Foreign Exchange Currency Trading or Forex Trading is the “Fast and the Furious” of high-level finance. You can go from 0 to 100 in one favorable “tick”. At the same token, you can also go from 100 to 0 in one unfavorable tick. It is an investment where you can get rich quick or lose your shirt in a heartbeat. If you want to win big, you must first learn how to invest in Forex.
I was a SEC licensed Forex Trader from 1991 to 1993. Prior to trading currencies, I was managing accounts in commodities. If Forex Trading is an Aston Martin, Commodities Futures Trading is a Fiat. As a leveraged investment, commodities present a measure of risk but many products particularly seasonal ones such as coffee hardly move.
Because the volume of transactions is thin, it is difficult to get out of commodities. There are no assured buyers for every order to sell. This is why if your account is in a losing position, it will be difficult to get your money out intact.
Forex is a whole new, different world. I’ve seen accounts brought back from the dead by some talented traders and I’ve seen accounts incinerated by careless traders in one ill-advised move.
One of the accounts I was handling was down to 88,000 pesos from its original balance of 150,000 pesos. When I traded it under the advice of my mentor in technical analysis, the account grew to 440,000 in two weeks!
As a trader, it was one of the most stressful times of my life. Many first time investors only focus on the potential rewards. They don’t realize the risks until they lose out in the market.
The most difficult aspect of the job was explaining to a client exactly what happened to their trade. 9 out of 10 investors did not believe they could lose everything in one day.
Thus, before you learn how to invest in Forex, you should develop an understanding of how the Forex market works.
Understanding the Forex Market
The Forex Market involves a network of activities whereby participants buy one currency while simultaneously selling another. The usual analogy is that of a community marketplace where buyers and sellers meet except that there is no real marketplace. All exchanges are done bank-to-bank via electronic transfer.
Currencies are regularly traded around the world to transact. If you’re in Switzerland, you cannot use Philippine Pesos to buy merchandise; you have to exchange or sell the equivalent amount of Pesos per Swiss Franc.
In the large scale Forex Market, these transactions total an estimated US$ 4 to 5 Trillion US Dollars a day! Compare that with the global stock market which averages US$2 Billion a day. Remember that global businesses are transacting on a daily basis; money is regularly changing hands.
High volume makes Forex a very liquid market; it is easy to get in and easy to get out. However, high volume and high liquidity make Forex a very volatile market. Unlike the stock market, market movement in Forex could mean sharp climbs or steep drops.
If you’re in the wrong position without any risk management tools in place, you could end up losing everything within a few minutes. Forex markets move very fast and react to news quickly.
Making the Decision to Invest
In any investment, it always pays to focus on the risk factors. You have to develop a keen understanding on which factors could go adversely on your position in the market. Because of its magnitude, the Forex market is subject to fundamental and technical factors.
Fundamental refers to economic, political and social factors that influence buying and selling decisions. Technical refers to the underlying behavior of the market; analysts often call this market psychology. Using charts, computer programs, and principles of behavioral market theory, technical analysts can identify general trends and corrections in the market. These trends will give analysts an idea of the market’s general sentiment.
The availability of these tools and processes disqualify Forex trading as a form of gambling as some people attest. Tools and techniques give you the means to create a system for trading, but the level of risk remains high.
In a volatile investment, it should go without saying that you should limit your exposure to risk. Traders would often callously advise clients to “invest what you can afford to lose.”
If you have an Investment Pyramid, 2% to 6% of the investible funds can be allocated for high-risk, high-reward investments like Forex Trading. Another approach is to find a reputable Fund Manager and ask for advice.
Keep in mind, that while these Fund Managers are highly qualified, they still want your money. Take their advice to heart but review your finances closely.
Once you have identified the amount you are willing to risk, the next step is to commit to the value of discipline. The people who have lost the most money are those who lost their sense of discipline.
They become emotional when they lose and put in more money so they can start winning. To this, I want you to remember the Golden Rule of High Stakes Trading:
No single man or entity regardless of the amount of money he has to invest can influence the market to do his bidding.
In short, no one can control the market. Not Warren Buffet or even the collective fortunes of Bill Gates and the Walton Family. If you keep putting money in a losing position, it would be like pouring gasoline on a raging fire.
Stay disciplined. If your trading plan has been verified by concrete analyses as erroneous, cut your losses, assess your position then develop a new strategy.
As I’ve stated, the Forex market is vast, large, fast-moving and highly liquid. There will always be opportunities to enter the market and recover losses.
Learning the Basic Terminologies in Forex
It is important to learn and understand the basic terminologies in Forex trading so you can have better communication with your trader. Here is a shortlist of important terms used in Forex Trading:
- Calling Bank. In a transaction, the calling bank is the institution that asks for the prevailing rate of currency.
- Quoting Bank. This is the bank that issues a quote on a requested currency.
- Base Currency. The currency you wish to sell.
- Quote Currency. The currency you wish to buy.
- Exchange Rate. The prevailing value of a currency vis-à-vis another currency.
- Long Position. To enter a “Buy” position in the market.
- Short Position. To enter a “Sell” position in the market.
- Bid Price. The price the trader is willing to buy base currency in exchange for quote currency.
- Offer Price. The price the trader is willing to sell base currency in exchange for quote currency.
- The difference between the Bid Price and the Offer Price.
- Cut or Stop Loss. An instruction that is entered into the market in order to limit the amount of loss.
- Cut or Stop Profit. An instruction that is entered into the market to hit a pre-determined profit objective.
Forex has many other terms that you will come across as you trade more frequently. If possible, conduct more research and learn what you can about the market.