Forex is Alive And Well: How To Trade Forex In 2020
The Forex market is enormous, with the Bank of International Settlements noting an average of $5.1 trillion traded every day. But what does it mean to trade forex? How does the foreign exchange market differ from the stock market, or cryptocurrency? And how does one get started trading forex?
What is Forex Trading?
At a top-level, the forex market is a worldwide marketplace for the exchange of currencies against each other. Due to the global reach of commerce, finance, and trade, forex markets are among the most liquid and largest asset markets.
In forex, currencies trade against one another as “exchange rate pairs.” One of the most common examples of this is EUR/USD or the Euro compared to the US dollar. These markets exist as spot markets (i.e., cash). However, additional forex derivatives markets offer futures, forwards, currency swaps, and options.
Participants in these markets utilize forex to place hedged bets against interest rate risk and international currency. They also use forex to diversify portfolios, speculate on geopolitical effects on finance, and more. But what exactly is “the forex market,” and what does it mean to trade there?
Forex vs. Stock Trading
There are five main differences between the forex market and stock market: volume, liquidity, openness, commissions, and focus.
One of the most apparent differences is the sheer volume that moves through foreign exchange markets daily. As mentioned above, foreign exchange is estimated to trade close to $5 trillion daily. Most of this trade is centered around a few significant currency pairs, such as USD/JPY, EUR/USD, and GBP/USD. This market volume eclipses the volume of all global stock markets combined, which is about $200 billion daily.
Typically, markets with higher volume experience higher liquidity. This liquidity results in lower transaction fees and tighter spreads. Major forex currency pairs, as a result, will have lower costs and spreads compared to stocks. This is one of the most substantial advantages of trading forex markets compared to stock markets.
In addition, unlike the stock market, forex is an over-the-counter market. It isn’t transacted over traditional exchanges and is instead facilitated through interbank markets. What this means is that trading can occur around the world, 24 hours a day. This is compared to major stock markets, where trading occurs during constrained hours.
Another difference between forex markets and stock markets are commissions for brokers. Forex brokerages typically won’t charge commission. Instead, they make their profits off margins on the spread (the difference in the buy and sell price). Conversely, when trading stocks on major markets, traders usually pay the spread as well as broker commissions.
Finally, there are significant differences between forex and stock markets when it comes to market focus. Forex traders are limited by the number of large-scale, tradable currencies around the globe. Meanwhile, the stock market has thousands of stocks available. While this may seem like a drawback for currency traders, trend analyses simply become more important.
Forex vs. Cryptocurrency Trading
Forex trading has far more parallels to the cryptocurrency market than standard stock markets. Much like forex, crypto trading involves the trade of different types of currency. However, regardless of this, there are some key differences separating the two.
Trading forex has been a practice for a while and is very well established. Cryptocurrency, on the other hand, has only been a thing for about six years. Also, using crypto as a speculative investment vehicle only became mainstream with the massive gain in 2017.
In addition, forex typically will involve brokers, intermediaries, or other institutions. These entities usually charge fees at each step of the process. This decentralization and lack of intermediaries is one of the largest draws of trading cryptocurrencies.
Liquidity is another issue that plagues the crypto trading space. Once you step away from some of the more common coins (like Bitcoin and Ethereum), things get hairy. Buying, selling, and trading for fiat currency becomes incredibly tricky.
How To Trade Forex in 2020
Compared to many financial markets, over-the-counter forex markets have no central exchange or physical locations. Trading is done 24 hours per day via a global network of banks, businesses, and people. What this means is that the prices of currency regularly fluctuate against one another. This offers many different trading opportunities.
Most forex trading platforms allow traders to speculate on future currency directions. They can take short or long positions, depending on whether they believe the value will rise or fall. While there are many types of forex trading strategies, many follow the steps below.
Select A Currency Pair to Trade
The first (and most fundamental) thing you should do to trade forex is settle on a currency pair. There are extensive currency pairs from which to choose. The only limitations you’ll have are based on the software you select and the extent of your knowledge. Selecting a substantial trading opportunity that feels right for your needs is a crucial first step.
Many trading platforms offer both fundamental and technical analysis and research tools. These resources assist in spotting opportunities for a trading currency that suits your style of trading.
It’s very much recommended that you take the time to understand price volatility. This volatility changes with each currency pair. Knowing this volatility is needed to assist in managing risk.
Decide on a Type of Forex Trade
The types of forex trades you have access to is dependent on the forex platform you select. Many offer spread betting, in addition to CFD (contract for difference) trades and standard forex trading.
- With spread betting, traders trade currency units based on a per-point movement.
- In CFD trades, users trade quantities in the unit of whatever the base (left side) currency is. So, for example, trading USD/GBP means your stake would be in US dollars. If you trade AUD/JPY, your stake would be in Australian dollars.
- With standard forex trading, you purchase lots centered around the base (left side) currency.
Some of the most popular forex trading platforms include IG Group, CMC Markets, OANDA, and London Capital Group.
Determine Whether to Buy or Sell
Once you have selected a platform, trading pair, and type of trade, the critical decisions continue. First, you need to know what the current price is the pair is trading at. This can be done by bringing up trade tickets in your chosen forex platform.
