Forex

How Do Forex Brokers Make Money?

2009-01-21T14:00:00.001-08:00

Many beginning Forex traders wonder how the Forex brokers earn their money on the common traders, if they are not casinos. Understanding the basic principles of the brokers’ economics will help traders to distinguish real Forex brokers from the «bucket shop» scams and the ethical companies from the unethical. Here is the list of the most common ways for the Forex broker to earn money:

Currency pair spreads. The largest source of income for the Forex brokers, spread is the difference between the Bid and Ask rates. Broker can execute your orders without a spread or with a minimal spread, earning the money that you lose for the spread.
Leveraged spreads. Spreads alone would be too small to be a significant earning source for the brokers. So, brokers offer high leverage. Of course it’s a great tool for multiplying your profit (and also losses), but the spreads are also leveraged. With 1:100 leverage, broker earns 100 times more on spreads than it would without the leverage.
Overnight swap spreads. Brokers pay the overnight swaps to the trader if the difference between the currency’s interest rates is positive in the trader’s position and get paid from the trader’s account if that difference is negative. But those payments are not symmetrical and they are changed so that the Forex broker would always get the advantage. When someone is selling 1 lot of EUR/USD and another trader is buying the same amount of that currency pair, the latter is earning money on overnight swaps, but the first one is losing the amount that is enough to compensate the second one’s earnings and to «feed» the broker.
Payment processing commission. On-line Forex brokers don’t charge commission per trade (except Islamic accounts) and often advertise that as a feature. But some brokers charge payment processing fees — they are deducted only when you deposit or withdraw money and usually are quite small and fixed in currency units, not percentage points. Of course, such commissions are too small to be a part of the broker’s profit, but they are enough to compensate at least a part of the broker’s expenses.
Trading against the trader. The most despised and unethical way the Forex broker can make money is to trade against its customers. And that’s the most profitable way too. Avoid the brokers that earn when you lose. If the spreads are too low, the leverage is insignificant, the overnight swaps are fair and there are no commissions (for payment processing and trading) then the broker is certainly trading against you to make money.

Forex: Keeping It Simple

2009-01-21T13:59:00.001-08:00

Keeping everything simple is a nice strategy in almost all types of activities. Sometimes, simplicity is the only way to become profitable in the Forex trading. Of course, not everyone likes to keep everything simple and not everyone should do that. But simplifying some basic aspects of the Forex trading will help you to avoid unnecessary problems and complications:

Simple trading strategy can be as profitable as some really complex systems. By keeping your strategy simple you make it easier to follow and execute it. Adding complexity in the future can be your next level, but trading with a simple strategy is a very good way to start trading on Forex for real.
Try to follow a simple money management system — trading with a fixed percentage of your account equity is easy and effective. Martingale system isn’t simple and leads to losses. So, with money management simple is almost always good.
Fundamental analysis is a nice tool, but it’s better to avoid reacting on all fundamental news you hear. Keep it simple — select only really important releases or indicators and monitor them when you trade.
One of the best ways to simplify your Forex trading is to hold the open positions for a fixed amount of time. This way, your positions are limited not only with the stop-loss and take-profit levels, but also with the time limit. I prefer limiting them to 30, 60, 360 minutes and 1 week periods, depending on the particular strategy.
Try not to trade on currency pairs with the base currency different from the one, in which your account is founded. For example, if you trade USD/JPY, while your account is founded in USD, your profit or loss can’t be adequately measured, because it inversely depends on the USD/JPY rate.
Look for a Forex broker with the fixed spreads, because trading with the variable spreads can’t be easy. You can’t rely on your strategy, especially if it’s a short-term strategy, if you don’t know the spreads values for sure.

Some traders adore simple approaches to the market, while others hate everything that’s easily understood by high-school graduate and prefer complexity. If you think that you are the one from the first group, then this list will probably help you. If you know some other ways to simplify Forex trading, please, leave a comment to this post.

Double Impact of the Interest Rates on Forex

2009-01-21T13:58:00.000-08:00

Monday, November 10, 2008

The interest rates, set by the world’s central banks, are widely used in the Forex trading. Their changes are monitored by the traders and investors because the interest rates determine the fundamental value of the currencies. It’s important for every Forex trader to understand the impact of the interest rates on the currencies he trades on. It’s easy to find the to know their latest values, but how to interpret them?

In general, the higher the interest rate associated with the currency is, the better it’s for that currency. Higher interest rates attract investors, because they offer a higher yield. Forex traders prefer buying high-interest currencies versus the low-interest ones to gain the difference yield (such trading technique is called carry trade).

On the other hand, the lower interest rates are usually more popular among the traders when the global volatility rises and the world’s financial system experiences problems. The current financial crisis shows that the currencies with the lower yield are the favorites, because they are less risky than he high-yielding ones.

So what to do and how to react on the interest rates? The volatility index is a good tool to measure the global interest rates preference. If it’s below the «normal» level of 30%, the high interest rates act as the attractors and the currencies that have high yield grow. If the index jumps up above that level, the traders prefer to move into the less risky assets and the low interest rate currencies gain.

