Foreign exchange trading, or forex trading, is quite different from normal stock or bond trading. First of all, the access level to this kind of trading is low. No bank advisors or asset managers are needed to trade currencies — a membership at a forex trading portal on the internet will do.
Secondly, it is easy to understand, as opposed to many other financial instruments. In forex trading, currencies are simply traded against each other. There are no underlying microeconomic factors to watch out for, as in the case of stocks, such as corporate performance, sectorial environments, quarterly balance sheets, or mergers and acquisitions, and no factors that determine the performance of bonds, such as asset allocation, management fees or low liquidity.
"Retail investors are increasingly aware of the importance foreign currencies play in global economics and the impact that currency values have on other forms of investment," says Kathleen Brooks, Research Director at UK-based trading platform Forex.com.
"The eurozone turmoil is playing a big part in retail investors' interest and fascination with forex," she adds.
Traders can focus on picking from a few currencies rather than from thousands of stocks. Many forex broker firms even do not charge commissions and just settle for the bid-ask spreads (the amount by which the ask price exceeds the bid).
Forex trading runs 24 hours a day, globally, with the exception of weekends. It has a huge trading volume representing the largest asset class in the world, meaning that there is no risk of illiquid markets. According to The Economist, the foreign exchange market is arguably the world's largest marketplace with an average daily turnover of up to $2 trillion (about Dh7.3 trillion), with other financial market sources estimating the volume to be double that size at peak trading periods. This enormous liquidity is unique, a reason why it has been referred as the closest ideal of perfect competition.
The only factor that determines gains or losses in forex trading are the rates of currencies traded in the main currency trading centres of London, New York, Tokyo, Hong Kong and Singapore, which act as anchors of trading between a wide range of different types of buyers and sellers.
How to get involved
Forex trading is an unregulated over-the-counter market, which means that anybody can get involved. For individuals the best option is to sign up with a forex trading portal on the internet. With these portals more and more people are turning to the forex market to trade and speculate at prices formerly only available to financial institutions.
In theory, the buying and selling of currencies is extremely simple. A trader can buy low, sell high, or, if he is unlucky, vice-versa. However, in practice, learning the basics is essential before putting any cash on the board.
Finding the right web broker is essential and takes some time to accomplish. There are a lot of trustworthy forex portals on the internet, but there are also shady ones. The best way to get accustomed to forex trading is to open a free demo account first. In most cases, this requires one to download and install a trading software application on the client's computer. Most internet brokers will offer at least a 30-day trial of their trading platform, giving new customers a chance to trade on the platform in real time using play money. It's a good opportunity to get comfortable with the broker's trading tools and learning the basics of forex trading.
Newcomers will soon find out that forex trading is simply about choosing the right currency to trade — at the right time, nothing more. And they will be stunned by the speed and volume of the trading.
After two weeks of demo trading the new user should be able to decide if he wants to take the gloves off and open a real money account. By that time a newcomer might have learned enough about interpreting currency charts and how the market is moving every minute, even every second, and also how to use riskier options such as leveraging.
The cash interface between internet forex brokers — many of whom are situated in offshore tax havens — and the traders is the trading account where money circulates. It is important to study the conditions of how to transfer money and, even more important, to retrieve money from a forex trading account. It is better to avoid forex portals that have a no-frills policy for opening an account and involve internet money transfer options such as Western Union and the like, as there is a chance that the trader will never see his money again. Instead, look for a portal where a legal procedure is required to open the trading account that is ideally linked to the trader's bank account or credit card to make transfers swift and easy. These legal steps include an account opening contract signed by both parties, as well as address verification and legitimacy check.
It is advisable to start real money trading with the most popular currencies rather than exotic ones. The most traded currencies, according to a review by the Switzerland-based Bank of International Settlements, are the US dollar, euro, yen, pound and Swiss franc. Based on the currencies a forex trader wants to buy and sell, there will be an account for each of the currencies.
The rest is simple: If a trader, for example, believes that the US dollar will increase against the euro, he buys US dollars with euros. If the exchange rate rises (mind the spread), the trader will sell the dollars back to euros with a profit. To increase the margin, trades can be done between more volatile currencies, but this also means exposing yourself to a higher risk.
There are some dangers involved. To achieve higher gains, traders are tempted to put higher stakes in the trade, which also enhances a loss risk. And there are no such things like stop-loss options or other risk-minimising features in forex trading. Everybody has to be aware that at the end forex trading is a bet just like other market trades. Don't invest money you cannot afford to lose.
Some popular forex trading platforms
Recommended for beginners. Registered with the US Commodity Futures Trading Commission.
Keeps customer accounts at top-tier banks.
Offers its own secure online foreign currency transfer service.
Offers an intuitive platform for inexperienced beginners and a demo account.
Money transfer to and back via bank account, credit card, Paypal or money remittance services.
Easy to use multiple trading platforms and demo account.
Money transfer via credit card, PayPal.
49 currencies available for trading.
Caters more to professionals.
EU-regulated broker for beginners and professionals alike. Demo account.
Money transfer by credit card, bank wire.
Automated trading option available.
Besides the normal range of conventional forex trading, InstaForex also offers Islamic or swap-free accounts for any currency pair, in which case the result of trading depends only on the currency rate change during a certain period of time and not on swaps.