AN ALL IN ONE FOREX TRADING MANUAL FOR DUMMIES
The foreign exchange market, also simply called the Forex or FX market is a decentralized and global over-the-counter market for people to trade currencies. It is the same market that determines the exchange rate of any currency. It embodies all the aspects of selling, buying or exchanging all currencies at current or predetermined price levels. That said, it is the biggest market in the world if looked at in terms of trading volumes.
The main stakeholders in this market are the larger blue chip organizations like international banks but individual traders are also making a kill lately. The bloke sitting on a laptop at home enjoying a cup of coffee can still see the prices and trade on the same field with the giant international bank. There are different transactions always going on between buyers and sellers throughout the week, excluding weekends. The currencies are always traded in pairs and that adds the advantage of money-making opportunities available regardless of whether the currency pairs are on a decline or on the rise.
The major currency pairs are:
- GBPUSD – Sterling Pound/US Dollar
- EURUSD – Euro/US Dollar
- USDJPY – US Dollar/Japanese Yen
- USDCAD – US Dollar/Canadian Dollar
- USDCHF – US Dollar/Swiss Franc
Why should you trade forex?
Now that you have a good idea of what forex is, the biggest question remains how it works and how people can start making money from it right away. After studying the whole process very well, you will realize that you still have a great chance at making money from a forex trading career. Trading forex is pretty much a convenient way of making money from online sources. It does not need most of the overheads involved in normal businesses such as advertisement, marketing or website creation. No more taking orders and no more need to do chores that are physically demanding. Depending on the strategies adopted, a lot of the trading can also run on its own if you have the right tools.
Trading forex for a living is a unique career because of these characteristics:
- You are assured of high liquidity because it represents the biggest asset class on earth.
- The geographical dispersion allows you to do it anywhere.
- It is a 24-hour market (weekends aside) letting you combine it with other activities.
- A well-scattered variety of factors affect the exchange rates.
- Smaller margins are needed compared to the relative profit you can make on securities.
- Leverage can enhance profit or loss margins.
Can you get rich by just trading forex?
With the right skills and the right capital to boot, forex trading is a very rewarding career. It has its own pitfalls but these can all be sorted out if you put your mind into it. Even with a lot of capital, some traders still end up losing their investments because of small mistakes. Figuring out the common mistakes that rookie traders did and lost a lot of money is a good way to work around them. A steady trading technique can outperform any erratic trader with a lot of money. If managed well, your forex account can let you run your daily affairs while still affording you the luxury to invest in property, cars and holidays.
How much is the initial investment needed to start forex trading as a career?
Like most financial investments that are hinged on a certain percent return out of the total input, forex trading is to an extent more rewarding if you have a substantial amount of money invested. With all the conditions held constant, two traders who have the same win rate per trade but one has $500 invested while the other has $5000 invested will grow their account at different rates. An experienced day trader will find $2000 and above a good investment to start with. It is not too much and not too little at the same time. This $2000 if invested with a 1% risk per trade can yield a minimum of $50 without placing too much strain on your initial investment.
How do I connect and start forex trading? Join a Broker
There are two common types of retail forex trading brokers who offer the opportunity for you to start speculative currency trading. There are brokers and dealers (also referred to as market makers). They act as representatives of the customer to connect with the whole forex market. They seek the best prices for the forex currencies and offer you a chance to deal with them. They usually earn commissions on every trade you have placed; on top of what price that you have been offered in the market. The dealers on the other hand usually play the principal role and only quote a price they would be willing to buy or sell at.
In that case, to begin forex trading, you need to have an online account with a Broker in order to place any trade on the forex exchange. The broker remains you direct connection with the markets and provides extra cover by letting you trade with margins. Margins let you control a larger value trade with more than what you actually own. How then do you go about choosing the right broker? A lot comes into play when selecting a broker
Some crucial characteristics you must consider with a broker:
- Dependable – Begin by checking on the reliability of the forex broker before you register your details. Some untrustworthy brokers are not registered by reliable institutions and have bogus addresses, or list some institutions that are not recognized. In the region, they operate from. Settle for those that are registered with known institutions like the National Futures Association (NFA) if in USA and FCA Forex Brokers if in UK. Such brokers are well regulated to meet capital requirement laws and offer high levels of transparency.
- Attractive Client Support Services – Consider the client support services available and other trading tools that are provided. Good client support services include a 24/7 support line for trading or technical issues in case you ever run into some difficulties. Live Chat, Email and call back support also come in handy for quick resolution.
