What is forex, how is trading on this market arranged?

“Make money playing forex!”, “Profit up to 100% a day in the foreign exchange market!”, “Teach you how to work in the forex market!” – the Internet is full of such announcements. Is it really possible to earn on Forex and what does it take?

What is forex

Forex, short for Foreign Exchange, is a way of exchanging currencies. The Forex market is first and foremost an international currency market – the largest and most active financial market in the world. Its daily turnover exceeds $10 trillion. This exceeds the turnover of all national stock markets put together.

What is forex

Participants in the Forex market are the largest banks and central banks of different countries, investment and pension funds, large companies, and private investors with huge personal capital. The deals at this market start from $1 mln.

However, Forex is also a marketplace where people do not buy and sell real currencies but only conclude betting transactions on the rise or fall of currency rates. This market was organized by the specialized companies – Forex dealers.

Through a forex dealer you cannot buy currency. If you need dollars, euros, pesos or yuan, you can exchange them in a bank or on a currency exchange through a broker.

Forex dealers offer ordinary people to participate in the game of forex. The idea is that a person tries to predict what will happen with the rate of one currency against another and makes a deal with a forex dealer. If his forecast comes true, he earns – the dealer pays him the money. If not, the dealer deducts a certain sum from his account.

At the same time, as a rule, to start trading neither large sums of money nor special equipment are required. All one needs is Internet access and a trading terminal, a special program on the computer. Lately, there are even mobile applications for access to Forex. However, this does not mean that it is easy to earn on Forex, on the contrary, the risks of loss are very high.

What is necessary to start trading on Forex?

At first, you sign a contract with a Forex dealer and install the dealer’s Forex trading program on your computer, smartphone or tablet. This program shows the rates of all currencies in which transactions can be executed.

A forex dealer can use the currency quotations of the international currency exchanges, banks, Russian and foreign brokers, information agencies and other reliable sources. The full list of possible quotation providers can be found in the Forex Dealer’s Base Standard.

In order to conclude forex deals, you have to transfer the deposit to the dealer’s account. This money will be a guarantee that you will be able to fulfill your obligations on forex transactions.

All of your trades – conditional “purchases” and “sales” of currency – are reflected online in the program. But real money is deposited to or debited from your account only after you close your trades. If you correctly predict the movement of the currency rate, the dealer credits your account – your deposit increases. If you are wrong, the deposit is reduced.

You can withdraw the deposit from the dealer’s account only after all transactions are closed. And you can deposit the account at any moment. It is important to remember that in case of a bad deal you risk losing the whole amount of the deposit.

what is forex trading all about

How are Forex trades executed?

Before making a deal, you select two different currencies, a currency pair. One is the base currency, the other is a quoted currency. Your task is to attempt to predict how the rate of the quoted currency will differ from that of the base currency. If you believe that the rate of the quoted currency will rise, you can open a deal to “buy” it. If you think it will fall, you can open a “sell” deal.

Most often the dollar is chosen as the base currency, while any other currency can be quoted.

You have chosen a currency pair: the euro and the dollar. The dollar is the base currency, the euro – quoted. For example, you expect the euro to rise against the dollar.

Right now the euro is worth $1,213. You open a trade to “buy” the euro for $100. In reality the Euros do not come to your bank account, but they are reflected in the internal register of transactions of the Forex dealer and in your balance in the program.

Suppose, after a day, the price of the euro really rises to $1,223. You think it will not rise again and you close the transaction. Thus, you record a profit: $(1,223 – 1,213) × 100 = $1. This money will be credited by the Forex dealer to your real bank account – your deposit will be replenished. If the euro drops to $1,113, your loss will be: $(1,213 – 1,113) × 100 = $10. And the forex dealer, on the contrary, will debit this money from your bank account.

You should also keep in mind that a Forex Dealer will charge you a commission for his services. For example, for opening and maintaining an account, connecting to the trading program, executing transactions, transferring money to the bank account and other services. All fees must be specified in the contract.

what is forex exchange

Is it possible to earn on Forex?

Making money on forex is as real as, for example, playing on the stock market. Legitimate forex dealers, which have a license from the Bank of the country, operate under strict and transparent rules.

If you are able to make accurate prognoses, as the situation on the currency market will change, you will be able to earn good money.

Often players lose 3-4 times more money than they earn on Forex. The fact is that it is very difficult to predict the dynamics of exchange rates. The situation on the currency market depends on many political and economic factors, the behavior of the world’s largest banks, funds and companies. Even news and rumors influence currency rates.

If you’re ready to take a risk, it’s best to start with the theory:

  • Study how the international foreign exchange market works.
  • Understand the methods of fundamental and technical analysis, which help you predict the movement of any variable by using mathematical models.
  • Understand the peculiarities of derivatives. After all, transactions with forex dealers are derivative contracts for currencies or currency pairs.
  • Read articles about the stock exchange and investments. Many books have been written on the subject of trading.

And before concluding an agreement with a Forex dealer, you must carefully study the documents. Particular attention should be paid to the risks of trading on the Forex market, which the dealer is obliged to warn you about.

what is forex trading and how does it work

What strategy to choose in order not to lose all your money all at once?

