What is Forex Trading and How Can You Profit from It?

What is forex tradingYou might have heard the term “Forex trading” online, or seen it on a poster on the tube, and wondered what it’s all about.

As the perceived value of a country’s economy shifts, so too does its currency relative to other currencies. If you understand the basics of Forex trading, and take certain precautions, it is possible to profit from these currency fluctuations.

You must be aware, however, that just as you can make money from Forex trading, you can lose it too.

What is Forex Trading?

Put simply, Forex is short for foreign exchange, and Forex trading is predicting, and thus being able to profit from, the change in exchange rates for a pair of currencies, such as pounds sterling and US dollars, or Swiss francs and euros.

If, for example, the exchange rate was £1 = $1.50 (hypothetically speaking) and you were to buy £100 worth of dollars, you’d receive $150. If you kept those dollars, however, and the pound strengthened, resulting in an exchange rate of £1 = $1.20, you could change your $150 back into pounds, and would get £125.

By predicting correctly that the value of the pound was likely to increase against the dollar, you would have made a profit of £25, or 25% of your original investment.

Choosing a Forex Broker

It is theoretically possible to Forex trade by buying and selling currencies over the bank or Post Office counter, but this would be inefficient and time consuming.

The timing of a Forex purchase or sale is what will determine whether or not it is profitable, and so you need to be able to respond to actual or anticipated currency fluctuations quickly. To do this, you’ll need a Forex broker, and they’ll take a small commission for their services.

If you are a beginner, a good Forex broker will help educate you about the currency market, increasing your likelihood of success.

Make sure that your broker is skilled, licensed, and experienced, and he or has a good reputation and success rate. It is worth spending time doing your research, and checking Forex trading broker reviews.

Using an appropriate Forex Platform

There are hundreds of different Forex platforms online, all of which have different selling points including CMC Markets.

Look for a platform which has a simple, easy to understand user interface; allows you to make small trades whilst you are learning what to do; and doesn’t charge excessive commission or handling fees.

The platform should also offer you the ability to trade in a broad basket of currencies, for example in Russian roubles and Chinese yuan, so that you can diversify your investments across multiple markets.

Creating an Effective Forex Trading Strategy

Forex trading is a type of investment, and as with any other investment, be it pensions, property, or stocks and shares, you need to make a clear plan about what you will invest, how, and over what time frame.

Such preparation will significantly increase your likelihood of success.

Your strategy should begin with a learning phase. Read as much as you can about what is Forex trading and how it works, and examine previous currency fluctuations.

Your research should focus on one pair of currencies at a time, and you’ll need to consider carefully what factors caused each of those currencies to rise and fall in value, relative to the other currency in its pair.

Once you are confident you understand the forces at play in the currency market, you can start to experiment, testing your ideas. You needn’t even use real money: you can set up a spreadsheet to record theoretical trades, and see how those investments would perform over time.

When you are ready to Forex trade for real, start with small amounts so that if you do make a rookie error, you won’t incur substantial financial losses.

Put down your own rules for how much you are prepared to invest on a single trade, and in what situations, and play by your own rules. This is particularly important once you become more successful and are trading in larger sums, as it is easy to get carried away with excitement.

Pitfalls of Forex Trading

Like any investment, Forex trading has its pitfalls, but you can anticipate these and thus protect yourself from them.

1. First and foremost, do not go against the markets.

Currency fluctuations are not driven by individuals but by mass purchases. There are ways of engineering profits from currency falls, but these require a sophisticated understanding of the market and its behaviour, and the ability to absorb significant losses.

2. Forex trading has certain similarities with gambling, and it is easy to get addicted to the thrill of winning.

If you are going to be a successful Forex trader, you have to be able to separate your emotions from your decision making, and think critically.

Focus on the market conditions, calculate what you are going to do, and act in accordance with your plan.

Do not allow your gut hunch to dictate your Forex trades, and when you do make a mistake — which is inevitable — learn from what went wrong.

Although the underlying principles and techniques of Forex trading are simple, consistently making a profit requires experience, forward planning, and a certain amount of luck as well which comes from experience.

Over to You

Are you prepared to invest your time in learning what is required, and do you have an appetite for risk? If so, Forex trading can be an effective way to broaden your investment portfolio.

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One Comment

  1. Thank you for sharing this very practical and insightful post

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