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Forex Trading - Advantages and Disadvantages
What is Forex Trading?
Forex, or Foreign Exchange, is the simultaneous exchange of
one country's currency for that of another. This market of
exchange has more daily volume, both buyers and sellers, than any
other in the world. Taking place in the major financial
institutions across the globe, the forex market is open 24-hours
a day.
Currencies are quoted in pairs. The first listed currency is
known as the base currency, while the second is called the
counter or quote currency. In the wholesale market, currencies
are quoted using five significant numbers, with the last
placeholder called a point or a pip.
The forex market is one of the most popular markets for
speculation due to its enormous size, liquidity, and tendency for
currencies to move in strong trends. An enticing aspect of
trading currencies is the high degree of leverage available.
Advantages of forex trading
Leverage. Huge leverage is available in Forex trading, often
up to 100:1 meaning that large profits can be generated from
small margin deposits.
Liquidity. The enormous size and global trading of the forex
markets means that the markets in the major currency pairs are
very liquid making trade executions almost instant with little
slippage.
Ability to go short. Since currency trading always involves
buying one currency and selling another, there is no structural
bias to the market. This means a trader has equal potential to
profit in a rising or falling market.
Trends. Fundamentally, the value of a country's currency is
determined by interest rates and the strength of the economy in
relation to other countries. Currencies, therefore, have a
greater tendency to trend until the fundamentals change.
Disadvantages of forex trading
Leverage. With huge leverage available to forex traders the
danger is that positions which carry too much risk for the
account size can be taken on, leading to margin calls. Effective
money management rules must be adhered to.
Brokers. Retail traders must use a broker rather than dealing
directly in the interbank market. The broker will be the
counterparty in all transactions and is, effectively, making the
market. They can, therefore, widen spreads or even refuse to
trade during volatile trading conditions. To avoid dealing with
brokers an alternative to forex is to use futures. See online
futures trading for more details.
Spreads. As the retail trader must use a broker to trade, they
cannot deal at the interbank rates. A broker will generally quote
a fixed spread of 3-20 pips depending on the currency pair. The
underlying interbank rate might be as little as 1 pip.
Forex is a very large market but for most retail traders
dealing with brokers the odds are shifted against them. Online
futures trading provides a much more level playing field for most
traders who want to take part in forex trading.
Tim Wreford operates Online Futures
Trading, a website that provides information and resources
for traders. Tim also provides an article detailing the
development of a
day trading system, the results of which are updated daily on
the site.
MORE RESOURCES updated Fri. March / 29 / 2024
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