If you decide to trade on the Forex market, you need to adhere to the following rules:

Rule #1

Don’t take big leverage, especially if you are just learning how to trade forex.

The truth is that the rate usually does not fluctuate much. In the course of a day the difference is usually a hundredth of a percent. So if you trade only on the value of your deposit you will not earn much.

That is why forex is traded with leverage. It means that a Forex dealer can provide you with the virtual counterpart of credit. The real money will not be credited to your account, but the leverage will allow you to increase the amount of transaction by several times. And you will not be limited to the money you have on your deposit. Legally, the maximum leverage that a Forex dealer can give you is 1:50.

Let’s assume that your deposit amounts to $100. A Forex dealer is ready to give you a leverage of 1:10. That means that you will be able to open a deal of $1000. In the forex-program it will reflect the “purchase” of currency for $1000. If you want to open a deal of $5000, then you have to take a leverage of 1:50.

You can use for a transaction not all of your deposit, but only a part of it. For example, out of a $100 deposit take only $20 and choose a leverage of 1:50. In this case you will also be able to make a deal for $1000. And use the remaining $80 on your account for another operation.

If you can guess the change in the exchange rate, you can increase your profits in that proportion. If you fail to guess – you will incur losses in the same proportion.

For example, you open the deal on “purchase” of euro on $1000 with a leverage 1:10. If the Euro rises by $0.2, you will earn $200, not $20. But if you’re wrong and the euro falls against the dollar by $0.1, you will lose $100 – the entire amount of your deposit.

In other words, your potential gain, but also the risk of losing money increases in the same proportion as your leverage. So to begin with, choose a leverage in the range of 1:5-1:15.

Rule #2

Limit the deposit – the amount you deposit on your trading account with a Forex dealer.
After all, you can lose this amount at any time. You will not be able to trade in the black all the time, losses are inevitable. But a Forex dealer will not allow you to lose more than the sum on your deposit, and go into deficit. He will forcefully close the transaction.

Let’s assume that your deposit is $100. As in the previous example, you have decided to open a $5,000 “buy” Euro trade. For this purpose you have taken a leverage of 1:50. But the euro went down against the dollar and fell in value by $0.1 during the day.

That is, your loss could have been $500. But the Forex dealer would not allow you to lose more than the balance of your real trading account, that is, over $100. As soon as the euro/dollar exchange rate drops by $0.02 (with a loss of $100) the broker will close the transaction and zero out the account.

To tell the truth, it is not very pleasant to lose the whole amount of money in the account.

Rule #3

Use a stop loss (stop loss) – an automatic exit from the trade.

Forex programs usually allow you to limit losses on a trade. This option is called a stop loss. It is worth using this option if you do not want to lose your entire deposit at once. A stop-loss allows you to automatically close a trade when the loss reaches the limit you set.

Suppose your deposit has grown to $1000. And you do not want to lose it all in one unsuccessful transaction. Then set a stop loss – give the forex dealer an instruction to close the trade when the loss reaches, for example, $100. That way you can save the remaining $900 of your deposit.

Unfortunately, the stop-loss option is not available in all forex programs. If it is not available, you will have either to risk the entire amount, or to withdraw money from the trading account of a Forex dealer every time, and leave there only the deposit that you are not afraid of losing.

what is forex trading

I decided to give it a try, though. How to proceed?

After studying the theory, you can move on to the next steps.

1. Choose a Forex dealer

The most important thing – it must have a license from the Central Bank!

In addition to the license it is worth clarifying a few more points:

  • Whether it is possible to undergo preliminary training before proceeding to trade;
  • Whether it is easy to install a trading terminal – a program or a mobile application – on your computer or smartphone;
  • Is there a demo version, in order to understand the terminal and test your strategies;
  • How well does technical support work: is there a hotline, online chat, how quickly do the consultants react?
  • What is the minimum deposit amount (the chance of losing this amount is very high, so choose variants with a small minimum deposit to start with).

2. Practice on a demo account

A demo account allows you to understand how and at what expense forex earns, and gives you the opportunity to try different trading strategies.

Predicting exchange rates, based solely on publicly available information about what is going on in different countries, is very difficult. Therefore, to help players, there are programs that analyze technical indicators of currency movements and help build trading strategies. But the probability of error is still high.

3. Open a Real Account

Did you practice on a demo account? Practice the different strategies you learned in training, and select a few that work for you? Now you can open a real account.

You can determine the amount of the account yourself, but forex dealers can have their own limitations on the minimum deposit amount. It is better to start with a deposit, which you will not be afraid to lose.

It is not a fact that your strategy, tested on a demo account, will be as successful on a real account. You will have to spend some more time and money in order to perfect it and work out your own style. It is possible to use several strategies at once, so you will reduce your risks a little.

What to do if a Forex dealer has violated my rights or I have lost all my money?

There are no income guarantees in forex. The money you deposit with a forex dealer is not insured by the state. But if you encounter other problems – for example, a licensed forex dealer executes your orders not in real-time, but with a delay, or does not return your deposit at your request – then contact the Central Bank.

Kevin Doran

I have been trading forex since 2015. Over the past few years, I have tried and tested all the most popular Forex Brokers. I publish my reviews to help you choose a reliable broker and reduce your risks.

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