If Forex Is so Risky, Why Are People Still Trading?

“Forex is not risky, what’s risky is the way we trade – which can be MORE or LESS risky.”

Whenever we try seeking advice regarding trading Forex, the instant few reactions are more or less on the lines of “its way too risky, and you hardly know anything”; “don’t get into it, people have lost everything to Forex”; “bad choice”; etc.

If Forex was really such a bad option, how has it managed to generate so much curiosity for past so many years? Why are so many people still trading Forex? Before I answer that question, I would like to brief you about myself and how I have managed to find the answers.

I am a Forex trader, and happen to live amongst the community of people who earn their bread, butter, and baked beans off it. I decided to speak to all of them and find out what keeps them going. Some of them are also trainers like me, and they have a lot of people coming to them for advice everyday. I also wanted to find out what kind of people approach them and how do they counsel them before taking them into the training programs.

This I thought would give me a better insight into the mindsets of people who are interested in pursuing Forex trading. I also asked them what makes a trader click or stay; what makes them; can these trainers based on their experience know from before if the guys taking the course will succeed or only time tells.

So I spoke to Traders in my circle for whom I have great regard and respect. What I gathered I decided to put it in the form of an article. Here it goes:

People Advice is based on half baked Knowledge: Majority of successful and evolved traders and trainers said that people who know little or nothing about Forex; or those who base their view on hearsay say things like that. However it is also a fact that that Forex Trading option is not suited for everyone; as it requires a certain mindset and skills to succeed, if you do then this career is for you and you can make Forex trading work; and will do well irrespective of the market conditions, that people so often scare you with.

It’s Risky For Traders Who Trade Without Having a Risk ManagementStrategy in Place: Forex Trading is considered risky because it involves making decisions that are risky; but if you learn to assess the risk; if you can learn to manage your own risk levels; you will not do badly. For example, do you know trading futures is riskier than going for arbitrary position sizing for ECN/bucket shop spot FX? Then the round the clock liquidity this market offers; & tools like Stop Loss can minimize the risk factor to a great extent too.

Risk is in Everything We Do: As far as risk is concerned, it’s in everything we do. Have people stop playing poker for fear of losing? No, instead they take time to learn to play the game better.

When we set out for office every morning, there is a risk that we will meet with an accident on way; but instead of focusing on accident, we take measures to reach office safely, don’t we? Am I exaggerating? It’s the same with Forex trading. If you are not open to risk at all, you should not think of trading Forex, playing Poker, driving to office; or dropping your kid to school. If you think, life on the whole is a double edged sword.

Gather Knowledge From Right Sources: The key to becoming asuccessful trader is before you set out check your level of understanding and knowledge about trading Forex; understand what skills it takes; how and where to learn them – on the job; training with leaders; combination of both? Actually Forex trading is not so much about risk as it is inherently about learning risk management.

Where Are Beginners most likely to Stumble? 

Basically for people with finance backgrounds and those obsessed with figures, Forex trading may come naturally to them; whereas for people who are new to this trading business are likely to find all this information overwhelming.

While the trader is learning the ropes he is bound to come across several genuine downsides of the market vis-à-vis risk perspective; one of them being that the exchange-traded options facilitation for hedges is quite poor.

Another major downside being that most of Forex trading transactions take place interbank and not all retail trading platforms facilitate immediate access to latest data regarding volumes transacted etc; and to top it all is the routine bucketshop trend invariably messes up with the prices that are being quoted; the end result is that the data feed position becomes very poor and can affect the entire process of decision making. The more knowledge and depth you can gain, the better you will understand the market and will impact outcome of the trades you enter into.

Get your Fundamentals in Order:

Try to get these few basics right to succeed as a Forex Trader – understand that you will not get your trades right day after day; and secondly, that it’s a long term game. Ensure that you adhere to keeping the carrying cost positive; use leverage only for bringing cost average down; because overleveraging is like gambling and it indicates that you are not taking your trading seriously.

You should have a clear cut idea about the kind of volatility that your leverage can deal with; and also about Central Bank regarding what they can or cannot do to influence the currency you are trading; learn to keep some reserve fund aside for a bad day.

Finally, remember that you are not competing with the guys who are better than you; trading through better platforms; having more capital for initial investment etc. You are entering and exiting your trades; based on your own experience and understanding of the markets; you are trading on your currency’s strength.

Remember that as a trader you are never going to find yourself in a position when you are short of opportunities to enter the market; however while we do this, our focus should be on averaging down the entry prices and averaging up exit prices; and not forecasting the prices. That is the job of market and market takes its own course; our focus instead should be to equip ourselves with knowledge, tools, and analysis skills that can help us react in the right manner against what is actually happening in the market right now.