Disadvantages of the Automated Forex Trading

2009-01-21T13:57:00.002-08:00

In my I’ve described the best advantages of the automated Forex trading. But, of course, I understand that the trading using the expert advisors isn’t always something good. Everything has its own pros and cons; so the automated trading has its own disadvantages and I’ll try to describe them in this article:

No intuition to help your trading. Computers and programs simply don’t have anything similar to that mystical human feeling. While some traders don’t think that the intuition can be helpful in trading, others rely on it — such traders probably won’t be pleased with the automated trading.
Smooth trade execution and uninterrupted run-time of the expert advisors is critical with many trading systems. Unfortunately, it’s something very hard to achieve running EA from your home or work PC. That means that you’d require some dedicated server to run your automated trading.
Some types of strategies are simply impossible to implement into the real expert advisors. The chart pattern or wave analysis and fundamental analysis are extremely hard to code in the trading program. At the current level of the AI development these tasks are better performed by he live trader manually.
The expert advisors should be made quality or otherwise their trading results will disappoint you. Unfortunately, not all expert advisors handle errors and other unexpected events correctly — sometimes this can lead to the huge losses. Moving your working EA from one broker to another can also be a problem, since broker servers differ and what works perfectly on one broker can stop working on another.

As you see, nothing is perfect in this world and, while being the extremely interesting and popular tool, automated Forex trading has its own problems. The wise decision here, in my opinion, would be using both types of trading to your advantage. The systems that can be easily implemented as the expert advisor and are too hard to be traded manually are better to be automated, while the simple systems that involve chart pattern and fundamental analysis are better left for the manual trading.

Advantages of the Automated Forex Trading

2009-01-21T13:57:00.001-08:00

Trading with the expert advisors is seen by many (especially newbie) traders as the «holy grail» possibility. Such traders expect from each EA they find or buy the fast and risk-free profits. Of course, expert advisors are not the «holy grail» in Forex trading. Automated Forex trading is just another tool that can make the trader’s life a bit easier and sometimes even more profitable. Here is the list of the advantages of trading Forex with expert advisors:

With expert advisors you can trade during the time you can’t trade manually. You can set up an expert advisor to trade for you when you are asleep, when you are away or when you are too busy to be involved in the market. Of course, you can hire someone else to trade for you, when you are away, but that’s rather ineffective decision.
Strict following the trading system is another advantage of the automated Forex trading. If you have a strategy implemented in the expert advisor it will trade according to that strategy without any deviations. If you find it hard to follow your own system without modifying it constantly, try using an EA that would do all the work.
Automated trading excludes any emotions form your market behavior. Computers and programs don’t have any emotions and won’t overtrade if they lose. If you are not very good at holding your emotions down, automated trading will definitely help you.
Complicated strategies are not a problem for the expert advisors. For the live trader it’s not an easy task to monitor a dozen of indicators and compare each of them to the entry conditions, whereas expert advisors can do that easily and in no time at all.
«Errare humanum est» said the Roman stoic; that means that despite your experience in Forex trading, you’ll make a lot of stupid mistakes through your trading career. Computers are not human, and if programmed without errors, expert advisors won’t make any errors during the trading.
There are many things a live trader just can’t do — trading on multiple strategies, timeframes and currency pairs simultaneously is one of them. If you want to use your system on several currency pairs and timeframes — use expert advisor. If you want to test several systems at the same time — also use the expert advisor.
The time of reaction, analysis and decision making can be critical in many Forex trading systems. Where manual trader just can’t do it fast enough, automated systems will work fine.

Perhaps, I’ve missed some important advantages here, but this list looks quite impressive to me. Of course, there are certain disadvantages in the automated Forex trading, but they will be a subject of my next post.

The Less Known Evil of the Leverage

2009-01-21T13:56:00.004-08:00

Trading with leverage is extremely popular among the Forex traders. High leverage is considered dangerous because of the risks associated with the fast moving money and poor money management tactics practiced by the majority of the traders. Besides the well known danger of multiplying your losses, there is another evil hiding behind the leverage, which can wipe your trading account easily.

High leverage is advertised by many brokers. Some traders believe that the higher their leverage is the faster they will become rich and the Forex brokers that offer ridiculously high leverage are even praised. But in fact, there is a very practical and mercantile reason for the Forex brokers to offer high leverage — higher earnings.

The higher is the leverage the more money is paid by the trader to the broker in the form of the rates spread. The value of the pip that trader wins, loses or pays as a spread depends on the leverage. With 1:100 leverage a 2 pips spread for the 1 standard lot of the USD based currency pair is worth $20. That’s not a big amount if you have $100,000 account, but if your total trading account is just $2,000? That’s 1% lost despite the fact if you win or lose this position. With 1:10 leverage that spread would worth you only $2. Without leverage the spread payment to your broker would be as low as 20 cents.

Remember that the leverage comes with a price, which is quite high and which is often overlooked by the traders. If you want to learn trading profitably on a real account, try to the leverage as low as possible. Switch to the higher leverage only if you really know what you are doing. Don’t try to become rich quick with the help of the leverage. It won’t allow you.

