Forex, or FX, refers to the foreign exchange market. It’s about buying and selling foreign currencies around the world to earn a profit. Although the Forex market mainly focuses on a handful of major currencies unlike the stock universe, it has a much higher volume of trading. According to Bloomberg, Forex is traded more than $6 trillion a day while the worlds’ stock markets combined trade a few hundred billion per day.1 Knowing how to grasp the opportunity brought by Forex trading, you can significantly increase your investment portfolio value. Here are some steps for beginners to start trading Forex.
Step 1: Understand the basics of the Forex market
Foreign currencies are money that can be used in our daily lives such as trading and commerce. In fact, apart from these practical purposes, they have a role in our investment portfolio.
How Forex trading makes money?
National currencies are traded in the Forex market as exchange rate pairs. The relative fluctuation in their prices brings a profit. For example, if you buy the Australian dollar against the US dollar, when it goes up, you can earn a profit by selling it. Because of its relative nature, if USD goes down, you can also make money by selling the AUD.
Step 2: Study the Forex trading mechanism
Bid price and Ask price
Before trading, we should know what the prices refer to. Forex trading of a specific currency pair such as EUR/USD involves 2 prices. The “bid price” refers to the rate at which your broker is willing to buy, while the “ask price” is the price for them to sell. For example, if the EUR/USD pair is priced at 1.0803/15, the bid price allows you to sell one EUR for 1.0803 USD. If you are holding USD, you can buy one EUR for 1.0815 USD. The “ask price” is always higher than the “bid price” because the difference between them, which is called the spread, is the broker’s commission.
Leverage is commonly used in Forex trading. It refers to the capital provided by a broker to increase the trade volume of a trader. The Forex leverage size varies depending on the trader’s need, generally ranging from 2:1 to 100:1. Leverage of 2:1 refers to the minimum margin of 50%. If the trader wants to trade $200,000, he has to deposit $100,000. With the leverage of 100:1, the trader only has to deposit $2,000. However, higher leverage means higher risk. If the pair loses money, the loss can be much greater than the capital if high leverage is used.
Long trade and short trade
Because of the relative nature of currencies, you can make money when the currency goes up or down by using long and short trade respectively. Long trade refers to buying a currency with an expectation that it will go up. Selling it at a higher value in the future can make a profit. Short trade refers to selling a currency of which the value is expected to go down. Buying back at a lower value in the future can make money.
Step 3: Analyze the world economy
Going up or down of a currency is all about the world economy and politics. A beginner should stay alert for major news around the world. In the first few months of 2020, a basket of major currencies such as Euro, Pound, and Australian dollar against USD tumbled due to the COVID-19 pandemic and geopolitics such as the oil crisis. Making the right decision in the Forex market can maximize gain during turbulent times. Otherwise, losses will be substantial. All this is enabled by knowing well about how the world is going on, especially the countries whose currencies you will trade.
Characteristics of major currencies
Different currencies have different characteristics. Their price reflects different situations happening around the world. For example, Australian dollars reflect the price of commodities such as iron ore and coal since Australia is the key exporter to the world. When the prices of these commodities rise, AUD is probably going up. To succeed in the Forex market, every beginner should know well about the nature of respective currency.
Step 4: Find the right broker
If you are ready for your first Forex trade, you will need an account from a forex broker. Trade with a low spread will definitely reduce the cost. Banks may be an easily accessible service provider but the spread is usually high. Meanwhile, a reliable and responsive trading system is what you need to make a swift decision about trading in an ever-changing world. The leverage ratio provided by the broker is also a crucial consideration. A beginner should strike a balance between profitability and potential risks while choosing it.
Considerations before starting Forex trading
Trading Forex can be highly profitable if the trader knows well about it. A beginner should understand the Forex market, the trading mechanisms, and the news about economies around the world. Equipped with such knowledge and the right broker, a beginner can comfortably try to start Forex trading and earn a profit.