What is Forex Trading? | Ultimate Guide to Foreign Currency Market

FX Trading for Beginners

Foreign Currency Exchange – also known as forex – refers to the buying and selling of world currencies. The forex market is a global, over the counter market (OTC). Central banks, traders, investors and financial institutions buy, sell and exchange world currencies.

Currency can be traded 24 hours a day, five days a week. As this trading is worldwide, it is the largest asset market in the world. It is estimated that more than US$5 trillion is active on the forex market every day.

Put simply, forex is the conversion of one currency into another. Individuals, financial institutions and companies will trade currency at a determined price. Currency is usually traded in pairs, meaning you are simultaneously selling and buying two currencies. The most popular currency pair is EUR/USD (Euro/ US Dollar).

As currencies are exchanged on a vast scale every day, each currency’s price is volatile and can change frequently. Some forex trading is done for practical purposes, such as for travel reasons or the purchase of foreign goods. However, the majority of trading is done for investment purposes – to make a profit. Today, we will further examine the forex market to help you decide whether currency trading is a good investment option.

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Forex Trading: A Beginner’s Guide

What is the Forex Market?

As explained earlier, the forex market is the buying and selling of currency at an agreed price. Currency trading involves two parties trading over-the-counter. The market is run in four major trading centres in London, New York, Tokyo and Sydney. The differing time zones are why trading forex is possible 24 hours a day. The Forex market is used for several reasons, such as trade and tourism.

There are three different types of forex market:

1. Spot Forex Market – The physical act of currency exchange where you buy and sell currencies at the current price. The currency price can change based on popularity and interest rates. The state of the economy, politics and perceived future performance of that currency can also affect the price. The spot market involves receiving your currency in cash. It is the largest market for forex trading.
2. Forward Forex Market – This involves a formal agreement to buy or sell currency at a set price, to be completed by a pre-determined date in the future. Unlike the spot market, you are not trading actual currency.
3. Future Forex Market – Future contracts for currency are bought and sold. Unlike the forward market, this is a legally binding contract. It will include specific details, such as how much is being traded, settlement date and delivery.

As the currency price is pre-agreed on the forward and future markets, big corporations usually choose these options. This protects them against any fluctuations in the currency price.

How to Forex Trade: Questrade

Questrade is the largest online brokerage in Canada. It allows you to trade currencies for low fees. Questrade is popular with both beginners and experienced traders. Using their platform, you can trade on a wide variety of currency pairs, such as EUR/USD, CAD/GBP, CAD/JPY.

Questrade is highly regarded in Canada. This is because of its low fees, excellent customer service, easy to use trading platform and high customer satisfaction.

If you are interested in trading forex but are unsure where to begin, Questrade could be a great choice. It is one of only a few Canadian trading platforms that offer forex trading – see Qtrade and Questrade comparison.

Pros

• You can trade on more than 110 currency pairs, including EUR/CAD, EUR/ USD AND GBP/USD.
• There are no hidden fees. Questrade informs you of all possible costs before you begin trading. As they are a discount brokerage, you save money by not paying high commission fees.
• They charge no annual fees – regardless of how big or small your account is.
• You can open a demo account and practice trading forex for 90 days for free.
• Multiple trading platforms are available, including the mobile app.
• You have access to research tools, information and educational webinars.
• They have excellent customer service and can be contacted via phone, email or instant chat in the ‘contact us’ section of their website.
• You can refer a friend to Questrade and receive up to $50. You can also connect your account with family and friends’ accounts and be rewarded with lower trading fees.

Cons

• Questrade’s main trading focus is ETFs and equities rather than forex. This may result in fewer account options.
• You must have a minimum of $1,000 in your account before you are able to trade.
• The forex information and advice are less detailed than from a dedicated forex platform, such as Metatrader 4.

Summary

Questrade is an established and highly regarded trading platform in Canada. Although they are not as well known for trading currency, Questrade could be a great choice. This is especially true for those with less trading experience. The tools and information they provide, their easy to use platform, and their great customer service make them a safe and reliable option. They also have a transparent privacy policy, as well as insurance and protection of your investments.

A Brief History of Forex

There is evidence of monetary trading as far back as the Ancient Egyptians. Forex trading started to take shape once countries started to adopt the Gold Standard in the 19th century. The Gold Standard referred to when each country fixed its local currency to a set amount of gold. The notes and coins of this currency could then be exchanged for gold at a fixed price.

In 1944, the Bretton Woods System was initiated to try and create an efficient foreign exchange system based around the US dollar. After this collapsed in 1973, the Free Floating System was introduced. In the Free Floating System, one currency price was set by the forex market, based on supply and demand. Once computer trading systems were introduced in the 1970s, the speed at which currency trades could be completed increased dramatically.

Although forex trading became more popular, it was still fairly inaccessible in many countries and to the average person. However, in 1996, internet trading began. Traders could now access currency rates and trade currencies quickly and easily. Today, the forex market is the biggest in the world and can be accessed from computers and smart devices.

