Forex trading has exploded in popularity in recent years due to its minimal barriers to entry, low margin requirements and potentially lucrative returns. We investigate how the Forex market got to be such an attractive trading choice and what FX trading entails.
A Brief History of Forex Trading
Trading on the modern Forex market has existed since the seventies when countries began to shift over to a floating exchange rate. Prior to that and since World War II, the Bretton Woods System had laid out a set of rules and policies among industrial nations which created a fixed exchange currency exchange rate, pegged to the value of gold (the gold standard).
In August 1971, United States President Nixon announced the country’s ‘temporary’ suspension of the convertibility of the US dollar into gold – the dollar had struggled throughout the 60s for a variety of reasons – an attempt to return to a fixed exchange rate following this failed. A currency that is not backed by any commodity, such as gold, is known as a free-floating fiat currency and since that point has globally replaced de facto the gold standard system.
Consequently, the volatility of the currency market means people can speculate on it and thereby make money from it as well as lose everything they have invested. Forex traders don’t own the underlying asset on which they are trading, they merely predict whether it will rise or fall against another currency.
A Day in the Life of a Forex Trader
Unlike major global stock exchanges, the Forex market never sleeps. It is open 24 hours a day from 5 pm EST on Sunday until 4 pm EST on Friday and therefore brings ample opportunity to be utilised by traders in different time zones and encourages international collaboration. The opportunity for flexible trading hours is another factor that makes Forex attractive.
- Day trading
A short-term strategy for traders to look for and capitalise on entry and exit points within the same day. Day trading requires cool focus and in-depth knowledge of the market in which you’re trading, so beginners may benefit from a comprehensive day trading guide (via CFD trading or spread betting) to get them off on the right foot.
Forex is a decentralised market with nodes in financial firms, brokerage houses and banks across the world. The geographical dispersion of the market means traders can benefit from their localised knowledge, wherever they are based and choose a currency pair that they posses information about.
Private individuals are not permitted to execute trades on the Forex market themselves, so traders must use the services of a broker. That being said, depending on where you live anyone can begin trading in Forex without a licence (through a broker), especially if you are using only your own money.
Forex brokers are the entities that need to comply with trading regulations and all respectable firms hold regulatory licences from the region of the world where they are based. There are safety nets in place to ensure brokers keep clients’ funds separate from their working capital and compensation is paid out if found in breach of these rules.
The Forex markets are the largest by the dollar value of trading volume in the world and as a result, are extremely popular choices for businesses to trade in. It takes time to learn to trade any form of investment but since the Forex market is so prevalent, there is a wealth of educational and tutorial information available.
- Margin Requirements
A margin requirement is the minimum amount of equity in your account that is needed to make a trade. Individual brokers and Forex pairs (see the EUR/GBP pair) will demand different margin requirements, but you can find margins as low as 0.25% This means that traders have significant leverage from a small amount of capital but it’s important to remember that this comes with increased risk.
- Lot Sizes
A lot size refers to the number of units of a financial instrument that is traded. For example, the minimum lot size to trade in gold is 10 troy ounces which equates to roughly USD 18 thousand. The standard size for a Forex lot is 100,000 units of currency but mini, micro and nano lots are available – a nano lot is 100 units.
Combined with low margins, small lot sizes make Forex trading appealing to beginners. That is why a regulated broker will always ensure that their potential client is properly informed about the risk of this activity, no matter how popular it became.
*Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. The vast majority of retail client accounts lose money when spread betting and/or trading CFDs. You should consider whether you understand how spread bets and CFDs work and whether you can afford to take the high risk of losing your money.
*Marketing for CFDs and spread betting is not intended for US citizens as prohibited under US regulation.