If we can keep this basic fundamental of trading in mind, our chances of succeeding in Forex Market will go up many times.

Is Currency Trading Worth the Risk?

The Foreign-Exchange Market Is Luring Record Numbers of Retail Investors—but the Potential Pitfalls Are Huge
Michael Bolduc has seen his account wiped out three times since he started trading currencies. Yet he still keeps returning to the high-risk, high-reward foreign-exchange market for more.

Many people call it gambling—and he agrees.

Mr. Bolduc, a 52-year-old bill collector in Denver who began currency trading in 2003 after trading stocks for years, cites the ease of opening an account and getting a free charting program up and running quickly. He is one of a rapidly growing number of retail forex traders around the world.

“There seems to be so much money that can be made,” he says.

TIPS FOR FOREX TRADERS
BRAND NU
Forex is the biggest financial market in the world, with some $4 trillion traded each day. While it is dominated by big banks, corporations and private investment funds, the retail segment is the fastest-growing, according to Bank for International Settlements. Daily retail volume in 2010 was $313 billion, up from $300 million in 2000, according to Boston-based research firm Aite Group LLC—which estimates volume will rise by at least 14% in 2011 alone.
Many forces are driving the boom, from stock-market volatility to a rise in online programs that have made forex easier than ever to trade. Giants like Citigroup Inc. have launched online currency-trading platforms geared toward smaller account sizes. Yet upstart online platforms like Oanda Corp. and Forex Capital Markets’ FXCM are capturing much of the retail sector with smaller balance requirements, tighter trading spreads and low fees. A customer can open an account at Oanda with just a $1 balance, for example, while Citi FX Pro requires a minimum balance of $10,000.

All this comes at a time of rising volatility in currency markets caused by looming debt problems in the U.S. and Europe and signs of slowing U.S. growth. That volatility has been especially magnified in currency trading. In recent months the dollar fell to a record low against Japan’s yen, dropping by more than 4% on the day it sank to that record low. Within 24 hours of hitting the low, the dollar was back up 7.5% against the yen from its record bottom.

Forex’s frenetic pace can be brutal to rookies and sophisticates alike. Managing proper trade sizes and rapid price movements—all while using “leverage,” or borrowed money, to amp up bets—can be devilishly difficult; one bad trade can blow up an entire account.

The bottom line: Proceed with caution.

“I think individuals should allocate zero dollars to currency trading,” says Joshua Brown, vice president of investments at Fusion Analytics Investment Partners LLC, an asset-management firm in New York. “To go to an online brokerage and think you’re doing anything more than gambling is foolish.”

Some advisers say there is a place for trading currencies—albeit as part of a broader investment strategy.

“If you are an investor looking for diversification, FX offers a real opportunity,” says David Rodriguez, currency strategist at dailyFX.com, the research arm of FXCM. For example, traders looking to reduce the interest-rate risk of their overseas bond investments can buy the currency of that same country, since a currency often strengthens when rates rise, he says.

For those who want to try their luck, here are some tips:

THE BIGGEST BROKERS

ENLARGE
The Basics
Currencies trade in pairs, with investors buying one currency and selling another at the same time. The U.S. dollar/yen and euro/U.S. dollar are two of the most popular trading pairs; other popular ones include the British pound, Swiss franc and the Canadian and Australian dollars.

In a U.S. dollar/yen trade, for example, the amount of yen you can buy for one dollar is currently ¥80.65. If you bet on the dollar, the higher the number rises, the more you would make, and vice versa.

Mostly, the vice-versa scenario plays out: Only about 30% of all retail forex trades are profitable, according to Aite Group, largely because of traders’ lack of education and experience in dealing with a market dominated by institutions. Commission costs, which run about $10 to $20 for a standard contract, also can add up quickly.

Traders often make bad trades far more damaging by using leverage, which can be as high as 50-to-1. Sure, profitable trades can be big: A fully leveraged $1,000 bet the euro would fall in relation to the U.S. dollar on July 1, for example, could have netted as much as $500 by Thursday afternoon. But even a small move the other way could wipe out your entire stake.

Forex used to be even riskier: Late last year, the National Futures Association, an independent self-regulator of futures trading in the U.S., cut the maximum ratio level for common currency pairs, such as the euro/U.S. dollar or U.S. dollar/yen, to 50-to-1 from 100-to-1. More-obscure pairs, which don’t trade in such high volumes and thus are prone to bigger swings, are now restricted to a 25-to-1 leverage ratio, such as the U.S. dollar/Czech koruna and U.S. dollar/Mexican peso.

The lower leverage ratios mean a retail customer who put $1,000 into an account before the ratio was changed, and earned $100 in a month of trading euro/U.S. dollar or U.S. dollar/yen pairs, would now need to start with $2,000 in the account to earn that same $100. The new rules also reduce potential losses by an equal amount.

