What is forex?
Forex is short for foreign exchange. When someone says, “I trade forex,” they mean they trade currency pairs on the foreign exchange. When I tell someone I trade forex, they immediately think I change money for people, as someone would do at the airport.
That’s not it at all. It’s more like trading stocks. Everyone knows what a stock is. Whereas stock traders trade a stock hoping it will go up or down, a forex trader trades a currency pair hoping it will go up or down.
The foreign exchange market is the largest financial market in the world. The reason that it exists is that countries have different currencies and they need to exchange those currencies to other currencies in order to buy and sell goods. The forex market makes it easy for them to do that.
Forex is also a decentralized market, meaning that no single exchange controls it. There are entities that have some control over the currencies, such as large banks, but they can only influence the market temporarily and it will return to where it should be. I’ll go over all the major forex players in another article.
The pages referenced in the videos are from the book Infographical Forex written by me.
Why you should trade forex
Here are the reasons why you should be trading forex:
Low transaction costs.
Your only cost is the bid/ask spread with most brokers. Other brokers would reduce this spread even more but add on a little commission. There are no exchange fees, no clearing fees, no government fees.
Should you choose a broker that charges the spread only, or should you choose a broker that charges a smaller spread with a little commission? Well, that depends on your trading style.
- If you are a swing trader or position trader, you’re trading longer term. The spread won’t affect your trade that much so it would probably be better to choose a spread only broker or the option that had to lower overall fees.
- If you are a scalper or day trader, your trades are shorter term. You want a broker that has the lowest spreads possible since the entry and exit could make or break your trade. Even if they add a little commission, it will work out better for you if you are a scalper.
No meddlesome middlemen.
This also depends on your broker. With a no-dealing-desk broker, there really isn’t any middleman. Your trade is sent directly to the market. The broker doesn’t take a position against you with a no-dealing-desk broker.
When I tell people that I trade currencies. They usually say, “You must need a lot of money to do that.” With the amount of leverage that forex brokers give, a lot of money is not required.
With stocks, your leverage is about 2:1, meaning you can trade up to twice your deposit. This is for margin accounts. With day-trading stock accounts, it could be 6:1–not bad.
But with forex brokers, the leverage is 50:1, meaning you can trade up to 50 times your deposit. So, not a lot is required to trade big amounts. That 50:1 is for the U.S. In some other countries, it goes as high as 500:1 leverage.
You have to be careful with leverage, though. It goes both ways. The profit potential is significant, but also the risk potential is significant. This could be the reason why in the U.S. it only goes to a maximum of 50:1.
Forex is a 24-hour market. You can trade anytime during the day, unlike stocks. Although, you may want to stick to times when the market has more volume, such as the London session and the first half of the U.S. session. The forex market closes Friday afternoon in New York and opens Sunday afternoon in Sydney (if you are in the U.S.).
No fixed lot size.
This means you can trade whatever position size you want. You could trade a minimum of 10 cents per pip or thousands of dollars per pip. The liquidity is there to handle all of it.
No market manipulation.
This is a grey area since there is market manipulation in everything. But with forex, no single entity controls the market. There are central banks that could influence the price of their own currencies, but that’s usually temporary and the world eventually brings the levels back to where they should be.
Remember, the market is always right. Whether it’s a high price or a low price, it’s at the price it should be at.
What are the ways you can trade forex?
Here are the ways that you can trade forex. Spoiler: You should be trading spot forex.
Swaps are the most common forex transaction. This is exchanging currencies and then reversing that exchange on a predetermined future date. It’s not standardized, meaning it’s not on any exchange and therefore the parties make their own terms. Banks are the ones who participate in swaps mostly. So, this isn’t what we’ll be doing.
What we’ll be involved in is the spot market. It’s simple. It’s liquid. It’s open 24 hours. And, it has a low cost of entry. We’ll get more detailed on this in a later lecture when we open an actual trading account.
Futures are contracts to buy or sell. They are well regulated and trade in an organized market, such as an exchange. There’s a higher cost of entry than the spot market.
ETFs are exchange traded funds. They are traded on an exchange and trade very similar to stocks.
Options are when a buyer pays a premium for the obligation and a seller collects that premium. They are traded on an exchange, therefore, well regulated. There is less liquidity than the spot market.
Binary options are a win or lose outcome instruments. Similar to a casino. We want to stay away from things similar to casinos. I know some people who do very well trading binary options, yet every time I try them, I lose more than I win. So, for now, binary options are a no-go. Another hint to stay away is that some binary option brokers are regulated by gaming commissions. That being said, there are a few that are reputable. We’ll go over that in the lecture on choosing a broker.
Rest assured, you only need to focus on spot market trading. That’s what we’ll be doing–trading on the spot market. The analysis we’ll use to enter and exit trades can be used for any of the ways to trade forex, but since we’ll be opening an account using the spot market, that’s what we’ll stick with.