Variety of Forex Scams

2009-01-21T13:56:00.003-08:00

Apart from being potentially profitable, Forex market becomes more dangerous nowadays. There many scams in the Forex industry and they vary in types and scales. If you want to start trading Forex you should know a lot about such scams to avoid losing your hard-earned money. And if you are the experienced Forex trader you’ve probably already got hurt from some Forex scam and if not — you should also know about Forex scams to avoid them in the future.

Forex broker scam. It was very popular several years ago, but its popularity seems to fade now. Usually it’s just some set-up Forex broker site that promises the good trading conditions and offers some basic «bucket-shop» trading simulation to attract large customer base and run away with their money. Just do your research on a broker before depositing money and you’ll be safe from such scams.
Forex strategies selling. There are hundreds «successful» Forex trading strategies selling on the Internet. Many traders tend to believe that they can spend $300 on such a strategy and become rich with it. In reality the best thing that money can buy is education. Sold strategies are usually nothing but crap. Not only they won’t make you rich, they will probably make you lose your account margin.
Forex e-books selling. Overrated and hyped e-books with a lot of marketing and a little use (if at all) are the actual problem of many industries. Forex e-books selling for ridiculously high prices and promising to tell you «the best kept secrets of the millionaire traders» are nothing but wasted money. You’d better lose that money in Forex trading, trying to find your own strategy and getting some real practice.
Scam Forex managed accounts. Some people like the idea of Forex, but don’t like to trade on this market, they prefer to invest in it. That’s where managed accounts come to play. It’s a good idea to have some company or a private trade to trade for you and earn a share of profit. But unfortunately there also scam players here. They will just take your money and disappear. Some scam managers will probably even pretend that they are really trading and will show you some profit, hoping that you’ll deposit more. Don’t fall for such scams, thoroughly research your manager or better invest in some reputable managing company.

Forex Trader's Personality

2009-01-21T13:56:00.001-08:00

Knowing your trader’s personality is very important if you want to maintain a healthy, pleasant and, most importantly, profitable lifestyle while working on Forex. People are different and what’s good for one can be bad for other. Some trading methods and techniques will work for the certain kind of traders, but they will fail when you try to use them.

The most notable difference between various trading styles is the frequency of trading. Traders that like action and often «want to do something» perform better when they open several positions per day. Those who don’t like the chaos of the daily trading and like to think a lot before doing something will enjoy the profit from a scarcer trading. There are 4 distinct types of the trader’s personalities by the trading frequency:

Position trader — mostly fundamental analysis driven positions that are opened very rarely — only few per month, often just about 10-20 positions per year. This style doesn’t require constant market monitoring and is recommended for the busy people.
Swing trader — trades more often than the position trader, holding his orders open for the days and weeks. Targets and stops are lower than those with the position trading, but there are many trades per year. This is not a day trading, but it’s neither a long-term trading.
Day trader — one of the most popular types of traders. They trade every day, opening several positions and holding them for a few hours to a day. This style requires a lot of market monitoring and will probably fit only full-time Forex traders.
Scalper — this is the most risky and dangerous trading style. Scalping involves holding a position open just for a few seconds or minutes to gain the small profit from each position. There are dozens of trades each day with the scalping. Almost all brokers prohibit scalping. Another problem with scalping is that the major part of the scalper’s profit is eaten by the broker’s spread.

There some other parameters that can be different for various traders, but the main trading style is the basic difference and the trader that is good with the position trading shouldn’t go for the day trading to remain successful. Try to find out your style as soon as possible and stick with it.

Drawdowns and Money Management

2009-01-21T13:55:00.003-08:00

No matter how good your Forex trading strategy is, you will lose some of your positions. There is no such thing as a 100% sure win in trading, so eventually you’ll encounter some loss. This is where the money management kicks in and helps you to limit your drawdowns in order to save your trading account from the complete wipe-out.

The problem with the drawdowns is that if you lose 10% of your account you need to recover 11% of what remains to return to the breakeven point. Losing 20% will require 25% gain over the remaining balance to recover. As you see, if you trade with the percentage risks, recovering from losses is much harder if you lose more. Trading with a little risk ratio is a good idea to prevent such problem from occurring. If you trade long enough you’ll encounter the streaks of losing trades — with 10 losing positions in a row and 10% risk ratio you’ll lose more than 60% of your initial balance. But if you trade risking only 3% of your current balance you’ll end up with 26.3% total loss. You don’t need to be a genius to see that it’s a lot easier to recover after the 26% loss than from 60% loss.

Of course, trading with small amounts of your account doesn’t look very promising, because you decrease your potential profit. But believe me, if you somehow lose 70% of your account — and that’s not a hard thing to do if you risk a big part of your capital with each trade — you’ll have to more than double your leftovers to reach the breakeven point. Remember, that all professional Forex traders (and even professional poker players) always risk only a small fraction of their capital with each trade.