All forex is quoted based on one currency in a trading pair versus the other. Each pair has a “base” and “quote” currency. The base currency is on the left of the trading pair, the quote currency on the right. So, when you trade these foreign currencies, the following processes occur for Buy orders:
- Purchase a currency pair if you believe the base currency is going to strengthen compared to the quote. Conversely, if you think the quote currency is going to weaken compared to the base.
- Profits from the trade rise, aligned with each increase in the exchange price on your platform.
- For each point the exchange price drops below your “open level,” a net loss is incurred.
However, when you trade these foreign currencies, the following processes occur for Sell orders:
- Sell a currency pair if you believe the base currency is going to weaken compared to the quote. Conversely, if you think the quote currency is going to strengthen compared to the base.
- Profits from the trade rise, aligned with each decrease in the exchange price on your platform.
- For each point the exchange price rises above your “open level,” a net loss is incurred.
This all changes for spreads. In this purchase process, there are two prices involved. The first is the bid or sell price and the second is the offer or buy price. The difference between these two prices is the spread, and usually represents the cost of the trade.
Selecting Your Orders
Orders are instructions to trade at some point in the future automatically. This trade is made when a price for a pair reaches a predetermined level. You can use limit orders and stop orders to assist in ensuring profits are locked in. This minimizes risk when respective profit or loss targets are reached.
Knowing how to use and understand risk management tools like stop-loss orders is crucial. While not typically compulsory, an understanding of these tools assists in managing volatility in forex markets.
There are two main types of forex orders: stop-loss orders and limit orders.
A stop-loss order is a request to close out a trade at a price that’s worse than current market levels. As suggested by the name, these orders are utilized to assist in minimizing loss. Two types of stop-loss orders exist: standard stop loss and guaranteed stop loss.
- Standard stop-loss orders:
When triggered, close out the trade at the best price available. This comes with a risk that closing prices may be different from order levels if there’s a gap in market price.
- Guaranteed stop-loss orders:
These come with a minuscule cost associated with the trigger. This is a guarantee to close the trade at a determined stop loss level, regardless of gaps in the marketplace.
Limit orders are an instruction to close trades at prices better than current market levels. These orders are used to assist in locking in price targets.
Standard limit orders and stop-loss orders are generally free to make (dependent on forex platform). They can be implemented in dealing tickets when first placing a trade. As an alternative, these orders can also be attached to existing positions that are open.
Monitor Your Trade
Once a trade has been opened, the profit and loss from the trade will fluctuate constantly. These fluctuations occur as a result of movements in market prices for both currencies in a pair.
Market prices can be tracked and monitored across all forex platforms worth their salt. They will also allow you to see profits and losses in real-time, albeit unrealized until positions are sold or closed. You can also add new trades, close existing trades, or attach orders onto open positions from any device.
Monitoring your trade closely is crucial, even if you have robust risk mitigations in play. Being up to speed with rapid changes in either of your currencies being traded is ideal in the forex game.
Close Out Your Forex Trade
At some point, you will reach a point when you are prepared to close out your trade. When this time comes, all you need to do is the complete opposite of your trade opening process.
So, assuming you purchased four CFDs (contract for difference) in your opening of the position. To close the position, you would sell those four same CFDs. Via the closure of a trade, any net profits or losses would be immediately recognized. This gain or loss would be reflected in your account’s balance.
It should be noted that most trades with many forex platforms are FIFO, or first-in-first-out.
Benefits of Forex Trading
There are ample benefits to the trading of foreign currencies against one another. Two of the most common are the aforementioned trading volume, as well as the around-the-clock trading cycle.
- Foreign exchange markets are the largest by daily trade volume on earth. For this reason, they offer the strongest liquidity. This makes it far simpler to enter and exit positions across any major currencies. This can be done in a fraction of a second, for a minimal spread amount in most conditions.
- The forex market doesn’t sleep. Trade occurs twenty-four hours a day, five days per week. The day starts in Australia and ends in New York City. There are eight main trading centers: Hong Kong, Sydney, Tokyo, Singapore, Paris, Frankfurt, New York, and London.
Potential Drawbacks of Forex Trading
With all the benefits of forex, we would be remiss if we didn’t mention the potential drawbacks. Two of the most common are a lack of fundamental understanding and the uncertainty in massive leverage options.
- The productive trade of currencies requires a fundamental understanding of economic indicators. Additionally, this understanding needs to be on a global scale. Currency traders also need to have a large-scale understanding of the economies of various countries. Also, there is a required inter-connectedness to grasp fundamentals driving currency values.
- Brokers, dealers, and banks involved in forex markets allow for high amounts of leverage. This means traders can control massive positions without much of their own money. 100-to-1 leverage is insanely high but isn’t uncommon in the forex world. A strong understanding of leverage (and its associated risks) is very much necessary to avoid insolvency.
Our Final Thoughts
Overall, trading forex in 2020 is still very much alive and well. In fact, forex and related forex trading strategies are even easier to get into than ever. Advancements in technology have broken down the barriers to entry commonly associated with foreign exchange.
However, the question remains: Should you trade forex in 2020? That is entirely up to a variety of factors, including your knowledge of foreign currencies and finance in general. If you want to benefit from forex trade, understanding the processes above is a great place to start.
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Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.