In this issue of TraderSavvy:
Marilyn McDonald explores the reasons why people are getting into the Forex market
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Trader Savvy Newsletter


August 17, 2006

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Why are people getting into the Forex market?

Name: Marilyn McDonald

Company: Interbank FX

Learn More About Today's Author
Favorite Movie: Anything by Miyazaki

Why are people getting into the Forex market?

It has been said that Traders are risk managers.  They know that investing in any way, shape, or form is gambling, from the relatively benign 401k to the OEX Thunderdome.  They thrive on the ‘thrill of the hunt’ always looking for the next win.  They are highly intelligent, carefully weighing the odds and using all manner of analysis to tip the odds into their favor and reap the rewards.  This risk mentality dictates, however, they are constantly looking for that next avenue of revenue generation.  The 80’s were dominated by real estate investments, the 90’s saw the resurgence of stock and bond trading, and the 00’s are seeing the explosion that is the Forex market.

Unless you have been hiding in a cave somewhere I am sure you have heard of the Foreign Exchange market.  You can hardly swing a cat without hitting someone who; a) has an amazing seminar about Forex trading that you simply cannot miss, b) made a million in 30 days, or c) can tell you exactly how to trade the market so that you can make a million in 30 days (just send a check or money order now!).

The reality is that the Forex market is much like any other, in that you need to do your homework, read everything you can get a hold of, paper trade and then decide for yourself if it suits your investing personality to get involved in the currency market.  The first question you should ask yourself is “What is the big deal?  Why are people getting into the Forex market?” 

Diversification

You know the old adage about putting all your eggs into one basket, right?  The long and the short of it is don’t.  The Forex market offers investors another option in portfolio diversification.  Let’s say you live in Southern California.  You may have a nice little house, a 401k, a money market account and perhaps a small stock portfolio.  Most of your assets are based on the US economy.  If California does the slide into the ocean that most alarmists predict then the guy in Yuma, Arizona just got an amazing bump in his property value but you now get to spend some time hoping that this particular act of god is covered by your insurance policy.  Let’s add insult to injury and say that the US stock market hits a reversal.  Now your stock portfolio is starting to dwindle and your 401k might not be looking to healthy either.  It is a rough way to find out your investment portfolio isn’t as diversified as you had planned on. 

One of the benefits of trading currency is that you can very easily invest in other countries currency without doing the 12 hour drive north to Canada to open a bank account to store your ‘Loonies’ in.  With the click of one or two buttons you can place your confidence in the Euro, the Yen, and a number of other currencies around the world.  Now when the stock market starts to slide it is quite possible your position on the US dollar will see some gains.

24 hour trading

It is hard to day trade stocks without giving up your day job for most people.  Most people scramble home from a long day at work, eat dinner, play with the kids and peer at their charts for a few hours before shuffling off to bed.  If there does happen to be a good trade on the horizon you have to squeeze placing orders into the morning rush of snoozing the alarm, rushing to get ready and bolting down that first cup of coffee.  It is enough to make some traders throw up their hands and reach for the nearest money manager. 

The Forex market is open 24 hours a day, 5.5 days a week.  This means your two hours of chart watching in the evenings can be accompanied by actual trading.  In fact, no matter what your time zone, most Forex traders will swear the best trading is in the middle of the night (how this works I am not sure but I have had traders from the US to Australia attest to it).   

Volatility

One of the other big bonuses to Forex trading is the volatility.  There isn’t another market out there that exhibits the schizophrenic behavior that the currency market does.  So now your hour or two trading every evening can bring about some lucrative results.  (Yes, the risk and potential for loss can be staggering as well.  We will come back to that in another article.)

Liquidity

There are literally hundred of thousands of people online every second during market hours buying and selling currencies.  The market itself trades approximately $1.9 trillion (yes that is a trillion) every single day.  So the likelihood that you are going to get out of that EURUSD position exactly when you want is extremely high, not like trading the pink sheets or penny stocks.

Narrow spreads

The traders cost of doing business in the Forex market is call a spread.  It is essentially the difference between the bid and the ask prices…  so when you have a bid price on the EURUSD of 1.2733 and an ask of 1.2735 you are ‘paying’ a two pip spread.  There are no other commission fees or hidden fees and if there are do a Google search for Forex broker because you may have the wrong one. 

The spread essentially works like this…. You place a buy on the EURUSD at 1.2733 but you won’t see break even on the trade until the price moves to 1.2735.  If you are trading a mini account you will see a $-2 for your trade profit upon entry (we are assuming that the account is held in USD).  Once the price moves to 1.2735 then your profit comes out of the red and heads for green.  

Ease

Forex trading is easy (sometimes too easy but we will discuss that in a future article too).  The barriers to entry are low and most times you can open an account online in a matter of a day or two.  Send off your hard earned money to your broker and you are ready for the big time.  Most brokers will let you open a mini account for as little as $250 and because of the leverage inherent in currency trading you can be off and trading large amounts of money in no time. 

Increased Leverage

Leverage is essentially a loan from your broker.  It enables a trader with 200:1 leverage to have $50 in margin controlling a $10,000 position in the market, or a 0.5% of the position value.  The substantial leverage that is available to online Forex traders can be a powerful money making tool.  The need for such substantial leverage is due to the price stability and liquidity associated with the market.  These factors result in an average daily percentage movement of about 1% on major currencies, compared to the volatility of the equities market that can easily have movements of 10% a day. 

No one person or economy can control the market

There is no physical, central exchange for the Forex market.  In fact, the Forex market is so vast and has so many participants that no single entity, not even a central bank, can control the market price for an extended period of time. Even interventions by mighty central banks are becoming increasingly ineffectual and short lived.

In summary, there are a number of extremely valid reasons to trade in the Forex market, none of which have anything to do with some system I won’t be trying to sell you.  The Forex market is an exciting and energetic place to trade which can be quite lucrative if you are prepared to be disciplined or if you are extremely lucky.  In future articles I will be reviewing the risks associated with currency trading as well as exposing those things that people don’t like to talk about, you know the ones I mean… And if you stick around, I’ll tell you.

About Today's Author

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