Switching to Your Own Forex Trading System

2009-01-21T13:55:00.001-08:00

Before you switch to your own Forex trading system or the one that you’ve bought from someone else, I’d suggest you organizing the process in such way that you’ll be able to keep up with your strategy and track your success honestly. Developing a trading system is a hard process, but keeping to it without falling to emotional trading is even harder. Here is a list of the steps I recommend doing when you find your system:

If your strategy uses technical indicators directly or there are indicators that can help you spot entry/exit points exist, write them down and add them to the chart. Avoid adding indicators that are not used by your system.
Write down and open in your trading platform the timeframes on which your system is tested. Don’t try trading on the timeframes that don’t work with it.
Define your entry and exit conditions — whether they depend on indicators or something else, those should be definable conditions. Avoid using something else except your system’s guidelines in your trading.
Before each trade, calculate the position size depending on the risk that is tolerable with your strategy. This will help you with money management and will save you from overtrading or gambling.
Follow your strategy writing down all your profits and losses. Be honest with yourself. If you avert from your initial strategy, try to record that too.
Keep to your system without changing it for a significant amount of time. Try to see its weak and strong sides when you have enough statistics on your hands.

Over three years that I’ve spent trading Forex I developed many trading strategies. The majority of them were crap, but many of the strategies were unjustly abandoned by me, because I’ve failed to use them correctly — continuously modifying the system, «cheating» myself and forgetting to record statistics killed more than one successful strategies.

Using Support and Resistance in Forex

2009-01-21T13:54:00.006-08:00

Support and resistance is the one of the most popular and widely used methods of technical analysis in Forex. It’s simple, easy to understand and doesn’t even require any additional analytical tools except the bare chart of the currency pair. Support and resistance levels form when the price action creates the distinct peaks and plateaus on the chart. Support level acts as a barrier for the rate that falls, while the resistance is the level that prevents rate from growing farther. Buying when the resistance is broken and selling when the support level is broken is an easy Forex technique that made thousands of traders rich. If you plan to trade using support and resistance, don’t forget these important facts:

When the support level is broken it becomes a resistance level, the vice versa is also correct.
Breaking the support and resistance levels isn’t an exact math. False breakouts are possible.
Real breakouts are usually marked with a bar closed below/above the support/resistance level.
Check your charts on the different (larger) timeframes. Some important support and resistance levels can only be seen on the long-term charts.
If the rate bounces off the support or resistance that level becomes stronger. The stronger support and resistance level is the more profit can be gained when it’s broken.

Concluding all that was said above I should also warn you that using support and resistance in your daily trading will become profitable over the time as this method requires a lot of real experience and becomes more powerful with each trading success or failure.

Best Market Hours to Trade

2009-01-21T13:54:00.005-08:00

If you want to be profitable in Forex it’s vital to know how to trade. But knowing when to trade is also a very important condition to succeed in Forex. The market behaves differently depending on the time of the day and the day of week. It’s well known fact to the experienced Forex traders that it’s better to trade when the market is busy and it moves in the large and predictable waves. But when the trading is slow and the volatility decreases, the market itself becomes unpredictable and it’s easy to lose your money. If you want to trade when the market is the most active then learn these three simple rules:

There are several major regional Forex trading sessions — Tokyo (0:00-9:00 GMT), London (8:00-17:00 GMT) and U.S (13:00-22:00 GMT).
The market becomes more active when those sessions overlap: Tokyo and London (8:00-9:00 GMT) and London and U.S. (13:00-17:00 GMT).
The trading is more active in the middle of the week — particularly Tuesday and Wednesday. Friday is the worst day to trade.

So, to trade with the best market conditions available you just need to trade on Tuesday and Wednesday from 8 to 9 AM GMT and from 1 to 5 PM GMT. Of course, not everybody can trade during these time periods. In this case, I’d recommend setting up stop and limit orders to catch the most juicy price movements.

Technical Parameters of the Forex Market

2009-01-21T13:54:00.003-08:00

The technical indicators of the Forex market don’t take information from the air; they are all based on some of the market’s parameters and the appropriate calculation methods. Each indicator is calculated according to its own rules and there is no need to describe them all. In this article I’ll try to describe only the actual Forex market parameters that can fully describe the technical side of the Forex trading.

Trend — a direction of the price movement. Forex market can be in some kind of trend or go sideways. The trend itself can be measured by its direction, starting/ending point, ranges and the inner volatility.
Volatility — a statistical measure of the number of the price changes over a certain period of time.
Momentum — a measure of price movement strength in a term of pips per tick.
Cyclicality — it’s hard to be measured, but it still exists on the financial markets (and on Forex too) and describes the cyclical nature of some price movement.
Volume — the number of the transactions (price changes for Forex) in a given amount of time.
Support and resistance levels — they can be hard to spot, but Forex market generally bounces off of them or breaks them with a significant price action.
Traders’ expectations — they can’t be seen from charts, but they are the part of the technical picture of the market. Stop and limit orders are the important parameters of the market that should be taken seriously.

Some technical indicators use only one or two of these parameters; very few of the standard MetaTrader 4 indicators use more than two technical parameters. And I don’t know any indicators that are based on cyclicality or trader’s positions.