Until the retail forex market’s explosive expansion, regulators generally assumed the sophisticated institutional investors who dominated the currency market could look after themselves without extra regulatory checks and balances.

Now, regulators like the NFA and Commodity Futures Trading Commission are trying to figure out how to protect ordinary folks from being crushed in a market whose genesis was as a hedging tool for big companies and investors, not as a betting vehicle for day traders.

Regulators often focus more on simple warnings than actually educating customers on how to set up trades and manage the pitfalls of trading, analysts say. As a result, many traders enter the market, quickly lose their initial investment—and never trade again. Professionals call them the “one and dones.”

How to Trade Safely
• Limit your forex trading. In general, experts recommend that small investors devote no more than a few percentage points of their overall portfolio to forex trading in order to limit any possible damage.

• Size your bet right. Among the risks that traders should be aware of before they make their first transaction: “overtrading.” That happens when customers trade a position that is too large compared with the size of their account. Brian Dolan, chief currency strategist at GAIN Capital Holdings Inc.’s Forex.com trading platform and co-author of the book “Currency Trading for Dummies,” recommends never putting more than 5% to 10% of an account balance into one trade. Overtrading often comes from a lack of a plan, Mr. Dolan says. Traders need to develop a strategy based on fundamental and technical analysis before initiating a trade.

Novice traders often get caught up in quick price movements and the potential for huge gains. That can lead them to lose focus on their strategy and ultimately end up with big losses. Yet the allure and adrenaline of a high-risk environment draw some back repeatedly. Others’ lack of tolerance for steep losses means they lose their initial investment and never return.

Timing—and luck—play a big role in many forex trades. Mr. Bolduc, the Denver day trader, says his worst-ever trade, which involved multiple currencies, including the dollar, euro and Swiss franc, lost $8,000 over a long period of time. Conversely, he says he once made $2,500 “in a very short period of time” trading the euro-dollar pair by error—he mistakenly left open a trade order during the release of an economic report, leading to a rapid payoff.

• Set limits. One way to limit the damage is to set up a “stop-loss” order, which automatically exits a position when a certain price is hit, limiting losses.

Following Mr. Dolan’s advice, for example, a trader with a $5,000 account wouldn’t want to risk losing more than $500 on any particular trade and should set up a stop-loss order accordingly.

A trader might determine that the euro is about to go up against the U.S. dollar, and that a nice entry point is $1.4500. If that investor buys euros and sells dollars, he might place a stop-loss order at $1.4460, limiting his losses. If the trade is a standard-size one—often measured as 100,000 units—a drop from $1.4500 to $1.4460 would be equivalent to a loss of $400.

Traders also can use “take-profit” levels, or orders set up to automatically cash out at a preset profit, Mr. Dolan says. Take-profit levels keep traders from losing profits when currencies abruptly change direction, which often happens when economic reports or announcements are released. In the earlier scenario of the euro and the dollar, the trader could set up a take-profit order at $1.4600, which would lock in a profit of $1,000.

• Beware of trading programs. Most small investors also should avoid automated-trading programs that promise huge returns in a short time period. These programs—also known as “expert advisers,” or EAs—execute trades in milliseconds and may raise even greater risks for unsophisticated investors. New EAs pop up online all the time and have names like IrisFx, Kangaroo EA and Forex Combo System. Their prevalence has grown rapidly in the past few years, analysts say. The Bank for International Settlements cited the rise of automated-trading systems as one of the key drivers of the market’s growth in recent years.

The systems, which are similar to the ones used by hedge funds, can automatically execute trades when specific parameters such as price levels are hit. Those trades often occur at much faster speeds than a human could input and click through a trade online. That faster execution can enable better pricing and the ability to take advantage of smaller moves in markets.

But for all but the most experienced traders, the systems can have hidden dangers. As market dynamics change or news alters trends, the programs often “collapse at some point,” says Walter Peters, an American living in Sydney. Mr. Peters started out as a retail trader and went on to develop his own automated programs, and now manages other people’s forex accounts.

The programs that advertise huge returns in short periods are likely to crash and burn the fastest, he says. Computer programs that show smaller but steadier gains over long periods are the best bets.

• Research. Retail brokerages often provide vast amounts of data and historical trading information that can help inform trades and be used to spot trends. Some platforms, like Forex.com, also provide news feeds that give customers information that could be affecting the foreign-exchange market.

Nearly any major economic report or major news event can affect a currency, so news websites also can be tapped as resources for determining which way currencies might move.

• Diversify. There are other ways to minimize those potential losing periods that can frustrate and eventually drive retail customers away. Traders should diversify trading across multiple currencies or simultaneously use strategies that work in different market conditions, analysts say.