators you need to be aware of.
There are also several metrics that can provide you with additional information that may affect a market.
These metrics usually focus on interest rates, inflation, and other causes of currency value fluctuation.
Sometimes a volatile market is caused by something as simple as the wording of issues such as the Federal Reserve chairman‘s discussion on interest rates.
The most significant meetings you should be aware of are the Federal Open Market Committee and Humphrey Hawkins Hearings.
Simply studying the commentary can help FOREX fundamental analysts to better understand long-terms market trends and can also help short-term traders capitalize on the market.
Should you opt for the fundamental strategy, you should keep an economic calendar on hand so you know when these reports are available.
Your broker should be able to keep you up-to-date on this information as well.
Technical Analysis
Technical analysis helps FOREX traders analyze price trends much like their counterparts in the equity market.
The only difference is that FOREX markets are open 24 hours every day.
In order to work with that 24 hour a day time frame, some types of technical analysis to be changed or modified.
The following is a short list of technical analysis tools that are most commonly used in
FOREX:
- Moving Averages
- Stochastic Oscillator
- Channel Breakout
- MACD (Moving Average Convergence Divergence)
- Candlestick charts
- Elliott Waves
- Fibonacci Studies
- Parabolic SAR
- Pivot Points