Forex vs bitcoin: what are the differences?
There are a number of factors which separate forex trading from bitcoin. Before a trader opens a position on either market, they should make themselves aware of these differences.
Key differences between forex and bitcoin trading
Forex is the biggest market in the world and it encompasses a wide range of currency pairs including EUR/USD, EUR/GBP and USD/JPY. In contrast, bitcoin is a single cryptocurrency that represents just one coin in an increasingly saturated cryptocurrency market. Here, we’re going to look at five key differences between trading forex and bitcoin which traders should consider before opening a position:
Liquidity refers to how easily an asset can be converted into cash without altering the current market price. In the forex market, liquidity depends on which currency pair is being traded. Some of the most popular currencies to trade have incredibly high daily trading volumes. The US dollar for instance, experiences some $2.2 trillion worth of trades on a daily basis, while the euro has €800 million.1
In contrast, bitcoin is less liquid because it is not a universally accepted form of currency – the daily US dollar value of bitcoin transactions was around $320 million at the start of February 2019.2 This is because people cannot buy things as easily with bitcoin when compared to the money in their bank accounts or the bank notes in their pocket.
The below graphic highlights just how severe the disparity is between the daily trading volume in the forex and bitcoin markets.
In markets with low liquidity, such as bitcoin or some of the more exotic currency pairs, it may be difficult to find another market participant to take the other side of your trade. For bitcoin, this problem is exacerbated by the fact that transactions are spread across multiple exchanges.
However, when you trade with IG using derivatives such as CFDs and spread bets, you get improved liquidity because we source our prices from multiple venues on your behalf. This means that your trades are more likely to be executed quickly and at a lower cost.
Volatility refers to how susceptible an asset’s price is to change. For instance, if an asset experiences lots of highs and lows in a short time frame, it is considered to be highly volatile.
Generally speaking, bitcoin is more volatile than forex pairs, which tend to move in narrow bands rather than experiencing large shifts. However, because of the high daily volume of trades, forex pairs still move a lot within these narrow bands. Bitcoin, by comparison, tends to move more significantly, sometimes up to hundreds or thousands of dollars in a single trading session.
Volatility in bitcoin is attributable to the fact that a small number of individuals hold a large proportion of bitcoins. Therefore, if one trader who holds a lot of bitcoin were to sell their share, it could flatten the market. Such players are referred to as 'whales' in the cryptocurrency world due to the proportion of bitcoins they hold.
Unusual cryptocurrency slang
You can take advantage of small or large price movements using CFDs and spread bets, with the option to go long or short. With spread bets, you bet an amount of money per point of movement, and with CFDs you buy or sell a number of contracts, with your profit being determined by the difference in price from when you buy and sell the contracts.
Bitcoin is a relatively new market, especially when compared to forex, and so the technology used – such as blockchain – is still in its infancy. As a result, one of the main risks with bitcoin trading (aside from volatility) is that there is no telling how the market will develop in the coming years.
Equally, a bitcoin 'wallet' – where buyers store their coins – can be accessed if a hacker is able to find the private access key. As a result, bitcoin has its own set of risks that are consummate with the technological nature of all cryptocurrencies.
The primary risk in the forex market comes from the factors which affect the price of a currency pair such as the interest rate differential between the two currencies in that pair. Typically, the higher a country’s interest rates, the stronger their currency tends to be in the international market. This is because higher interest rates often result in more foreign investment in a county’s economy, which increases demand for that country’s currency and drives up the price.
Additionally, the forex market is similar to other over-the-counter (OTC) markets. While counterparty default may not be that big of a risk, it is still present in the forex market – especially if a brokerage firm defaults or collapses.
Bitcoin and forex do not have a single central authority tasked with regulating market transactions. While the forex market is an OTC market, the banks which carry out a vast majority of daily FX trades are heavily regulated. In the US for instance, the Federal Reserve (FED) looks out for any evidence of manipulation by banks and institutions; in the UK this role is fulfilled by the Financial Conduct Authority (FCA) alongside the Bank of England (BoE).
For bitcoin, transactions are verified by other participants on the blockchain network which bitcoin uses to process data. There is no central bank or inter-governmental body tasked with regulating bitcoin transactions. As a result, there is no way for a bitcoin buyer to get their stolen coins back if they were subject to a hack or exploit in the system. This is different to forex trading because, generally, a regulator would require a bank to have safeguards in place to guarantee funds in the event of a theft.
CFDs and spread bets are both regulated products, and IG as a company is authorised and regulated by the FCA in the UK. Our client's funds are held in segregated client bank accounts at regulated banks, meaning your money is protected should anything happen to IG.
Typically, the forex market is seen as more accessible than bitcoin because it can be traded directly through a broker and there is a higher number of market participants to take the other side of a trade. In contrast, bitcoin trading is less liquid and requires a wallet and exchange account. The latter can be expensive to maintain, while there are often limits on how much you can deposit.
However, by trading CFDs and spread bets, you can speculate on the price movements of forex pairs and cryptocurrencies without ever taking ownership of them. You can open a leveraged trading account with IG in minutes, and you can open your first position as soon as you’ve added some funds.
What you need to know before trading forex or bitcoins
Trading forex or bitcoin with CFDs and spread bets should only be done by traders who understand all of the inherent risks. With that being said, there are a number of steps that you can take to limit your exposure to risk while trading CFDs and spread bets with IG.
Have a risk management strategy
While forex and bitcoin may seem a little different to each other, the dangers that traders should be aware of are the same for both markets. Primarily, like all forms of trading, both forex and bitcoin trading involve risk. To mitigate this, traders should not enter any positions without having a viable risk management strategy in place first.
Understand the pros and cons of leveraged trading
With IG, you can trade over 16,000 markets with CFDs and spread bets – and both can be opened on leverage. Leverage enables you to spread your capital further by putting down a small deposit called margin, while receiving full market exposure.
However, while leverage can increase your exposure to a market, it can also amplify your losses. As a result, it is important that traders understand how to use leverage in a responsible way before opening a leveraged position.
Make a trading plan
Another way for traders to limit their exposure to risk is by having a trading plan in place. A trading plan can act as a blueprint to your trading and should take into account your available capital, time constraints and appetite for risk. A trading plan can help keep traders on task during their time on the markets.
Forex vs bitcoin summed up
- Forex is a more liquid market than bitcoin
- Both markets carry risks
- Traders can take a position on forex and bitcoin with financial derivatives like CFDs and spread bets
- Have a risk management strategy and trading plan in place before opening a position on forex or bitcoin
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