Forex Market - potential for better risk adjusted returns



There are more reasons to have forex exposure beyond currency diversification. Once you do some homework, you’ll realize that the forex market is arguably among the most rewarding asset classes for traders and investors.

What Is the Forex Market?

The foreign exchange market. currency market or forex market is where currencies are traded. Currencies are important to most people around the world, whether they realize it or not, because currencies need to be exchanged in order to conduct foreign trade and business. If you are living in Brasil and want to buy cheese from Europe, either you or the company that you buy the cheese from has to pay the Europeans for the cheese in euros (EUR). This means that the Brasil importer would have to exchange the equivalent value of Brazilian Real (BRL) into euros. The same goes for traveling. A Brazilian tourist in the U.S can't pay in BRL to see Wall Street because it's not the locally accepted currency. As such, the tourist has to exchange the BRL for the local currency, in this case, the U.S Dollar, at the current exchange rate.

One unique aspect of the foreign exchange market is that there is no central marketplace for foreign exchange. Rather, forex trading is conducted electronically over-the-counter (OTC), which means that all transactions occur via computer networks between traders around the world, rather than on one centralized exchange. The market is open 24 hours a day, five and a half days a week, and currencies are traded worldwide in the major financial centers of London, New York, Tokyo, Zurich, Frankfurt, Hong Kong, Singapore, Paris and Sydney—across almost every time zone. This means that when the trading day in the U.S. ends, the forex market begins anew in Tokyo and Hong Kong. As such, the currency market can be extremely active at any time of the day, with price quotes changing constantly.

Here are the 8 main advantages of the forex market that make it one of the most attractive for traders and investors worldwide.

1. The Best Risk/Reward Potential

Forex market offers some of the best risk/reward opportunities of any financial market IF (big if here) you know how to exploit it. The availability of leverage in forex, meaning the use of borrowed funds to control large blocks of currencies and thus magnify gains and losses, creates the unmatched profit potential for those with limited trading capital IF (again, really big IF here) they learn how to control the downside risk. For example, with 100:1 leverage, a 1 percent move means 100 percent profit. It also means a 100 percent loss.

This allows us to make substantial profits on small price movements. However, as noted above, that also means:

  • For every $1 you have at risk, you control $100.
  • For every $1,000, you control $100,000.

Much of the next articles is about how to minimize that risk of large losses while maximizing the odds of profiting. It involves learning to cut losing trades short and let winners run so you can be profitable even when wrong on most of your trades.  

Continue reading or start trading and notice how forex market works in real-time. Use code WELCOME20 at registration to get a FREE $20 welcome bonus.

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2. The Most Flexible Hours

Forex market trade in a seamless 24-hour session, 5.5 days a week, from Sunday 5:15 P.M. EST until Friday 5:00 P.M. EST. So, those with work or family commitments can trade a fully liquid market whenever convenient. Learn more about the forex market program and the best hours to trade

3. The Lowest Startup and Trading Costs

Forex trading has among the lowest entry or startup costs in money and time of any financial market, in terms of trading capital and training/equipment costs, as follows: Unlike most markets, you do not need many thousands of dollars to get started. That’s because, in the forex market, we can trade with leverage (borrowed funds), typically 100:1 or more.

In theory, you can often start with as little as $100. However, you’ll learn that you’ll lower your risks and have more chances to profit by starting with at least a few thousand dollars (or the equivalent) if possible. As we’ll see later, the small forex position sizes available from mini and micro-accounts allow those with limited funds to trade smaller positions, which keeps the percentage of capital risked per trade acceptably low. More on that later.

  • Training and equipment costs: Forex brokers typically provide free full-featured trading platforms and data feeds, and the best forex brokers offer extensive archives of free training materials and market analysis. With online stock brokers, traders typically need to maintain minimum balances or minimum trading volumes to get free quality charting and trading platforms from their brokers or get access to worthwhile research. 
  • Free Practice Accounts: Even better, they typically provide full-featured practice or demo accounts that allow smart beginners to simulate most of the trading experience and practice with play money until they feel ready to risk their capital.
  • Low transaction costs: Most forex brokers charge no fees, commissions, or hidden charges. They earn their money on the difference, called the forex spread, between the buy and sell price, typically a few ten-thousandths, called pips, of the price. Depending on the lot sizes traded, a typical two-pip spread, four pips total to open and close a position, can cost anywhere from $0.40 to $40. In general transaction costs are very competitive compared to those of online stock brokers. 