Spot Market and the Forwards & Futures Markets

Forex markets are often categorized into three categories. These are the Spot market, Forward Market and Futures Market. Here we will look at the differences between them.

1. Spot Market – Also known as the Current Market, Cash Market or Physical Market. This is where currency exchanges are done ‘on the spot.’ The currency price, or the spot price, is the current market value of that currency, and it will be bought or sold at that price immediately. You will then get immediate delivery of the currency at the spot price.
2. Forward Market – This is a market where you buy and sell currency for future delivery. Currency transactions are contracted today but implemented at some point in the future. It is a binding contract that locks in the currency exchange rate today for a future date. It is one of the most popular tools for hedging. The foreign exchange rate is set now, but the transaction takes place in the future.
3. Future Market – This is a financial contract where two parties make a foreign exchange for a set price at a pre-determined time in the future. They help with risk management by removing the risk of currency fluctuations. Future contracts need to be completed by the termination date. These contacts can also be used for hedging.

Forex for Hedging

Hedging is a risk management strategy that helps you to offset your losses by taking an opposite position in a similar asset. The aim of hedging in the foreign exchange market is to protect your investment. There are several different ways of hedging when trading in forex. We will look at them in more detail below.

• Direct Hedging:Also known as simple forex hedging, it is the most widely used form of hedging. It involves opening a position to buy a currency pair (long position). At the same time, you open a position to sell the same currency pair (short position).
• Multiple Currency Hedging:This is more popular with those trading in multiple currency pairs. It involves taking a long position in one currency pair (e.g. EUR/USD). At the same time, you take a short position in a currency pair involving one of the original two currencies (e.g. USD/JPY).
• Forex Options Hedging:This type of hedging is related to the forward and future forex markets. It involves agreeing to trade currency for a pre-agreed price at a pre-determined time in the future. This locks in the exchange rate and allows businesses to predict their profit with more accuracy.

Forex for Speculation

Forex for speculation typically relates to situations where there are considerable risk factors. Usually, the higher your trading risk, the higher the potential gains. Forex trading is naturally speculative. In the foreign exchange market, speculation involves buying and selling currencies with the aim of making a profit.

As the forex market is one of the most volatile markets in the world, forex trading is speculative as there is a high level of uncertainty involved. You do not know whether the value of the currencies will go up or down from one day to the next.

In short, speculative trading of foreign exchange currencies has a considerable risk of losing value. At the same time, it has a high chance of gaining value. Speculative trading often involves traders buying currency to later sell when the market value is higher. The foreign exchange market is affected by interest rates, economic strength and supply and demand, amongst other things. Speculative traders can benefit from these fluctuations.

Why We Can Trade Currencies

Trading currencies is integral for conducting foreign trade and international business. Before the introduction of internet trading, the foreign exchange market was only accessible to big businesses and rich individuals who were able to invest vast sums of money. With the introduction of internet trading, individual traders can now buy or sell currency on the forex market.

There is now a dedicated forex trading market that individuals and businesses around the world are able to access with relative ease. Trading currencies has never been easier. Traders can choose whether to trade one currency or multiple and can choose to invest; however much they want.

Forex Trading Risks

Forex trading is known as one of the riskiest forms of trading. It is less standardized than other investments. In some parts of the world, trading forex is entirely unregulated. If you trade forex through central banks, on the interbank market, then it is the central banks that determine the risk factor. There are industry standardized regulations to protect the banks. The interbank market has less risk because it is difficult for rogue traders to influence currencies.

Other types of forex trading are less secure and higher risk than the interbank market. Small traders often trade with forex dealers who are less regulated. These dealers are able to influence and change their prices and trade against their own customers. Although there are some regulations around this in some countries, this is very inconsistent.

Before committing to a forex dealer or broker (see Interactive Broker and Questrade review) ensure you do your research and check whether they are regulated. You can also check whether your account is protected and your investments are insured.

Pros with Forex Trading

• You can trade forex 24 hours a day, five days a week.
• It is easily accessible to the average person. You can set up your forex account easily and be ready to trade in as little as a day. You do not need to deposit large amounts of money into your account to begin trading.
• You can choose to open a demo account if you are unsure about trading forex.
• Traders have access to real-time updates about market prices and currency trading. You can also easily access information, learning tools and trading strategies.
• There is potential for fast returns. As the forex market is volatile and ever-changing, you may not need to wait as long for a return as other investment types.
• Leverage: This means you can borrow money for a trade from a broker. You may be able to access up to 200:1 of your overall contract size, meaning a small account can trade big.
• There are fewer fees attached to forex trading and fewer commissions compared to other investments. You also do not have to pay interest rates on your earnings.
• The tax rules and regulations attached to forex trading are much more straightforward. This makes it easier to calculate your taxes and do your tax returns.

