Forex trading for beginners can be a little difficult to grasp. If you want to dive into that world and start your journey towards becoming the Forex version of the Wolf of Wall Street, brace yourself as this is probably one of the most interesting things youll be reading about today.
Its quite astonishing how few people know what Forex is even though its quite a big deal. When it comes to other financial markets, this one easily takes the lead as a whopping $5 trillion traded on a daily basis! Thats huge! Yet not a lot of people have even heard the term at all.
In thisforex trading for beginners guide, we will go through the basics of Forex, from the definition to the different elements and features, so grab a cup of coffee and get ready to pass from a total noob to a trading expert!
To keep it short and sweet, Forex simply means foreign exchange. This refers to when one currency is changed to another, which is called a Forex transaction. Many parties participate in these transactions, including travelers, businesses, banks, retail traders, etc.
A traveler from the US, goes on a holiday to France. He has to exchange some of his dollars to euro, to be able to cover the expenses in France.
Take an internationally operated business like Uber. Indians pay Rupees to the Uber driver. Italians pay Euros the Uber driver. Uber manages their business from United States and collects the profits in US dollars.
All the aforementioned examples are considered foreign exchange transactions. With that said, it should come as no surprise, seeing how big the Forex daily turnover is.
However, when it comes to the volume traded on a daily basis through Forex, nothing is set in stone; its mostly based on speculation. Keep that in mind when youre trading on the Forex market.
Well, lets kick this off with what makes Forex trading such a great choice:
Basically, you can trade 24 hours, 5 days a week. You can also make a profit in any market be it falling or rising which eliminates a lot of the risk generally involved in trading. Trading is also leveraged, which is something well cover in this guide as well.
Having said all that, what does all this mean? How does this affect you?
Well, if youre short on time and cant dedicate much of it to trading, Forex is the perfect market for you. Other markets are usually very time-consuming and require both big time and money investment, whereas Forex is tradable all day long for most of the week, so you can always fit some trading into your schedule even if its busier than the average Joes schedule.
We also mentioned that trading is leveraged, this means that you can increase your profits by controlling a huge amount of money per trade. BUT, youll risk losing a lot of money as well. Lifes all about risk-taking after all, and the bigger the risk, the higher the reward. With that said, you should experiment, practice, and learn the ins and outs of Forex trading before playing with real money. Luckily for all of us, there are plenty of ways to help with this process, namely the trading and money management plan.
Well, its not really located in a specific place, its everywhere and nowhere. It may seem confusing at first, but the principle is simple.
You see, unlike other markets like the U.S. stock market which is fittingly located in the, you guessed it, U.S. (Wall Street to be specific), the Forex market has no central location. Seeing how it spans multiple countries all around the globe, it would be counter-productive for it to have a central location. Remember, the Forex Market Is unlike the other markets.
Trading is conducted using Electronic Communication Networks (ECNs) in different markets across the world.
What is an ECN? you might be asking, well, simply put, its the computer system that facilitates the trading of financial products. The ECN creation was authorized by the Securities and Exchange Commission in 1998.
As you can see, that way, the Forex market has no location because it simply doesnt need one since its traded through this system.
Instead of a physical center, heres what you would call a global center. Right now, London is considered the global center since it accounts for close to 35% of all trading. On the other hand, New York accounts for half of that at 17%.
With all that said, you should now have a pretty clear idea about what Forex is; in turn; you should be able to answer this very question were someone to ask you.
So, youre interested in learning the trade (pun intended)? Well, thats great!
Before we dive into the meat of the subject, let us clear some misconceptions that some people might have about Forex trading, and by extension trading in general.
Forex Trading wont make you a Millionaire overnight
Dont be misled by the fake promises of the riches that await you. You wont be able to gain anything with that sort of mentality. You should always have realistic expectations before committing to anything in life; trading is no exception.
Youll need to invest time and effort to be able to make gains off of trading. You should be ready to see at least a year or two before you start making profits. People who say that trading is an easy way of making money either want to scam you or simply dont know any better.
Having said that, you should ask yourself now, are you sure you want to get into Forex trading? Are you willing to invest the time and effort required to be a successful trader? Are you ready to spend the next two years learning Forex to become a master?
If you said yes to all of the above questions, good! Now turn off any distractions and brace yourself for the journey that awaits you! Well be guiding in the start and laying the foundation for you to master Forex!
Getting started with Forex trading doesnt require any expensive tools. As a matter of fact, you probably already have most of the necessary equipment already.
Youll need a smartphone or a computer (preferably both) along with a stable internet connection and a comfortable chair because youll be spending a lot of time sitting on it.
