Foreign Exchange: An Intro
At its very purest, foreign exchange (or Forex, with the “for” from “foreign” and “ex” from “exchange”) is the act of turning the currency of one country into the money of another. Every time a consumer goes to a bureau de change, a foreign exchange transaction occurs. An exchange rate measures the change in value when money moves from one form to another. Depending on which country has the more valuable currency, this transaction could either save the consumer cash or cost them more. That value, meanwhile, is determined by a whole host of factors. While in some places, the value of the local currency is decided by an authority of some sort (such as a national government), in practice, the capitalist economies of the world subject their currencies to traditional laws of supply and demand.
As a result, everything from how many tourists visit a nation to the total value of demand for the products and services of the nation’s businesses can end up influencing the final cost. But there’s another side to Forex as well, and that’s the way in which it can be traded by speculators. Rather than buying particular foreign currency to pay for goods and services in a specific location, Forex speculators buy a currency pair as an investment in the hope that the value of it will rise and they can sell it on for a more significant profit.
How It’s Done: Trading Forex
Unlike many asset classes, you can’t trade a foreign currency as a single unit. Instead, you have to buy a pair and stipulate what outcome you think will happen. Say you buy the Japanese yen/Australian dollar Forex pair: if you’re hoping for the yen to surge ahead against the dollar, you will use the dollar to purchase the yen and then enter into an agreement with the seller that you’ll be able to sell the yen back if it makes a profit. Also, you should note that there are two distinct ways in which you can trade Forex, and the option you go for will likely depend on your chosen Forex trading strategies.
The first way to do it is to buy the foreign currency itself and then sell it on at a hopefully higher price further down the line. The second way to do it is to buy a derivative of the currency (such as a CFD, or contract for difference) and trade that instead: while under this system, you won’t actually own the underlying asset, but you’ll be able to trade in a way that resembles ownership of a currency on the actual market, and you’ll be subject to the same market movements as the owners. If you do it the latter way, you can boost any gains (or, indeed, losses) you might make because CFD trading tends to be done on a margin basis to harness the power of leverage.
Tactics: The Best Chance of Success
When it comes to trading Forex, taking a tactical approach is the only real way to get yourself in with a chance of financial success. Some people misunderstand the world of foreign exchange trading, and they assume that it’s just a game of chance. And while it’s certainly possible that you may have occasional success here and there without a simple trading strategy in place, it’s almost sure that there won’t be any long-term gains. That’s the first reason why implementing a strategy is something that nearly all successful Forex traders have done.
If you’re looking for a space to test out these strategies before you surge ahead with them on the open market, though, it’s possible to do that. This is just one of several advantages associated with CFD Forex trading rather than actual asset-based Forex purchases: CFD brokers have virtual cash spaces that allow you to see how your strategies would perform when applied to the open market – without actually having to stake any cash yourself. Once you’re happy with your virtual performance, you can make the shift over to the real cash investment side of the platform and apply your new-found knowledge.
Stick to Forex Tactics
Finding out a list of trading strategies is a good place to start when it comes to the Forex world, but it’s not a foolproof way to ensure that your Forex strategy is necessarily going to be a good one. That’s because strategy in the trading world is an umbrella covering many different asset classes and modes of investment, and the type of strategy that works well for one instrument isn’t necessarily going to be the same for others. Forex, in particular, is a unique market in many ways, and this means that the strategies you select should cover these individual elements.
When finding a Forex strategy for beginners, you’ll need to ensure that it takes into account the fact that the market is exceptionally dynamic because of high trading volumes, for example, while it should also consider the fact that pairs can change in value at different times because they are geographically removed from each other. You should also make sure that the Forex strategy you pick is compatible with backtesting – and that’s not always something you can rely on when just looking at general trading strategies, so you should be careful. Some strategies that are designed for cryptocurrency trading, for example, don’t take into account the role of backtesting because cryptocurrency is so new and there’s not as much data for it available. If you were to apply a strategy like that to Forex trading, you’d potentially be missing an essential tactical element.
Get Your Priorities Right
Whether it’s scalping you plan to go for or trend trading you want to use, there are plenty of different Forex trading strategies available. Although it may seem odd at first (especially to a new trader), selecting from these many strategies is something that needs to be done in a detached and scientific way. Choosing a tactic based just on how impressive it sounds on paper or how easy it is to implement, for example, is missing the point. The strategies you choose need to be designed around your needs as a Forex trader: you need to identify what your strategic priorities are and then work outwards from there.
At the most basic level, you’ll need to think about duration: scalping, for example, requires making profits on the back of small price movements, so you may need to invest a lot of time in monitoring the market for that sort of behavior if you choose this strategy. Given the international nature of the Forex market, meanwhile, you may also have to trade at times that don’t match your working hours. If you’re trading the British pound and Australian dollar pair, for example, then that’s two wholly different time zones and two economies in very different locations to be thinking about. But there are other personal priorities that need to form part of your strategic Forex decision making. The size of your deposit may open up extra strategic avenues if it’s unusually large, for example.
