Forex: An Overview
Recently, you may have come across a multitude of social media influencers luring you into investing your hard-earned money into forex; using images of mansions, unlimited holidays, and luxury cars as bait. Unfortunately, the truth behind forex is far less luxurious.
What Is Forex?
Forex is essentially foreign exchange currency trading, whereby one currency is sold/bought in favour of another. Every move in the market accounts for money gained, or in the majority of cases, money lost.
Fundamental vs. Technical Analysis
There are a variety of ways in which traders analyse the financial markets to determine the future price movement of a particular currency pair. Fundamental analysts focus on the news and the economy of a country, to determine whether a particular currency is likely to gain in strength over other currencies. For instance, what do you think happened to the Pound following Brexit news? You’re right! It plummeted. So, if you were to sell the pound versus, for example, the U.S. dollar, widely known as a safe haven currency in times of economic distress, you would have made a lot of money. This would, however, require you to hold the trade open for several months, and not many traders are this patient.
Traders can also study the markets through a technical analysis. This involves studying the price action, through looking at charts, and using knowledge of how the market moved in the past, to predict the next move. There are thousands of different trading strategies out there, and they are all likely to contradict each other. It is thus important to stick with your own analysis and avoid interference from other traders. It is inevitable that you will be wrong many times. The idea is that you let the winning trades run and cut your losses short. With this in mind, you can be right 30 per cent of the time and still be a profitable trader if your risk-to-reward ratio is sufficient. Remember, losing is part of the game!
Which Technique is Better: Fundamental or Technical?
Although there is no clear answer, it makes intuitive sense that using both techniques simultaneously would yield the best results. For instance, it does not matter how appealing a particular “buy” setup looks, if the GDP news release is far below expectations, the setup is likely to fail. For this reason, even technical traders often stay out of trades right before big news releases, such as GDP or PMI data.
It is not by accident that 95 per cent of traders fail. Forex is difficult.
Learning the skill of trading is one thing, but what accounts for the majority of failures is personal psychology. In Forex, you are your own worst enemy. Traders make a lot of stupid decisions, majorly driven by money. We exit trades prematurely because we want to secure small profits, let our losses run in a hope that the trend will reverse, or even close our trades too early because of fear of further loss. Retracements in an overall trend are inevitable, and it is normal for it to go negative prior to following your analysis.
How much loss is acceptable?
Well, that depends on your risk to reward ratio, which should be minimum 1:2, if not more! If money wasn’t on the line, there would be many more successful traders out there.
Do not get into trading if you want to make quick money. You might make some at first (A.K.A. “beginners luck”), but you sure will lose it.
Do not invest money which you do not have! If you’re investing money you need for rent, groceries or bills in a hope of making a quick buck, you may be almost certain you will lose it. Nothing compares to emotions experienced when money is on the line, and this will lead you to make irrational decisions, with the possibility of essentially blowing your account.
Make sure you have time to study the market! Set aside a minimum of one year to study the market, or six months if you find a good mentor.
Use small leverage! Most brokers allow you to control larger amounts of capital than you originally invested via leverage, which sometimes can be as crazy as 1:500. This essentially means that for every £1 you invest; the brokers allow you to control an equivalent of £500. Leverages are super appealing because of their power in making quick profits. However, they can wipe out your account just as fast.
Use appropriate lot sizes! Lot size is the quantity of currency you buy/sell in each trade. The rule of thumb is to use 0.1 lot size per every hundred in your account. This will slow your profits, but risk management is key. Remember, slow and steady wins the race!
Finally, do not fall victim of “signals” or pyramid-schemers! These people will blow your account and not look back.
So next time you come across one of those social media influencers, be mindful that they are likely part of a larger pyramid scheme, and you may just be their next prey. There are good mentors out there with good teaching programs, however these will cost you. Do your research and you may just find the right one for you.
There are ways to learn Forex on your own! You can find a free educational course on babypips.com which consists of over 300 lessons getting you started on your journey, and there are many more courses out there.
This article discusses the tough truths behind Forex. However, once you become a good a trader, there is no limit to how much money you can make, which is exactly why so many people are drawn to it!
Do not miss my article next month which will cover how to get started.
I hope you found this guide to Forex useful, and if you have any questions please let me know in the comments below.
The Student Investor is not a registered investment, legal or tax advisor or broker/dealer. All opinions expressed by The Student Investor are from the personal research of the author, and are written for educational purposes only. Although best efforts are made to ensure that all information is accurate and up-to-date, occasionally unintended errors and misprints may occur. Please note that the value of your investment can go up or down, and The Student Investor takes no responsibility for any decisions made by readers.