Unlike what some people would tell you, you dont really need a super powerful computer to start your journey, in fact, any computer should suffice, as long as it has been made in the last 5 years.
Starting with Forex trading shouldnt cost a thing in the beginning, as long as you dont trade with real money, you wont be spending anything.
We strongly recommend you start with a demo account for your first year, that way you can get a feel for it and wont lose any money in the process. Youll be able to make as many mistakes as you like, and thats the best way to learn after all.
When you start feeling confident about trading, you can begin to take more risks and start trading with real money, in order to do that, youll need to make a live account.
Opening a live account is pretty cheap. Technically, the minimum amount you can start with is $1, and thatll be the cost of the account. However, youll need to put more than a dollar if you want to start seriously. We recommend you start with $500.
Remember, the key to success is patience. You need to start slowly and build your balance from there. Dont take significant risks from the start unless you insist on wasting your money.
You need to wait until youve started making consistent profits. That should happen around your first and second year of Forex trading. Youll know by then if you can continue on using Forex more seriously. If youre still not making consistent profits, dont worry, you need to revise your strategy and figure out your mistakes. The time it takes to learn and get comfortable with trading tends to vary from person to person.
When you get the hang of Forex trading, you can start taking it more seriously. When the time comes, and youll know when it has come, you can open a serious account.
Now, depending on your financial situation, the amount of the money you put into it will vary. A good rule of thumb would be to only invest in it as much as you can afford to lose. That way itll save you a lot of trouble. There are those who are gifted and can start with only a $1000 and still make it big afterward. However, dont try to jump the gun and be a hero. That is a sure-fire way to lose your money. We recommend you start with $5000; then again, it all depends on how much you can afford to lose, so you should take that into account.
What you should take from all of this is that the starting cost of Forex is extremely low. The barrier of entry is set in a way that enables everyone to give it a shot and figure out whether or not Forex trading is for them with a minimal amount of risk.
Currency Trading is just another phrase used for Forex Trading.
Now that you know what Forex is and how you can start trading in it, its time to delve into the inner workings of the whole thing; by that, we mean what youll actually be trading with, which are currency pairs.
Well be starting with the three most commonly traded currencies, which are the US Dollar, the British Pound, and the Euro. Now, when it comes to notations, banks and brokers use an ISO code to refer to each currency for the sake of simplicity. What in tarnation is an ISO code? you might be wondering. Well, an ISO code is simply an abbreviation of the currencies name. An example of that would be referring to the US Dollar as USD, or the British pound as GBP, or the Euro as EUR.
ISO codes were made to be easy to remember and easily distinguishable from each other. However, there are always exceptions to the rule. For example, the Swiss Franc is ambiguously assigned the ISO code that is CHF.
In Forex trading, currencies are quoted in pairs. This is basically due to the fact that the only way to put a value on a currency is by comparing it to another.
Now, if you compare a US Dollar to another US Dollar, youll find that the ratio is equal to 1. That means that 1 US Dollar is worth 1 US Dollar. If you were to ask how much a US Dollar is work in British pounds, youd find that the answer is 0.77 (As of the time of writing). This is why we group currencies in pairs.
Well, what does a currency pair in Forex look like? Its basically something along the lines of:
When reading a currency pair, the first currency is known as the base currency and the second is called the quote currency. To give an example, in the pair EUR/USD, EUR is the base currency, and USD is the quote currency. The given rate basically refers to the value of one unit of the base currency in comparison to the quote currency. Lets take a look at an example to further explain the idea.
Here, EUR is the base currency while USD is the quote currency. €1 is $1.1453.
Heres what you should know so far when you see the currency pair EUR/USD:
What this pair refers to is the exchange rate of 1 EUR to USD at one specific moment. These exchange rates keep changing due to various reasons. (Technically supply and demand)
This is a line chart of EURUSD exchange rate from Nov 2017 to July 2018.
When this rate goes up (an uptrend) its called a bullish market. The opposite (a downtrend) is called a bearish market.
Simply put, when youre trading a currency pair you are doing one of two things:
What this implies is that when you think that the value of the EUR is going to go up in relation to the value of the USD, then you would buy the currency pair. You would also buy the pair even if you think the USD is going to decrease in value in relation to the GBP.
On the flip side, if you estimate that the EUR is going to lose some of its value in relation to the USD, then youre better off selling the currency pair. Youd also sell the pair if you thought that the USD is going to go up compared to the EUR.
Although it seems like betting, there is a lot going on in the background making you actually participating in the forex market. This is how it is done.
When you open a long position it means that youre buying the base currency and selling the quote currency.