Forex Leverage and Trading with Margin

2009-01-21T13:54:00.001-08:00

What is leverage in Forex trading? Every on-line Forex broker offers trading with certain leverage, which usually varies from 1:2 to 1:500 with the most popular being 1:100. Leveraged trading is also called margin trading, because you only need to have a margin to back your position while the rest is offered by your broker. Margin trading is considered to be more risky, but it also offers high-yielding opportunity which is sought by many Forex traders. If you trade on Forex without leverage you have to spend a big deposit to open a position — you’d have to deposit $100,000 to open a position of 1 standard lot. When you trade with a leverage you can use just a fraction of that money to open the same positions — the rest of the money is «borrowed» from the Forex broker. That means that with just $1000 and 1:100 leverage you can open $100,000 positions and gain $10 from each pip of difference you gain. Of course, you’ll also lose $10 for each pip if the price goes against you. Remember that your margin goes for margin requirement and is held by the broker for the whole period of time while your position is opened. That means that your available margin on account declines usually by 100% of the margin required for holding the position — e.g. $1,000 for $100,000 position on 1:100 leverage. Don’t forget that your position opens with a little floating loss caused by the broker’s bid/ask spread. That means that if you had only that $1,000 in account your position would be immediately closed out by margin call. So, always remember to keep enough available margin to cover your losses, because your broker won’t be losing its own money, it will close your positions instead, if the free margin level falls critically low.

Examples:

With 1:500 leverage and $1,500 in your trading account you can open a position of 5 standard lots and still have $500 left for loss toleration. But with each pip of loss costing you $50 your position will be automatically closed when its loss reaches 10 pips. After that you have $1,000 remaining in your account.
With 1:50 leverage and $10,000 in your account you open 1 standard lot position and $2,000 from your account goes for margin. $8,000 left is enough to hold 800 pips of loss.
With 1:2 leverage and $100,000 in your trading account you can open 1 standard lot position with $50,000 secured as margin and $50,000 left to tolerate up to 5000 pips of loss prior to margin call.

Managed Forex Account

2009-01-21T13:53:00.004-08:00

At some point of the trading experience traders that don’t reach a very successful level with their own skills start to think about using a managed Forex account. Of course, exceptional traders can earn themselves after just a little practice and learning, but for the majority of the beginning Forex participants the frustration of the losses and the inability to learn over a certain period of time leads to the conclusion that they should use Forex account management services. There is nothing wrong with that, but there is something these Forex investors should know:

Earnings may still fluctuate and become losses. When you rely on a managed Forex account the mechanics of your earnings isn’t much different from that when you trade yourself. The traders that manage your account can still experience losses and you may find that your earning is actually negative during some months.
There are many scam-shops in the managed Forex account industry nowadays. With the rising popularity of the on-line Forex trading, the number of the scams in the managed account industry grows exponentially. Try to avoid shady managing companies and sites. It’s always preferable to use the account in the reputable broker with a trading access for the managing side.
The performance of the managed account can be too conservative. Managed Forex trading accounts can turn out to be not as profitable as you might expect. The majority of the account managers use the conservative strategies that tend to protect your assets more than gain profit. So, don’t expect 100% yield in one month or even a year.
Don’t forget about management commission, transfer fees and withdrawal delays and limitations. When you trade with your own money you can do almost everything you want with them at any given moment. When your account is under the management you’ll have to wait before you can withdraw some money or change the management. You tie up your own money with the manager. The management fees can be costly — don’t forget to find out the real amount of money you will give away as a commission to your managing company.

One shouldn’t forget that it’s possible to trade yourself and at the same moment have investments in several of the managed Forex accounts. Diversification is always great and even highly successful traders don’t miss the opportunity to invest into the well-managed Forex accounts.

Pitfalls of the Fundamental Analysis in Forex

2009-01-21T13:53:00.003-08:00

Fundamental analysis is widely used in trading for thousands years. In stock trading fundamental analysis of the companies prevails over the technical analysis in the long-term investing. But in Forex technical analysis is more popular, because of the volatile and short-term nature of the foreign exchange market. Nevertheless, fundamental analysis has its fans and many professionals use it to earn profit. What are the common pitfalls that can wipe the Forex trader’s account if he relies on the fundamental analysis?

Relying on a news effect. You can’t rely on the specific news effect that will be caused on a specific currency pairs. For instance, good news on the U.S. economy not always make dollar go up, while bad news not always make it go down. Additionally there might be a very high volatility period after such releases that would make all your fundamental assumptions fails. Although, this is generally true for the U.S. related fundamental indicators, sometimes the same happens with the other currencies and countries.

Intraday fundamental trading. Intraday use of the fundamental analysis is probably something unique to Forex market, but I know a lot of traders that are fond of it. Nevertheless, majority of them fail greatly, because fundamental analysis usually doesn’t work that way. Fundamental indicators set long-term trends and the short-term change they are causing is volatile and unstable, which may lead to the big losses.

Confusing good for currency and good for economy. More than often economic indicators that are good for the currency of the particular country are hurting its economy and vice versa. This happens because weak currency is often a boon the country’s exporting companies, while a strong currency usually hurt the trade balance and the manufacturing industries. So, remember that not all «good» indicator releases are good for the currency you buy

I use fundamental analysis in my Forex trading, but I am aware of its possible problems. If you want to trade using mainly fundamental analysis — then fine, just don’t forget to be careful with this tool.

When Technical Analysis is Your Enemy

2009-01-21T13:53:00.001-08:00

Technical analysis is the powerful tool to forecast the price action in Forex market. It’s more popular than fundamental analysis in currency trading and is used both by beginning traders and experienced professionals equally. But is it that cool and omnipotent? There some situation when good old technical analysis can ruin your trading.

