Forex trading is the art of predicting whether exchange rates are going to go up or down, using an online platform which you access via your mobile device or laptop computer.
There are always two outcomes in forex trading which are you can predict correctly or wrongly. Each outcome has financial implications for you the trader.
If you predict the exchange rate direction correctly, you make a profit based on the amount you staked at the beginning.
On the flip side if you predict wrongly, you lose the money which you staked at the start of the trade.
The process of predicting where the exchange rates will go is easier said than done. If you predict without any research done, then you are simply gambling.
However, if you arrive at your prediction based on research into past price movement (technical analysis), or research into the strength of the economies behind the exchange rate (fundamental analysis); then forex trading is not gambling.
In the coming chapters, we will teach you how to research the market using various tools, as well as the steps to take in learning forex trading.
How Does Forex Trading Work?
Forex trading works by you depositing some money with your broker in order to be allowed to speculate on the exchange rate movement.
The money you deposit reflects in your trading account & the funds increase when price is moving as you predicted, & decrease when price is moving against your prediction.
When you run out of funds, you are stopped out of the trade.
In online forex trading, you can profit from both rising & falling prices. All you have to do is take a long trade if you predict prices will rise & a short trade if you think prices will fall.
What is a Long Trade in Forex?
A long trade is a strategy traders use to profit from rising prices.
In a long trade, you buy low & sell high. To commence a long trade you click on the buy button, then wait for price to rise to your desired profit target then you close the trade & exit with your profit.
To initiate a long trade, you click on the buy button, then wait for the price to rise then you click on the close button to sell & exit with your profits.
- “Long Trade = Enter by Buying & Exit by Selling”
Example of a long trade in forex
You are of the view that the current EUR/USD exchange rate of 1.0841 is going to increase, so you click the “Buy” button to purchase 1.00 lot (meaning 100,000 EUR/USD units).
You are initiating a long trade by entering the market at the buy price of 1.0841 per unit of EUR/USD.
If your prediction is correct and EUR/USD appreciates to 1.0842, you are at liberty to sell & exit the market by clicking on the close button.
When you click the close button, the system automatically sells off your 1 lot (meaning 100,000 units) of EUR/USD at the current price of 1.0842 & closes your trade.
Your profit per unit, is the difference between your exit & entry price (1.0841 – 1.0842) = 0.0001
Since you traded 100,000 units of EUR/USD, your net profit is (0.0001 x 100,000 units) = $10
What is the risk of a long trade?
Your risk in a long trade is limited to the exchange rate falling to zero. Technically this is not possible because there’s nothing like zero exchange rate. A long trade therefore has limited down side risk.
What is a Short Trade in Forex?
A short trade is a strategy to profit from falling prices. You enter the market by clicking on the sell button, then wait for the price to fall to your desired level, then you close the trade & exit with your profits.
Example of a short trade in forex
You think EUR/USD will fall so to profit from the fall, you click on the sell button to open a short trade for 1.00 lot or 100,000 units of EUR/USD.
You are initiating a short trade by selling 100,000 units of EUR/USD at 1.0835 per unit of EUR/USD.
If the EUR/USD price does fall, you then exit with your profit by clicking the close button which triggers a buy order for 1 lot of EUR/USD (meaning 100,000 units)
Your profit per unit is the difference between your exit & entry price (1.0835 – 1.0834) = 0.0001
Since you traded 100,000 units of EUR/USD, your net profit is (0.0001 x 100,000 units) = $10
The ability to profit off falling markets is what differentiates online forex trading from physical trading through your local currency exchanger or bureau de change.
What is the risk of a short trade?
In a short trade it’s like you’re selling something you don’t own & hoping to buy it for cheaper when the price falls so you can return it to the owner.
However, you face unlimited risk that prices will refuse to fall & keep rising to the moon. There is no limit to how far prices can rise, especially when you are trading currency pairs of unstable economies/countries.
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