When you open a short position it means that youre selling the base currency and buying the quote currency.
With that said, in the end, you are making money bypredicting the direction of these currency exchange rates.
Im not a financial expert, how will I able to do that?
We will get to that in the later part of this beginners guide to forex trading.
A pip is the measurement unit used to describe the changes that occur to the rate of a given pair.
Its one of the methods through which a trader can evaluate how much loss they faced or profit they gained on a specific trade. To give an example, if you enter a long position on EUR/USD, which means youre buying that currency pair, and the value shifts from 1.1630 to 1.1690, that means that youve made a profit of 60 pip.
If in that same situation, you chose a to enter a short position, meaning that you chose to sell that currency pair, youd have lost 60 pips instead. If the rate went down from 1.1630 to 1.1570, youd have made a 60-pip profit. Here are some examples to put things into perspective:
If in that same situation, you chose a to enter a short position, meaning that you chose to sell that currency pair, youd have lost 60 pips instead. If the rate went down from 1.1630 to 1.1570, youd have made a 60-pip profit. Here are some examples to put things into perspective:Example 1 NZD/USD
Youve probably noticed that in these examples, the pip is either in the second or fourth decimal place. Lets take the fourth example, where the pip on the GBP/JPY trade is the second decimal. However, in the last example, EUR/USD, the pip is the fourth decimal. To generalize, the standard in the Forex trading calculations is that the pip is either on the second, especially when JPY is the quote currency, or the fourth decimal, which is the case for GBP/USD.
So, now that weve explained the pip concept, youre probably wondering what all of this means. What does it mean to gain pips? How much is a pip even worth? Well, weve got you covered.
The answer to this question is not a simple one. The value of a pip may fluctuate and change according to the pair youre trading. Youve probably already seen this coming since we talked about how pips are either in the second decimal or the fourth decimal. With that said, dont worry, as calculating the pips value wont hinder you or limit your profits whatsoever. Theres only a minimal amount that you should keep in mind, and well be showing you all you need to know.
Using the EUR/USD example, a pip on an EUR/USD trade starts at the fourth decimal. With that in mind, if you enter a long position at 1.1500 just before the rate of EUR/USD goes up to 1.1560, then youd have made a profit of 60 pips, or 0.0060 to put it differently.
Now, when it comes to measuring the current pips value, the process is fairly simple. Its as follows:
If this is too much math for you, dont worry, youll barely ever need this. We are just telling you about it in case you are curious, but there are plenty of sources that provide the pip values of any pair you want without the headache of actually trying to figure it out by yourself. The internet is magical.1 pip / exchange rate = one pips value in base currency.
Lets take a couple of examples to explain it further.
Now, lets spice things up and use another base currency other than USD. If we take the currency pair EUR/USD and use the same expression provided above, what youre going to get is the value of a pip in EUR. To get the value of a pip in USD, the formula is as follows:pip value * exchange rate = value of one pip in USD
0. x 1.1579 = 0. USD, which, after rounding up, gets to0.0001 USD
0. x 1.3021 = 0. USD, which, after rounding up, gets to0.0001 USD
Youve probably noticed a recurring pattern here. As you mightve probably noticed, in both these cases, the pip value in these two pairs, and by extension all pairs that have USD as the quote currency, is roughly equal to $0.0001.
Lets take one last example where the pair contains USD neither as the base currency nor the quote currency.
Generally speaking, the resulting pip value should correspond to that of the base currency. If you multiply the pip value by the exchange rate, youll get the value of the pip in the quote currency; in this case, it corresponds to that of CHF.
In order to get the pip value in USD, the formula is as simple as the ones before it. You basically multiply the GBP/USD rate by the value of the pip that you want to convert. In this case, this is what you get:
A pipette is equal to one-tenth of a pip. Some people might also refer to it as a micro pip, but thats not near as cute as pipette is. Now, depending on the decimal position of the pip, whether its in the second or fourth position, a pipette would be in the third or fifth decimal position respectively.
In case your broker displays pips and pipettes, dont give it too much thought. You can just ignore the pipette when youre calculating the amount of pip profit/loss.
Now that you know what a pip and a pipette, you should be able to explain these two concepts to anyone who might come to ask you about it!
In the previous section, we explained what a pip is and showed how to calculate its value. We ended up with pip values that were negligible at best. In some cases, we even got $0. in the USD/CHF currency pair.
With that said the standard size of a lot of 100,000 units. What does that mean? You might ask. Well, to put things into perspective, the meager value of the pip we found earlier was actually the value of a pip per unit. Having said that, you can now see how this all ties up. Lets say you enter a long position and you buy 100,000 units (or a lot) of the USD/CHF currency pair. All you need to do is multiply the value of a pip per unit by the number of units you have; in this case, you have 0.00009250 X 100,000 = $9.25 USD. So a pip in this example is worth $9.25 which is quite the sum.