News of high importance. When very important news are released with the unexpected outcome that greatly exceeds any forecasts, even the most certain technical patterns get ruined. It’s a real trading suicide to rely on technical analysis in the chaos that rules after such releases. Disaster/terrorism news also tend to affect Forex market in a similar way.

Holidays market. Trading during big holidays (such as New Year and Christmas) isn’t advisable at all. Technical analysis fails there because the volume of trading is extremely low and the market becomes highly unbalanced with large spike movements possible in each direction. Big speculators can forge the market to their own liking during such periods.

Bubble rallies and bursts. When some market gets a hype, it’s hardly obeying common rules of technical analysis. In Forex when some currency goes up like a bubble (recent carry trade hype is a good example) another currency from the pair goes down at the same extent. Trading on sharp rallies can be very profitable, but don’t expect your support and resistance levels to work there.

Remember the situations when playing by technical analysis is dangerous and you’ll be able to apply it only in a friendly environment, where your strategy won’t be hurt by any «force majeure». In Forex technical analysis can be your best friend, so don’t let some circumstances turn it in your worst enemy.

How to Trade Exotic Currency Pairs

2009-01-21T13:52:00.004-08:00

Trading with the exotic currency pairs is less popular than with the major currencies pairs such as EUR/USD and USD/JPY, but the mechanics of trading is the same. Both technical and fundamental analysis works the same for exotics and the same strategies that work for the major pairs can generate signals for the exotic currency pairs. But what to do when your broker doesn’t support trading with the specific exotic pair? Changing broker to open a position isn’t a good idea, but there is a way to trade some pairs on the brokers that don’t have them.

The exotic currency pairs are also often called cross pairs, because in reality they are often nothing more than the derivatives from the major currency pairs. That opens a possibility to substitute such pairs with majors. For example, you want to sell NZD/JPY, but your broker has no such pair, though it offers NZD/USD and USD/JPY. So, all you need to do is to sell NZD/USD and NZD/JPY, the resulting positions will give you the same combined profit as the NZD/JPY short position would give you. Another example: if you want to buy EUR/AUD, but your broker only offers EUR/USD and AUD/USD then you just need to buy EUR/USD and sell AUD/USD. The general rule is the following: to go long on cross X/Y — buy major with X in the first position or sell one with X in the second and sell major with Y in the first position or buy it if Y is in the second position. To go short — do the same but vice versa.

Unfortunately this technique has two important disadvantages:

You can’t set stop-loss and take-profit level like with a single currency pair position. You depend on two positions combined and the majority of the Forex brokers doesn’t support combined stop-losses or take-profits on two orders.
Position size uncertainty makes it difficult manage your risks in such trades, because the base currency for those positions can be different.

If you don’t trade exotics too often and you like your current broker, then you probably wouldn’t want to change your broker to get more currency pairs. But if you open such positions more than once a month then this technique isn’t something you need. In this case I’d recommend changing your broker.

Choosing a Forex Broker

2009-01-21T13:52:00.003-08:00

Choosing a Forex broker is an important step to a success in the Forex trading. Whether you are a beginning trader looking for your first broker or an experienced trader seeking to switch brokers, you'll have to be careful in this selection. With the current abundance of the on-line Forex brokers offering dozens of services, bonuses and high quality execution, one need to look for the exact features that would fit his trading style, capital requirements and level of legal regulation. Here's the short list of things for which to look when you choose your Forex broker:

Terms of Service. The first thing at which trader needs to look before joining a broker is its Terms of Service. They should be free from anything that would put trader's money in danger and should give him freedom to manage his account without any serious obstacles. Don't forget to check ToS to know if the broker forbids your trading style - e.g. scalping, news trading, etc.
Trading platform. Trading via a Forex broker with some lousy platform is a real pain for any trader. Check if the broker's platform is good enough (through the demo trading) before registering a real account. MetaTrader 4 platform is offered by many Forex brokers and it's one of the best of the available platforms for the on-line trading.
Regulation. If the broker claims to be from U.S. or U.K. or any other country with high level of Forex brokerage regulation then check the local authorities to see if they are really regulated. Checking offshore companies is almost useless and trading with the offshore broker has its own advantages and disadvantages as well.
Spread. Spread will be your main payment to the broker for using its services. Don't overpay for anything - try to find a broker which offers low spreads. For example, trading with a Forex broker with 7 pips spread on EUR/USD currency pair is really stupid, while the average spread for this pair on other brokers is 2 pips. If you find a broker that offers spreads below average, don't forget to read its ToS to see if there are any hidden commissions in it.
Payment methods. Most of the traders deposit and withdraw their trading funds via wire transfer. But there are plenty of other methods of payment that can be used to trade Forex; PayPal and WebMoney are among them. If you prefer electronic payment systems choose a Forex broker that accepts them.
Minimum deposit. Trading with small amounts of money won't make you rich, but it's a good way to check your broker's real account handling before trading big, so the minimum deposit amount for the Forex broker shouldn't be too high. Some of them accept deposits only from $10,000 and higher - that's not a very good practice, since many traders would prefer trading with just hundreds of dollars before depositing such amounts.
Additional services. Almost every broker offers additional services nowadays. Personally I prefer brokers that allow extra instruments for trading except Forex pairs - like metals, indexes or some CFD. For example, if you trade not very often and prefer long-term trading you'd seek a broker that pays interest on your free margin and offers good interest rate difference payments for your open positions.