4. Forex Market Offer the Best Liquidity

A liquid market is one that has many buyers and sellers. The more buyers and sellers at any given moment, the more likely you are to get a fair market price when you buy or sell. The more liquid a market is, the less likely it is that a few otherwise insignificant orders or players can move prices in wild, unpredictable movements.

Indeed, unlike in stock markets, even the biggest players will have trouble manipulating the price action in major currency pairs beyond a matter of hours. Two exceptions to that, are a few central banks and crooked forex brokers. Fortunately, dishonest brokers can be identified and avoided with some research, and central bank intervention risk is usually known or soon uncovered after the first incident, putting markets on guard. The more liquid the market, the easier it is to be profitable.

Prices are fairer and more stable, less subject to sudden unpredictable movements. You should generally avoid trading in illiquid markets, except on rare occasions when trying to enter positions at bargain prices offered by those desperate to close a position. Forex markets trading volumes dwarf those of equities. Latest estimates put average daily forex turnover at around $4.71 trillion, of which individual retail traders alone account for about $1.5 trillion. That huge trading volume, going on 24 hours a day, means abundant buyers and sellers are usually present at any given time. That means you’re more likely to get a fair price no matter when you buy or sell. It means that you rarely see partial fills, which are cases in which you can only buy or sell part of your intended order.  

5. Advanced Warnings of Changes in Other Markets

Forex markets often react to changing conditions before other markets, providing valuable advanced warning of possible trend changes. As we’ll learn later, certain currencies tend to move in the same direction as “risk assets” like stocks or industrial commodities, and others tend to act like “safe haven assets” like bonds. When these correlations break down, that too can often be a warning of a change in direction for other markets.

6. No Centralized Exchange with Specialists Holding Monopoly Power to Regulate Prices

In most stock markets, the specialist is a single entity that serves as buyer and seller of last resort and controls the spread, which is the difference between the buy and sell price for a given stock. Though in theory they are regulated and supervised to prevent they are abusing that power to manipulate prices at the expense of the trading public, specialists are experts at knowing when they can get away with a degree of this and force you to buy higher or sell lower. In forex, no single specialist regulates prices of individual currency pairs. Rather, multiple exchanges and brokers are competing for your business. Though the lack of centralized exchanges can complicate regulation, competition and easy access to pricing information have brought competitive pricing.

7. No Uptick Rule: Just as Easy to Profit in a Falling Market as in a Rising One

Just as it’s easier to row with the current than against it, it’s easier to profit by trading in the direction of an established market trend. Unlike with stocks (and other financial markets), in forex, it’s as easy to profit from falling markets as from rising ones. This is a huge advantage of forex markets. During an uptrend, when prices are rising, most traders go long, meaning they buy the asset with the hope of selling it at a higher price. They’re attempting to buy low and sell high, the classic way most people view investing.

During a downtrend, when prices are falling, it’s easier to profit by trading with that downtrend. So, the more sophisticated equities traders try to exploit that downward momentum and sell short; that is, sell borrowed shares with the hope of buying them back later at lower price, returning the borrowed shares, and profiting on the difference—for example, sell borrowed shares for $100 per share, buy them at $80, return them to a broker, and pocket $20 per share. However, most stock exchanges are controlled and regulated by those who have an interest in keeping stock prices high with short selling restrictions and huge costs. 

8. Forex Needn’t Be Any Riskier Than Other Markets

Forex has a gotten a reputation for being excessively risky due to a combination of:

1. High failure rates due to beginner forex traders who failed to do their homework and understand the risks associated with the high leverage commonly used in most forex trading.

2. Brokers who failed to provide sufficient training to deal with the risks of using leverage. However, you can reduce and manage the risks. There are:

  • Brokers, like ambroker.com, that allow you to adjust your leverage down to what you can handle, and they will provide guidance on the appropriate level.
  • Unlevered ways to trade forex, which are no riskier than an exchange-traded fund (ETF) or a stock.
  • A variety of techniques to reduce risk in forex trading, as well as new instruments for simpler, safer forex trading.

As we’ll see further on, making money trading forex can be easier than in stocks and other more traditional asset markets, particularly in bear markets. However, you do need to do your homework, especially if trading with leverage, which adds risk as well as reward. Part of that homework is to learn more conservative, simpler techniques that make it easier to succeed at forex than those most commonly used. Until recently, there was no single source for learning this more sensible, conservative forex. No longer. This is the only source to gather these methods into one collection of articles.

Understanding what is forex market is important, but if you want some help, sign-up and our trainers will provide step-by-step guidance to get started. Open an account and notice how forex market can make you serious money today.

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Categories:  Forex