There are many types of lots depending on how much risk you are willing to take, here are the four categories:
Standard lot = 100,000 units of base currency, or 1 lot.
Mini lot = 10,000 units of base currency, or 0.1 lot.
Micro lot = 1,000 units of base currency, or 0.01 lot.
Nano lot = 100 units of base currency or 0.001 lot.
As you can tell, the micro and Nano lots are for those who want to trade and not risk too much money. We strongly advise against trading with standard lots in your first trades as it can suck you dry really fast. You wouldnt want to lose 100 pips in a trade, especially if a pip is worth $9.25. Thatd be a nightmare! Thats like $925 down the drain. However, with mini lots, where there are 10,000 open units, a pip would be worth $0.9250 which is still a good value without running such a huge risk.
Now that you know about lots, we can start calculating the value of a pip per lot instead of the last section where all our calculations were for the value of a pip per unit. Up until now, we know that a pip on a GBP/USD trade is worth $0.. With a mini lot (0.1), the value of pip per lot is $0.9999. All thats left now is calculating the profit you would make per pip, and thats a simple process. It involves two easy steps:
Multiply the per unit value by the lot size you are using.
If the value that you got is not in USD, youll have to change the formula a tad bit to get the value of the pip in USD.
Multiply the per unit value by the lot size you are using.
Multiply the value per pip by the rate of the pair.
After we round this value up we get $1 per pip.
Even though these are bigger and better numbers than the previous calculations, were still a long way off from actually making a decent profit. This is where the magic happens, and by magic we mean leverage. Dont worry; its not actually magic, well dive into more detail about it now.
To put it as simply possible, leverage is what allows you to trade more units than you have. In other words, it enables you to control more money than your investments value.
This might seem a bit confusing as it can make the notion of lots seem obsolete, but just follow along, and everything will make sense. Lets say you have a mini account with a balance of $1,000 (1,000 units). Then you decide to trade $100, and your broker is providing 100:1 leverage. This means that you can hold a position up to 100 times more than what youre trading with, in this case, it would be $10,000 because your broker would be putting $99 for every $1 you put to make it 100$.
Heres an example to make things even clearer:
Say you have $50k find two houses for sale, House A for $100k and house B for $20k, and it is predicted that their value will go up 10% within a month.
The obvious move here is to buy House B and sell it later for $22k, thus totaling a net profit of $2k. But what if you can ask a friend for a $50k loan to buy house A then sell it at $110k, return the $50k, and get $10k in profit? Wouldnt that be convenient? Well, in Forex, the friend is your broker, and the extra $50k is a 1:2 leverage. Keep in mind that the leverage can go up to 1:400 or even more.
Its not all sweet and candy though, as leverage is a double edge sword. Keeping the same example, if you decide to buy house B, and the price goes down 10%, you end up with $2k in losses.
On the other hand, if you decide to borrow the money and buy house A, for which the value goes down by 10% as well, not only will you end up with a $10k loss, but youll have to return the $50k as well. Frustrating, right?
Its important to note that leverage doesnt have any effect on the value of a lot. A mini lot will always be 10,000 units; this applies to all other lots as well. It doesnt matter if you a 900:1 leverage or 100:1 leverage, a mini-lot is worth about $1 a pip in both cases.
Leverage simply affects the number of lots you can have in the market depending on your balance.
You can think of it as having the right leverage when lifting heavy weights; if you find the sweet spot, you can lift heavy objects more easily, hence the nameleverage.
When we used heavy lifting as an analogy, we had a good reason for that. You see, more leverage doesnt necessarily mean better profits, it also means bigger risks. Its like the saying the bigger they are, the harder they fall. Dont be fooled into thinking theres some kind of proportionality between leverage or success in a trade.
To give an example, lets take two traders, one of them well name Trader 1 and the other will be Trader 2. For the sake of example, both traders have the same capital; lets say they both have $10,000. However, Trader 1 has 400:1 leverage and Trader 2 has 100:1. What this means is that Trader 1 can risk much more than Trader 2 but also gain more were he to make a successful trade. Trader 1 would also have less in their account to cover their position.
Now, lets say both traders enter a long position each at their respective leverage, and both of them buy one mini lot. Trader 1 would be required to have at least 0.25% of that position to cover it since they have 400:1 leverage (1/400=0.25%=$25 in this case). On the flip side, Trader 2 would have to have $100 in their account.