- Affordable costs – Settle for online brokers who do not charge high commission or have hidden charges that are not disclosed in their terms and conditions. The spreads charged can also make your trading costly as high spread brokers will often leave you with less profits per trade compared to those with low spreads. Depending on the currency pairs being traded, a spread of 1 – 3 pips is considered good.
How do people make profits on forex?
Forex trading is not a get rich quick scheme. People need to place the right trades at the right time for them to make money. For example, since people make money when they buy a currency pair and the price rises, it in that case needs you to know when to buy or when not to buy. There are analysis techniques that will guide you to make the correct trades. You will learn through this manual, how to read the trends and time the trades. Technical and fundamental analysis helps people to capture the profiting trends at their early stage and exit the market on time to protect the already accumulated profits.
TRADING 101 – KNOWING WHEN TO BUY OR SELL
When all the groundwork has been done and you have the account already running, you now need to know when and how to place trades and exit them. The general idea of profiting from most financial instruments is buying low and selling high. Evaluating the price of a currency relative to the actual trend is important in forex trading. There is a two pronged approach to know if you are actually looking at an attractive price to buy or sell at. That brings us to two important viewpoints called technical analysis and fundamental analysis. A combination of these two will help you successfully predict good entry and exit points but we will look at them in isolation.
Technical analysis in the plainest meaning involves looking at a chart and analyzing its movement over time and using some techniques to predict where the price will go next. In technical analysis, traders analyze the highs and lows of a currency pair and take note of some recurring trends. There are some hotspots where prices keep on reversing from once they are reached. Moving averages, historical levels and round numbers are common points of interest when doing technical analysis. The trend is also likely to keep following these levels once the market is confirmed to be trending bullish or bearish. It also helps people to avoid placing trades at levels where the price is likely to retreat.
Fundamental analysis is also an important part of trading but it brings the subjective side of the market. It involves what the world takes into account to price the currencies. There are economic events that affect how attractive the currencies are at any point and that includes political interference, employment figures, budget deficits and trade deficits among others. People consider economic figures and other political ongoing to peg their own intrinsic value of a currency. If most of the trading world feels that the currency has a higher intrinsic value relative to the price it is trading at, they will buy it with the opinion that it will rise in the near future. Fundamental analysis needs a lot of keeping up with the news to give an idea on what a currency will be like in the future.
Since the technical analysis focuses on price action in the past to predict how it will behave in the future, a lot of trend observation is done. Two important tools that are used to analyze trend movement are the moving averages and the Elliot Wave analysis.
The moving average (MA) is arguably the most used and most basic tool of technical analysis. Most other tools use the moving average in one way or another. They are used to identify and verify a trend and can give confirmation on changing trends. As prices rise and fall on a chart, the moving averages can smooth out the noise and give a clearer picture of what the trend actually looks like.
There are three types of MA’s: Simple, Weighted and Exponential moving averages.
Each of these MAs needs to be set according to any time periods but the 50, 100 and 200 are the most common you will find if you read most traders technical analysis. A lot of price volatility pushes or pulls towards these three. A combination of any of those will also give confirmations of trend changes when they cross each other. A lot of orders are made when two or more of these cross each other. For example, the 50MA and 100MA cross also referred to as the Golden Cross is considered to be a simple but safe way to enter or exit a trade. In the following example, since the 50MA has crossed the 100MA from below, it is a sign of increasing bullish trading. It is a signal to buy at the point they cross.
Chart: The golden cross, a cross between the 50MA and the 100MA
Always note that the larger MAs like the 50 and 200 spell out a longer term trend while the smaller MAs like 5 and 20 are used to show the shorter term trend. The longer MAs are also referred to as lagging MAs because they usually take more time to respond to a trend change. For more smoothing and a broader perspective of the trend, look to the longer MAs. Always stay on the lookout for the average that has provided the most support and resistance historically as this can be used to let you set reasonable profit targets or put your stops. Observing which of the lines had the most reversal opportunities in the recent past will also give you an age to your trading.
THE ELLIOT WAVE THEORY
Conceptualized by Ralph Nelson Elliot, the Elliot Wave analysis is based on the idea that most of the times, the market price action of a trend occurs in waves three main waves, but will correct twice or more through the whole trend before finally switching direction.
In an uptrend, Wave 1 will be the weakest because it probably started because people were closing out their short positions leading to a price recovery; Wave 2. When the bears fail their attempt to reach lower levels through Wave 2, bulls get a higher confidence and that sparks an even stronger rally than Wave 1. The new stronger rally makes up the Wave 3.