Of course, this list is far from full, as there are many other parameters for which to judge the broker and they vary from trader to trader. But you can use this list as a checklist next time you are going to choose your new broker or register with an old one with which you've been trading on demo account for years.

Reacting on Forex News

2009-01-21T13:52:00.001-08:00

Trading on the Forex news is a popular strategy that is generally adopted among both professional and barely experienced traders. Apart from the standard high volatility accompanying important economic releases, Forex traders try to earn by predicting the outcome of the news, successfully forecasting the market’s reaction. However there are three important points every news trader should know before reacting on the Forex news:

Generally it’s a good idea to set the entry orders before the actual news release. Use stop and limit orders to make the entry to trigger automatically and at the desired levels even on a very volatile market.
Setting stop and limit orders for entry is a good way to automate the news trading, but it’s also a good idea to stay near your trading platform during the news release. Sometimes the market demands your personal reaction and your own understanding of the current situation to bring you profits and save you from losses.
You should know beforehand if your broker allows news trading. Many Forex brokers forbid trading during the news of the high importance to the Forex market. They can do it either via their terms of service or via some technical obstacles. Some brokers widen their spreads to extreme values during the news, while the others just stop reacting to the trader’s orders. Don’t even try earning from the news trading if your broker doesn’t allow it.

Don’t be scared to trade on the Forex news. It’s a good tactic for every kind of trader and will work on the most Forex brokers. Just try to avoid the common mistakes associated with this trading strategy.

Carry Trade — Why Did It Work and Why It Won't Anymore

2009-01-21T13:51:00.005-08:00

Carry trade is the kind of Forex trading where low-yielding currency is sold for the high-yielding one and the produced difference between the yields is gained by the trader; usually it’s also multiplied by the margin leverage. So what are the yields of the currencies? Each currency has an overnight interest rate associated with it. If you trade via a broker you buy and sell currencies without a physical delivery, so when you buy a currency you should get paid an interest from a broker, because he gets to «store» and «use» that currency, while you hold the position. If you sell a currency you should pay an interest because you «hold» and «use» the currency you sold, while the position is open. Because in Forex you trade the currencies in pairs you will get the difference between the long currency’s interest rate and the short currency’s interest rate. If you sell GBP/JPY pair and Bank of England’s interest rate is 5.00%, while Bank of Japan’s is 0.50% you’ll lose 4.50% interest on this position, if you buy this pair you gain this difference. In reality, brokers apply some commission to these differences, so you’ll lose more on negative interest and earn less on positive.

These rate differences wouldn’t be so attractive if it wasn’t high leverage that multiplies the gain by tens and hundreds. With 1:100 leverage you get 450%/year holding a long GBP/JPY position. With a higher leverage and a higher rate difference the results are even more impressive. South African rand has 12.0% interest rate associated with it. Buying ZAR/JPY with 1:400 leverage would yield 4600% a year.

No surprise that from 2001 to mid-2007 Forex carry trades were extremely popular. Such currency pairs as GBP/JPY, EUR/JPY, AUD/JPY and NZD/JPY brought thousands percents of profit through the interest rate difference only; considering that those pairs also rose tremendously during that period, such positions made many people rich.

So what happened in 2007 and why carry trade positions aren’t very popular now? Global economy crisis spurred by mortgage lending crisis in U.S. triggered the growth of the global volatility. Central banks stopped raising interest rates and started to focus on growth, while high-yielding currencies started a correction. Higher yields are always associated with the higher risks, so when the global risks increased, the carry traders started to close their positions and spurred a wave of decline on those currency pairs. Currently all those popular carry trade pairs are moving sideways with a little downward slope.

Carry trades didn’t vanish from the Forex market they just became much less popular and no longer last for years. Now carry traders prefer to buy at the local bottoms and hold the pair for weeks or even days to gain their interest rate difference. And this situation will probably last while the global economic growth remains in danger.

3 Advantages of the Long-Term Forex Trading

2009-01-21T13:51:00.003-08:00

As a long-standing supporter and practitioner of the long-term Forex trading it's hard for me judge this style of trading objectively, but pointing out the advantages is an easy task in this case. Apart from the obvious subjective advantages that are appealing to the certain features of the trader's character, long-term Forex trading has some features that are good for everyone:

Spread economy. If you trade on the long-term periods you tend to get more than 100-200 pips from every position, if you trade on the short-term periods your trades will rarely go beyond 50 pips in profit. Assume a broker with 2 pips spread and you make 2,000 pips a month with it (more optimism!). With 10 profitable trades yielding 200 pips each you get 2,000 pips of profit minus 20 pips paid in spread to your broker — that's 1 percent. With 100 trades yielding 20 pips each you get 2,000 pips minus 200 pips left to broker in spreads — that's 10 percent.
Resistance to the short-term volatility. Long-term Forex traders don't have to worry about stop-hunting or the intraday spikes. Their positions are safe from the usual daily market volatility. If you trade long-term you always have enough time to change your position's parameters when something important happens.
Long-term trading is simple. To trade successfully on the long time periods you have to forecast the general trend and the possible exit points and on the long-term charts that's not a difficult thing to do usually. And since you trade rarely you won't need to make the decisions too often, while in short-term trading you have to develop the complex strategies to succeed.

