The abbreviation “Forex” stands for currency trading, called foreign exchange trading by experts. All national currencies are traded on this market. Investors trade in forex for the same reason as any other market, they believe that the value of individual currencies will go up or down over time. Remember, currencies are just as much a commodity as other commodities. Some days they go up in value and other days they go down. You can take advantage of fluctuations in foreign currency prices in Forex to make money.
- 1 Method#1. Learn the basic principles of Forex
- 2 Method#2. Find the right forex broker
- 3 Method#3. Trade successfully in Forex
Method#1. Learn the basic principles of Forex
Know how currencies are traded in Forex.
Understand currency rates.
- For example, the value of the euro (EUR) is given as USD/EUR.
- Currency rates are listed with four decimal places.
- Once you know how, currency rates are easy to understand. For example, the yen is shown as 0.0087 JPY/USD against the US dollar. You should understand that because “you have to pay $0.0087 to buy one Japanese yen.”
Learn what arbitrage is.
In short, arbitrage is the exploitation of price differences in the markets. Traders may buy a financial instrument in one market with the hope of then selling it in another for a profit. Within forex, arbitrage is used to make a profit on these differences in currency rates. These differences are not only between two currencies, so the trader has to use the “triangle arbitrage” which consists of three different trades to profit from the price differences.
- For example, imagine noticing the following rates: 20.00 USD/MXN, 0.2000 MXN/BRL, and 0.1500 BRL/USD (between the US Dollar, the Mexican Peso, and the Brazilian Real) are. You’re wondering if there’s an arbitrage opportunity here, so you start with a theoretical value of $10,000. With your $10,000 you could buy 200,000 pesos (10,000*20.00 USD/MXN). With your 200,000 pesos, you could buy 80,000 reals (200,000*0.2000 MXN/BRL). And finally, you could buy $12,000 US Dollars (80,000*0.1500 BRL/USD) with the 80,000 Reals. If you make these three trades, you’ve made a profit of $2,000 ($12,000 -$10,000).
- But in reality, profits are small, if any, in arbitrage trades because profits and price differences are adjusted almost immediately. Lightning-fast trading systems and heavy investments are used to overcome these hurdles.
- Trades in Forex are traded in lots. A standard lot is 100,000 units of currency, a mini lot is 10,000 units, and a micro lot is 1,000 units.
Understand leveraged deals.
- This 100:1 requirement means that you are actually only depositing 1/100th of what you want to invest in the currency. This security deposit is known as a margin and protects you from future currency trading losses.
- Trades that use leverage increase both potential profits and potential losses, so be careful when making these types of trades.
Method#2. Find the right forex broker
Make sure the agent is following the applicable regulations.
The broker should be registered with the Bafin. To verify that the broker is also acting in accordance with applicable laws and regulations, go to “About Us” on their website and it should state whether they are registered with Bafin.
- The Bafin sets the rules that regulate and control the security of the financial markets.
One of its responsibilities is to protect the public from fraud, manipulation and unfair practices associated with trading in commodities and financial futures and options, and to ensure open, financially sound financial markets.
Make sure the currency pairs you want to trade are offered.
Look at brokerage reviews.
Checking the trading platform.
Note the brokerage fee.
Method#3. Trade successfully in Forex
Use a practice account.
As with everything in life, you will get better at trading Forex with practice and experience. Luckily, almost all major trading platforms offer so-called practice platforms that you can use to trade currencies without spending your hard-earned money. Take advantage of this platform so you don’t waste money while you’re still learning.
- If you make mistakes in your practice sessions (and you will) then learn from those mistakes, it’s important so you can avoid them in the future. Practicing currency trading won’t do you any good if you don’t learn from the experience.
Keep a journal.
Find and exploit arbitrage opportunities.
Become an economist.
If you want to be a successful forex trader, you need to understand the basics of economics, as a country’s macroeconomic conditions affect the value of local currencies. Pay special attention to the economic indicators such as the unemployment rate, inflation rate, gross domestic product, and the money supply. And more importantly, watch the evolution of these factors to get an idea of where they’re headed.
- If, for example, a country is about to slip into an inflationary period, it means that the value of its currency will soon fall.  You will certainly not want to buy such a currency.
- Pay attention to countries whose economy is based on a few industries. The Canadian dollar, for example, tends to move in line with the price of crude oil. If there is a rally in crude oil prices, then the Canadian dollar is likely to appreciate as well. So if you think the price of oil will go up in the short term, it would be a good idea to buy Canadian dollars.
Also, watch a country’s trade surplus or deficit. When a country has a healthy trade surplus, it means buyers of its products must first convert their currency into the local currency. This will boost demand for this currency and its value could increase. If you think a country’s trade prospects will improve, it might be a good idea to buy that country’s currency.
Remember the motto “All other things are equal”.
There are a number of sound currency trading principles that have been outlined in the previous steps. But the economic conditions described there are not in a bubble. You need to get a picture of the overall economic situation before investing in the local currency.
- For example, a country may have a healthy trade surplus, allowing its currency to appreciate. And at the same time, the country can be industry-oriented and have a currency pegged to the price of oil. If oil prices fall at the same time as the country’s trade prospects improve, the value of its currency may not appreciate.
Learn to read the charts like an expert.
Technical analysis can also be used to make money in forex. If you analyze the historical chart of a particular currency, you may be able to spot certain patterns. Some of these patterns can provide clues as to which direction the currency will move.
- The head and shoulders pattern can be a sign that this currency is about to break out of its range. This is a technical cue used by many forex traders.
- The triangle pattern is an indication that a currency’s high-low range is narrowing. It is also a sign that the currency could break out, depending on the overall direction of the triangle.
- An engulfing pattern is a pattern seen on candlestick charts. This means that the range of one candle completely encloses the range of the previous candle. In such a case, the currency is likely to head towards the enclosing candlestick. This is a very good trading signal used by many Forex investors.