Leverage can seem very tempting, thats also why its very dangerous. If you have a $1,000 account with 400:1 leverage, that means you can trade four mini lots with just $100, however, if you take a 100-pip loss on that trade, you risk losing $400 of your account which is 40% of your account. Let that sink in each time youre thinking of having high leverage.
With that said, youre the one who ultimately decides the degree of leverage, of course, the maximum is set by your broker, but whether or not you choose to go by that maximum is up to you.
While leverage can cost you a lot of losses if you choose to be reckless, the margin, on the other hand, will always be there as a plan B to cover up your losses. Its basically an assurance tool. Its the amount your broker will use to cover your position. This means that without a margin, you cant use leverage, if you decide to go with that option in the first place, of course.
Now, the margin level depends on a number of factors, for example, it can vary from broker to broker. The currency pair you trade in can also affect the level of margin as well as the degree of leverage. However, the main factor here is the currency pair. The more a currency pair fluctuates in value, the higher the margin required to trade them.
We talked about margin when we were explaining leverage, but we didnt use the term margin. Basically, the margin is the amount that youll need to have in your account to cover your position, the higher the leverages, the lower the margin. Its important to no that margin is usually quoted in percentages terms.
Margin calls come into play when youve exhausted all the money in your account. Theyre meant to protect you from further losses. In order to do that, your broker will close out any open positions. What this means in a more general sense is that you can never lose more money than what you have in your account.
Before we dive deeper into margin calls, there are two terms you need to understand, which are used margin and usable margin. The used margin is the how much money being used in open trades. The usable margin is you balance minus the used margin.
When you no longer have any usable margin, your broker will margin call you. This shouldnt be a common occurrence, but it can happen once in a while if youre being reckless with your money.
To further explain this lets give an example:
Lets say you have a $1,000 account at 100:1 leverage. Then, you decide to short and enter seven mini lots. You used margin would be $700, and your usable margin which was $1,000 would become $300.
Lets say that for whatever reason, you were wrong with your trade along with the ones to come and you reach a point where your usable margin is no more. Your trade is automatically close to prevent more losses.
If you trade intelligently, margin calls shouldnt be a problem for you at all.
We covered what is a currency quote. But you will see two values for each currency pair when you start trading. (See image below)
(Each pair has 5/3 decimal, remember pipette?)
Each time you buy and sell a currency pair in Forex, you need to pay the difference between both the buying, and the selling price. This is whats called paying the spread.
In the EUR/USD example, the two rates are separated by 1.4 pip. If you enter a long trade, you buy the currency at the higher price which is 1.39334 in this case. When you want to close your position, it will close at the lower price. The spread wont always be 1,4 pip. It might change depending on how much the value of currency pair fluctuates along with how much youre trading.
In the previous example, the spread cost is relatively low; this can be said about all of the major currency pairs since the ones that are traded the most. Other, less traded pairs tend to have higher spread costs.
Each time you close a position, you are charged the spread. This is how your broker profits from your trades. Whether you win or lose a trade, the broker will always gain the spread.
This naturally means that brokers love those who take a lot of trades since their profits would be bigger.
Another thing to keep in mind is that the amount of lots has an effect on the spread. If you trade a mini lot and enter a trade on USD/JPY, each pip youll earn roughly equates to $1. Lets say the spread is 8 pips; this means that this trade will cost you $8. If you were to trade 5 mini lots, such a trade would cost you $40 (5*$8)
One of the significant benefits of being a Forex trader is that the Forex market runs 24 hours a day five days a week. This is because the Forex market is active all around the world. So when one trading session closes, another will open.
Sounds great, but remember just because it is open all hours, doesnt mean it is active for the full 24 hours. There are times throughout the day when prices are more volatile, and there will also be times during the day it is entirely mute.
To understand optimal trading hours we first need to understand the basic concept of trading sessions;
Trading times run alongside local business hours. You will find the open and closing times for trading hours will vary through countries which use daylight savings time (DST).
What happens is as one market closes the next will open, and they will overlap. This overlapping is the busiest time to trade as people are taking advantage of larger volume in the FX market.
Charts, thats where we do our analysis to predict the market. There are several types of charts. Line, Bar, Candlestick, Renko, Heiken Ashi are some of them. The candlestick charts are the most commonly used charts. That is what we are going to use as well.
As the name implies, this type of chart is made up of a series of candles. These candles hold useful information. For example, they show the opening and closing price as well as the high and low for the lifetime of the bar.
Where is this 1hour or lifetime of candles comes from?
Forex time frames are found on your charts. They go from 1 minute to month-long charts.
The time frame of a chart describes the length of each candle.