I can't make you switch to the long-term Forex trading if you don't like it and the majority of the traders enjoy the short-term trading, but now at least you know the advantages of the other trading style. If you experience difficulties trading inside the day you could always switch to the long-term trading.

3 Advantages of the Short-Term Forex Trading

2009-01-21T13:51:00.001-08:00

Trading on the short-term periods at the Forex market is often considered a more popular practice than the long-term trading. In short-term trades your positions usually don't last longer than a day, while in the long-term trading they can remain open for years. Although, I prefer to trade on the long-term charts and hold my positions open for the long periods of time, the short-term Forex trading has its advantages:

You can trade on thousands of opportunities when the currency rates change with a high volatility. You can capture every swing — up or down, trade inside the ranges and channels. Even the sideways market can be traded in short-term. When you trade long-term you miss these opportunities.
You don't have to tie up your funds for the long periods of time. Your margin capital is locked only for the short periods and you can even get it out of the trading account if you really need it and then put it back and continue trading without any problems. In long-term trading your money gets caught into positions for months.
The majority of the Forex trading signals work only for the short-term trading. Usually both technical and fundamental signals are played out in several hours of trading on the Forex market. The number of signals and events that influence currency rates on the long-term scale is really minimal.

This is what you get if you like to trade inside the day and use such techniques as breakout trading, scalping, news trading, range trading and any other short-term strategy. Of course there are also some disadvantages in the short-term trading, but they are not the topic of this post.

Functions of the Retail Forex Market

2009-01-21T13:49:00.000-08:00

Retail Forex market became very popular after the development of the on-line trading technologies. Millions of new traders are attracted to Forex each year. They try to earn profits trading the currencies, developing the new intraday strategies and gaining on the long-term trends. But why does the retail FX market exist? Is it only a way to earn money for the brokers and some lucky traders? Here is the list of some functions — obvious and not — that are performed by the retail Forex market:

Earning opportunity — this is probably the most popular, obvious and important function of the retail Forex market. It provides the earning opportunity to traders, brokers, affiliates, webmasters, marketing companies and a lot of other on-line industries. Without a promise of profits retail Forex market would be limited to a simple exchange of the physical or current-account money.
Extra liquidity — this is definitely a positive function of the retail currency market. Although, not many traders use huge amounts of cash on Forex, the total sum of the money provided by the retail customers adds a good chunk of liquidity to the Forex market.
Extra volatility — a not very positive function at a first glance. Retail Forex market makes the rate movement less smooth and more volatile as the traders prefer short-term trading, which leads to the sharp reactions on the daily news and technical signals. Excess volatility is bad for the long-term traders, but it can be good for those who know how to benefit from such markets.
Social function — many communities were formed around the Forex trading. Traders prefer to get help from other traders and they also like to share the knowledge that is related to Forex.
Technical strategy development — popularity of the Forex trading and especially the on-line and automated versions of this trading led to the creation of thousands of the automated trading strategies. Based on technical analysis some of such strategies can be applied not only in Forex trading but in many other industries.

Of course, this list can't be considered as full and complete, but these functions are the main attributes of the contemporary retail Forex market, in my opinion.

4 Reasons to Practice on Small-Size Real Account before Risking Big on Forex

2009-01-21T13:48:00.001-08:00

Practicing on the demo accounts before moving on to the real money trading is an obvious requirement for successful participating on the Forex market. It’s always better to lose virtual money while you are learning new market theories, developing your trading system or improving your practical Forex skills. But is it right to jump from the virtual account to a big real money one when you suddenly realize that you manage to be profitable for a long period of time in your demo trading? Here are some reasons to move on to just a small real account before risking a lot of hard-earned money on Forex:

Real trading is different from virtual, because you get real emotions when you lose or earn money. Trading with $100 on real will get you more real feeling than trading with $10,000 on demo. It’s better to lose $50-$100 to learn controlling those emotions than several thousands dollars.
Know your broker’s real account servers’ behavior. With some brokers virtual trading is smooth and fast, while real account bring unpleasant surprises with order delays, requites, refusals, slippage and stop-hunting. Trading with a small real account can save you big money if you are unlucky to stumble upon a bad broker.
Know your broker’s funds handling practice. Don’t risk depositing thousands dollars before trying small deposits to see how smooth transfers go with this broker. Pay attention to user support if you encounter some problems with the depositing or withdrawing your money. If your broker doesn’t take seriously small money deposits/withdrawals than you should be careful with it, since it may treat big amounts the money in the same way.
Practicing on small real account has another advantage before the demo trading – you get the real rewards when you trade right and you get real losses when you do something wrong. This way you’ll quickly learn to do everything right and won’t be doing the same mistakes again and again.

Demo trading is one of the greatest tools to learn Forex trading, just don’t forget that nothing will teach you better than trading on a real account. But why risk big before being confident in your skills, when you can start with a small-size real account?