Manage Your Risk
One vital aspect of trading that is common across all strategies and all asset classes is consideration of risk. Trading is an inherently risky activity, and that’s broadly as true for Forex as it is for other financial instruments. On most Forex trading platforms, though, there are plenty of risk management tools available to help you achieve this end. Order execution tools such as stop losses, for example, are there to allow you to close off a trade when it reaches a certain level of profit or loss, so you can trade in confidence knowing that you have your best-case and worst-case scenarios stipulated and fixed – something that many with a low-risk appetite are keen to see.
There are a whole host of other order execution tools that can also help you manage risk, and it’s wise to investigate them and assess them to see if they will fit into your preferred risk management strategy. There’s no obligation to use risk management tools, of course, and you can choose whether or not you want to based on factors relevant to you. The key thing is ensuring that you’ve considered using them and thought about whether or not they will fit into your strategy and help you to achieve your own trading goals: whether the answer is yes or no, all that matters is that you’ve assessed them.
Model Your Trades by Backtesting
Nothing is guaranteed in the Forex world. But there are some ways you can improve your chances of making a profit, and it’s essential to consider incorporating these into your Forex trading strategies to make the most prudent choices. Backtesting is one of these methods: put simply, it’s the practice of applying a proposed Forex trading strategy to a collection of past data points from the same market and discovering to what extent they would have been profitable.
- Backtesting is the practice of running proposed strategies over previous data
- Past performance is not always a good predictor of future market moves
- But backtesting allows for pattern and trigger identification
This isn’t a foolproof method: if trading were that easy, of course, then everyone would merely backtest until they found the right strategy and then make profits right off the bat. But while past performance is never a sure-fire way of working out how an asset might perform in the future, backtesting is an excellent way to identify what makes the market for a Forex pair move and change. Backtesting can, for example, identify patterns and triggers that shift the market one way or another, and you can then use this information to make informed and strategic trading choices.
Consider Using Automated Trading Software
Given the developments that have emerged in Forex technology in recent years, it’s common for some traders to use what’s known as automated trading software as part of their trading strategies. This software is designed to automate as many of the Forex trading tasks as possible without actually causing you to lose control over your trading decisions. You can set parameters that dictate the conditions in which your trades should be launched, for example, and then these will merely be executed once the circumstances you have specified arise. The main attraction of this kind of automation is that it allows you to continue to trade even if you’re not in a position to be at your computer or device. But as with all Forex trading tools, it’s vital to ensure that you don’t let them replace your Forex trading strategies. If you choose to use these tools, you need to ensure that they are serving the right purposes for your Forex trading strategy: a trading strategy that requires constant assessment of small market movements, for example, may not be well suited to automated software. As with any tool, you should make sure that you use it only if it suits your stated trading goals.
Borrow from the Forex Pros
Copy trading is one of the latest developments in the online trading sphere. It offers trading opportunities to Forex traders who either aren’t confident enough, knowledgeable enough or simply don’t have the time to make strategic decisions of their own. The trades placed by a copy trader are linked to your trading fortunes: if the portfolio of the trader being copied performs well, for example, you’ll also profit – but if it doesn’t do well, you’ll also incur the same losses as them.
- Copy trading is possible for Forex
- Saves time and prevents the need for trading decisions
- It’s important to choose a trader who matches your goals
- The platform you choose should allow for customized searches
One of the significant copy trading websites is eToro, but there are lots to choose from, and it’s worth spending as much time as you can looking for the right platform before you begin trading. Remember that whichever site you choose should match your strategic priorities: if you’d like to follow a high-risk strategy to maximize the chances of returns, for example, it’s important to only ever choose a site that allows you to sort potential traders by risk appetite.
Why Tactical Forex Trading Makes Sense
Forex trading is something that many people do for a whole host of reasons: whether it’s ensuring that you have enough cash in your pocket for a foreign holiday or enabling your business to take on new contracts, there are many reasons why it occurs. But it can also be done as a speculative investment, and that’s where strategic Forex trading comes into play. By taking a tactical approach to your Forex investment, you can design a system that’s repeatable and re-usable over time. Incorporating your preferences, such as your attitude to risk, as the strategy will increase the chances that your investment will play out in the way you want it to.
Similarly, you’ll need to make important decisions about whether or not you’ll incorporate tools like automated trading, copy trading and more into your tactical plan, and it’s a good idea to also think about using backtesting tools that measure your current proposed strategies against historical data. No matter what sort of strategy you eventually come up with, it’s wise to always put your own goals front and center: by working out your preferred risk level, your ballpark deposit amount and more, you can then work outwards to find tactics that suit your circumstances. By carrying out a Forex broker comparison to find the best Forex broker available, you can ensure that the platform you eventually use has the functionalities and features required to execute your new trading strategies.