Wave 3 usually has the strongest of all the bullish waves to the upper territory. They come up as the market now gets more confidence in the bullish direction of the trend. In many cases, the trends start slowly but as the price hits the top of Wave 1, it is a more reliable confirmation that the trend is actually going to get stronger and that it is a confirmation that the trend will make an attempt at a previous high.
Corrections are bound to appear sooner or later and that makes the bulls that are in profit start to close out some of the trades to keep their profits safe while still holding some bullish positions open. Wave 4 downwards is likely to appear at that point. It does not mean that the whole price will flop with one move because, in any trend, there are people who join the bandwagon very late. Wave 5, the final push upwards usually consists of a mostly-retail crowd that caught the uptrend late. At this point, however, signs of price relaxation were already evident and the uptrend is already showing cracks.
After Wave 5, there are attractive points for people who like catching the reverse trends. It is a reliable impulse move as that is the point where most of the market is excited about a bullish trend only for sharp reversals downwards to occur. Wave A, B and C appears and characterizes lower highs and lower lows. That part of the wave analysis is a cue to go short or fully close any of the remaining bullish positions.
Fundamental analysis usually comes in place when there are economic social and political variables that keep pushing the markets. You need to consider the events and underlying issues that boost the supply and demand dynamics of the forex market. There are some factors which make a certain currency’s host country have a thriving economy and if those show signs of weakness, the currency is likely to drop in demand. When the dominant market in the economy of the particular country is thriving and offering good statistics there will be rallies on the currency. For example, good dairy auctions results in New Zealand usually make the NZDUSD rise marginally.
In that sense, fundamental analysis is also key even if you rely mostly on technical because often, you need to know what some news may mean to the trend. Some very adverse announcements can alter the trend immediately, no matter how well you had constructed your technical analysis routine. Most of the institutional traders and market drivers usually go through what is released by authorities and gauge the sentiment from financial magazines and journals to peg a certain psychological price to a currency pair.
Some Fundamental releases and statistics that drive the market
- Interest Rates
Interest rates are usually a reflection of what the health of the financial system in a country looks like. When the growth in the interest rates happens, there is an increased attractiveness of the value of bonds in that country and that stirs up financial activity. When there is uncertainty creeping into the economy in terms of the interest rates, there can be a direct effect on the underlying currency. In trading terms, some people avoid some currencies when there is grapevine of some changes to the interest rate expected. Some of the institutions or central banks that announce interest rates that shift the markets greatly are the
- Bank of England (BOE)
- United States Federal Reserve
- European Central Bank (ECB)
- Swiss National Bank (SNB)
- Bank of Japan (BOJ)
- Reserve Bank of Australia (RBA)
- Reserve Bank of New Zealand (RBNZ)
- Spending and Production (Labor)
Other key fundamental statistics that shift the major pairs
- Gross National Product (GNP) – The gross national product is just a total of all the goods plus services that a country’s citizens have produced.
- Consumer spending – When consumers spend more, it means they have more money at their disposal hence a thriving economy.
- GDP (Gross Domestic Product) – The GDP is the value of all the products and services that have been created in a country and it does not take account of the nationality of the owner or the labor. The foreign companies in a country and the domestic companies are both included in the math. It indicates if an economy is growing or shrinking. Poor GDP results are bad for a currency’s growth.
- Investment spending and government spending are also keenly watched as the more spending is done in one quarter, the more likely that spending will yield output in future financial periods.
MONEY MANAGEMENT IN FOREX TRADING
Now that you have a better understanding of how to place trades and how to identify the trading opportunities, you need to know how to make sure that the money you make stays safe. Risk management in forex helps people make more profits while keeping the losses at a minimum. Many people make a few good trades but one bad trade ended up taking everything back to worse levels than they first deposited.
Taking wild risks with the hope of making more money with the new trade leads to many losses. You can minimize losses by having a reasonable risk-reward ratio and having the discipline to stick to it. Without the discipline to maintain a reasonable risk-reward ratio, you are more likely to keep on piling more money to chase bad money, hoping to save a bad trade and that puts them at a worse stage.
Risk Reward ratio: The risk-reward ratio is simply the number of points or pips you want to get divided by the pips you are willing to lose if that trade goes bad. For example, if a trade has a profit target of 100 pips and your loss expectation is 50 pips then your RR is 2. A person with a risk reward of less than 1 would need to win more than one in every two trades for him to stay profitable.
Stop losses: Stop losses automatically exit some trades once they have moved to a level that is more than what you were willing to lose in those trades. The stop losses are in that case helping you to set a constant risk-reward ratio and ensure that each of your trades is guided by that ratio. They are a key part to remember right before you click the trade execution button.
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