Trading forex for beginners

Forex trading, or FX trading for short, remains a popular tool among investors. We look at some of the key principles and ideas to take into account.

GBP/EUR
Source: Bloomberg

What is forex?

Forex is short-hand for foreign exchange, and is the market in which currencies are traded. Currencies are traded in pairs, for example British pound/US dollar (GBP/USD), and the value represents the worth of the former in terms of the latter.

It is the largest market in the world, worth over $4 trillion, with trading going on 24 hours a day five days a week. It provides a means for companies, nations and individuals to exchange currency, as well as for traders to speculate on market direction.

What moves markets?

Like all markets, the FX market is moved by buyers and sellers, with the changing prices representing the shifting of opinion about the worth of one currency versus another. Speculative buyers think an FX pair is undervalued, for whatever reason, while speculative sellers think it is expensive. Companies may simply be using the FX market to facilitate operations, with no view on future direction, but their participation can help move markets nonetheless.

Which pairs to trade?

In part this will depend on your own personal preferences, but it should also take into account the timings for data releases that can potentially cause volatility. Many people stick to the top-traded pairs such as EUR/USD, GBP/USD, USD/JPY, since these are very liquid and can be less susceptible to sudden changes. Others prefer the more esoteric combinations of pairs. Before trading any pair, an investor needs a clear plan that covers entries, exits, risk management, timeframes and so on.

Fundamentals vs technicals

Some traders will use fundamental analysis, which tries to determine the worth of a pair through economic data and other such figures. Political news and economic data can cause prices to change dramatically.

Meanwhile, technical analysis relies on charts. Although price-based indicators receive a lot of attention, a simple approach utilising support and resistance, trendlines and just one or two indicators will prove more effective than adding in indicators for their own sake.

Risk management

This is a crucial skill for all traders, regardless of what asset or market they trade. In leveraged trading, preservation of capital is key, which is why the common rule of thumb is that each trade should risk no more than 2% of the account. This means that each loss does not overwhelm the trader, and allows them to stick to the correct psychological approach.

Common sense

Traders who are new to FX need to start slowly. Rushing in, putting on positions that are too large, not doing their homework, are all common mistakes, and can result in rapid and heavy losses. Starting with small amounts, risking only 1% of an account, and avoiding using too many indicators can help a trader through the learning curve.

Trading forex is a big subject, and while it is easy to understand the basic mechanics, becoming consistently profitable is a long journey.

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