What is Forex trading and why trade it?
Every day, $5.1 trillion dollars’ worth of currency is exchanged in the forex market.
This is more than the stock and debt market combined, yet most people would struggle to explain what forex trading actually is.
If you’re included in that group, this article will change that; If you have a general idea of what forex currency trading is but you still haven’t built up the confidence to take action, this article will help too.
There are a lot of misconceptions regarding forex trading. Unfortunately, the most influential content creators in the industry are a mixed bag: For every well-intentioned and informed coach, there is a shady character promising you the world without mentioning the potential pitfalls and hard work involved.
But the reality is this: Forex trading is a solid opportunity for entrepreneurial and hard-working individuals.
It’s a great equalizer. It requires no formal education, no job interview or fancy suit. The top traders aren’t the ones that come from the most privileged families or backgrounds, but the ones who have worked the hardest and the smartest.
It’s not the get rich quick scheme that some try to sell, but there definitely a lot of potential to capture.
It requires the capacity to learn new concepts fast and emotional control, qualities lacking in the vast majority of people.
But before we get into that, there is one important question we need to answer:
What is Forex Trading?
Forex trading consists of trading in the foreign exchange market.
Simply put, it involves converting one currency to another, based on your prediction of how a certain currency will perform against another at any given time.
These currency conversions are expressed as a ratio of two currency codes. If the GBP/USD is at 1.29, for example, it means that buying 1 GBP (British Pound), would cost 1.29 USD (US Dollars).
When you’re first starting out, the fx terminology might be confusing, and it might be hard for you to track what you’re actually betting on. So, here’s a quick tip on how to read forex pairs:
Whenever you buy a currency pair, you are betting that the currency on the left side of the pair is going to rise in value compared to the currency on the right.
This prediction of change in currency value can be based on your analysis of macroeconomic events and news, which is called fundamental analysis, or on your analysis of price chart patterns, called technical analysis.
Returning to our example: If your analysis indicates that the GBP will increase in value in relation to the USD, you would buy GBP/USD and once this prediction is realized, sell it for a profit.
For example:
If you bought 100GBP at 1.3USD, and the GBP/USD increased to 1.4USD, you would profit (1.4$- 1.3$) X 100 = 10$, as you would sell your 100GBP for 1.4USD X 100= 140USD and the original 100GBP cost you 130USD.
The reality of forex trading is a bit more nuanced though.
The securitization of the financial industry has opened up a universe of possibilities and the modern forex trader will be well versed in trading futures, options, swaps, and forwards.
These are financial instruments which involve leverage, the option of buying a currency in the future, and several other peculiarities that allow a tighter control of risk and exposure.
We won’t go into detail about them in this article but it is important for you to know that the possibilities are endless.
If you can speculate it, you can most probably trade it.
Why trade forex?
If our introduction to forex trading left you overwhelmed, don’t worry. It’s normal for beginners to feel lost in this world of financial jargon.
In fact, this barrier to entry is what makes forex trading so enticing: 90% of traders will give up just before fully grasping what forex trading really is.
So, if you believe that you are part of the 10% of traders who has the drive to make it, here’s what waiting for you at the end of the road:
- Independence: When you trade forex, you’re dependent solely on yourself. No meaningless tasks, clueless co-workers, or incompetent bosses to answer to. If you’re performing well, you will be rewarded.
- Limitless financial opportunity: Once you find a winning strategy, there are no limits to your financial gains. You can take on debt or money from other investors and scale your earnings.
- Location independence: As long as you have a laptop and an internet connection, you can trade from anywhere in the world. Despite what movies might have you believing, you don’t need 3 different computer screens to trade forex.
- Intellectual challenge: Unlike other entrepreneurial endeavors that require close no none intellectual capacity (looking at you, dropshipers), forex requires improving your knowledge of the financial markets constantly. This means reading books, taking courses, and networking with other traders.
Forex vs Stocks
Finally, one question still lingers: Why go through all the trouble of learning forex trading, when there is a much more straightforward market widely accessible to anyone: the stock market.
The main reason is the cost involved in trading the two instruments.
Unlike stockbrokers, most FX brokers do not charge a trading, regulatory, or data commission.
Instead, the broker will earn his revenue through the spread.
Simply put, the spread is the difference between how much a seller can buy and sell a currency pair at any given time.
Let’s go back to our example:
If the GBP/USD spread is 1.2901 - 1.2905, this means that at this point in time, you can buy the GBP at 1.2905USD. If you already own GBP, you can sell it for 1.2901USD.
In most cases, the broker will make its revenue by adding a small percentage or a fixed amount to the spread.
There can also be fees involved with opening and managing an account. These are well explained in the video below:
This means that overall, trading forex is cheaper, offering more opportunities for profit.
Currencies are also subject to a narrower set of influences.
Whilst stocks are influenced by the management team, macroeconomics, industry competitions, currency exchange, and many other factors, currencies are mostly influenced by macroeconomics.
Finally, unlike stocks, there are no fx market times. The forex market is 24 hours.
If you are interested in reading reviews of our picks for the best brokers then click the link.
Final Thoughts
Forex currency trading is not a risk-free, hassle-free endeavor. It takes dedication, perseverance, emotional control, and adaptability, but if you’re willing to commit to trading, it can be a highly fulfilling business.
And the best part about trading forex?
Even if you don’t manage to find a profitable strategy that rewards you in the short-term, you will gain an economic literacy that will guide your future savings investment strategy.
We hope that this article opened the door to the intricate and fascinating world of forex currency trading.
If you’ve got any comment or question, feel free to leave it in the comment box below.
Happy trading!