Cons with Forex Trading

• The forex market can be extremely volatile. This may make it harder to predict your gains and losses and implement effective trading strategies. Interest rates, the economy, politics and supply and demand, are just a few factors that may affect the market.
• Individual traders and those trading less capital are at a significant disadvantage. You are competing against large financial institutions. You are also competing against experienced traders and even banks and hedge funds. These institutions will have better access to information and trading technology. This gives them a trade advantage.
• There is less regulation than other trade markets, with rules and security levels varying in different countries.
• There are often higher risks involved with trading currency. One of the biggest risks is for those using leverage. If the amount of money in your account is leveraged, this may increase your profit if you invested in a well-performing currency. However, you may also suffer an overwhelming loss if the currencies do not perform well.
• You receive fewer residual returns compared to the traditional stock market. This is because you will not receive interest or dividend payments.

Frequently Asked Questions

Can I Teach Myself to Trade Forex?

Learning to trade forex can be time-consuming. Successful forex traders usually invest a lot of time and money. To teach yourself how to trade forex, it is best to start small. Deposit small amounts into your account to help you practice trading. This is possible with a micro account. Many financial institutions and trading platforms will offer micro-accounts. They usually require no minimum deposit amount. They will also give you access to comprehensive trading tools and information.

Alternatively, you can teach yourself to trade forex using a demo account. This allows you to practice trading without making any financial commitments. Many beginner traders choose to invest through a platform such as Metatrader 4 or Questrade. They will then have access to expert advice and financial and technical analysis.

Can I Start Trading with $100?

Trading forex with only $100 could be a great idea if you consider yourself a beginner trader. Experts often say that any money you initially invest in forex should be disposable – i.e. money you are willing to lose. The value of your account is not important when you first begin trading currency. You should use your first $100 as a learning tool – to become an expert in the forex market. You can then leverage this money and begin to trade on a larger scale. Trading in forex takes patience and can be time-consuming. But it can also be financially rewarding.

Is Forex Trading Good for Beginners?

Trading in forex can be time-consuming. Additionally, the forex market is considered to be more complicated than other trading markets. However, with some research, it is possible for a beginner trader to become successful. The first thing you must do is manage your expectations. Learning how to trade currency is not a quick process, so you are unlikely to make significant gains immediately.

Do your research and choose a trading platform. Once you have opened your account, ensure you read all of the trading information and charts they provide. Ensure you are familiar with forex terminology. Beginners are recommended to start trading small, so they can become familiar with the process.

How Long Does it Take to Master Forex?

Mastering forex is a very individual process. Forex traders are continually learning, even those who have been trading for decades. To become a profitable and knowledgeable trader, you will likely need six months to fully understand the basics, such as the market structure and best trading strategies. The time it will take you to master forex trading fully depends on how flexible you are and how much time and effort you are dedicating.

Those who trade forex less regularly and spend less time researching information, following the market, and researching technical analysis will take much longer to master the forex market. You could choose to invest through a forex trading platform, such as Metatrader 4, as you will have access to expert advisors.

Can Day Trading Make You Rich?

Forex day trading can be a risky option. This is because the potential to lose money is relatively high. To be a successful day trader, you need to manage your risk. The risk level of each day trade you make should be 1% or less. For example, if you invest $5,000, the potential loss should be no higher than $50. You should also pay attention to your win rate. A win rate above 50% is recommended to be a successful day trader.

However, even those with a good win rate, who aren’t making significant losses, are still only likely to gain up to 15% profits each month. Day trading may not be the best option for those looking for big financial gains.

Can You Live Off Forex Trading?

It is possible to live off forex trading, and indeed many people do. However, this is not something you will be able to achieve instantly. You will need to build up your account and become an experienced trader before you begin to make significant gains. To calculate how much money you are likely to make, you would look at your potential earnings. This is based on three factors:

1. Your capital investment.
2. Your win rate.
3. The amount you risk per trade.

It is also important to consider how much leverage you could receive. The other important consideration is the volatility of the market. Foreign exchange currency is the most volatile market, and predicting the market can be challenging. To maximize your earning potential, choose a reliable broker, be consistent and build up to trading full time.

The Bottom Line

Trading foreign exchange currency can seem like an exciting but daunting prospect. It can be a profitable investment opportunity. It is important that you take the time to learn the fundamentals of forex trading. Make sure you understand the market and learn important terminology.

If you are planning to invest through a broker such as Metatrader 4 or Questrade, ensure you research them thoroughly. Check user reviews and compare them to each other before making your final decision.

Decide what your short term and long term goals are. Are you looking to become a full-time trader? What risk level are you willing to trade at? How much time and effort are you able to put into your trading account? How much of a financial input are you looking to make initially? Do you have a good understanding of the forex market? Trading profitably in forex is possible as long as you are willing to spend the time, effort and money to become successful.