With the improvement of technology in the late 20th century, the world of forex trading opened up to the internet. By 2004, forex had developed into a $1.9 trillion a day market. As of 2016, the daily volume surpassed $5 trillion a day! Gaining access to the markets is relatively easy. The creation of the Internet made it possible to trade currencies anywhere in the world with internet access, 24 hours a day five days a week.
When beginning one's forex journey, you'll likely come across two methods of trading: technical analysis and fundamental analysis. Technical analysis, the more popular of the two approaches, is effectively the study of price movement on a chart. Fundamental analysis, however, looks at the underlying economic conditions of an economy, focusing on statistical reports and macroeconomic indicators.
- Fundamental analysis helps answer the question WHY a market is moving in a particular direction. For example: is the currency pair rallying due to the Federal Reserve (more commonly known as 'the Fed') expected to hike rates in the near future, or is the move fuelled by a country's political stance? Knowing what causes markets to move helps one pin down market direction in the future.
- Technical analysis typically helps define WHEN to trade. For example, assuming that we know the underlying fundamentals are pointing to a rally in the dollar, but technical price action remains trading at the underside of a strong resistance (which essentially means a level in the market that price has trouble breaking beyond), this may not be the best time to buy the currency. However, once the resistance is broken, a buy trade could be taken as we now have both technical and fundamental cues signalling that the dollar is likely to strengthen. Learning both methods is highly recommended!
Doctors, lawyers and engineers all use specialized language related to the profession. Why should trading be any different? Knowing how to communicate is essential! Fortunately, the forex market's terminology is not all that complex. For those completely new to forex, please check out our 'what is forex trading' article before continuing as we touched on some very significant market jargon like what a pip is and how to recognize this in a currency quotation, what spread means and how it affects us traders and also what leverage is.
While gaining access to this huge marketplace takes less than a few clicks, trading has proven especially tough for beginner traders. They often come to the markets with unrealistic expectations. This business, despite what some gurus claim, is not a get-rich-quick-scheme. And, unless treated like a business, your trading career will likely be a short-lived one.
Here are a few tips to keep you on the right track in the earlier stages of your journey:
- Rather than thinking short term, try and think long term. Don't fall victim to the 'I want to be a millionaire next month' camp.
- Don't rush! How long does it take the average doctor to become medically qualified? Several years! Why would trading be any different? How many businessmen/women do you know that started a business with little to no knowledge and have stayed in the game? Not many, that's for sure!
- Journal your progress. Learn from your mistakes. This is crucial. Without a journal, the learning curve will likely be a long process that may end up with you throwing in the towel.
- Despite hearing of traders winning 80% of the time, and there are some that do, don't get us wrong, you don't have to win 80% of your trades to profit. You don't even need to win 50% of the time. If we were to present a trading method to you that won only 4 trades out of ten, you may respond with a rather confused look upon your face. However, what if we then said that on those winning trades, the average gain was two times your risk, now would you be interested? Think about it like this, we risk $200 each trade. So, on each winning trade we net $400. Multiply this by 4 and we have $1600. Taking out the the 6 losses ($200 * 6) which equates to $1200, we're left with a profit of $400 from these ten trades.
- While this is an article for beginners, we feel it is necessary to touch on how a trader sizes (calculates) their position. This is EXTREMELY important. As traders, before anything else we are effectively risk managers. Get this part wrong, and it could have dire consequences for your account and effectively leverage your position to reckless levels.
Correct position sizing allows the trader to select how much risk is placed on each trade. To calculate a position's risk one needs the following data: account equity, the pip value for the pair you're intending to trade, the stop-loss pip distance and the percentage of your account equity that you're willing to risk. Furthermore, Standard lots, Mini lots and micro lots are what we generally use to calculate a trading position. 1 standard lot equates to 100,000 units, whereas a mini lot represents 10,000 units and a micro lot comes in at 1,000 units.
By way of example, let's say trader A has an account balance of $10,000. On average that trader risks about 25 pips each trade on the EUR/USD pair. So, in this case, the account denomination is the same as the quote, or counter currency. Trader A has chosen to risk 2% of his account equity per trade. Firstly, we'll need to calculate the dollar amount: $10,000/100 = 100 * 2 = $200. Following this, we divide the amount of equity risked by the stop-loss distance in pips: $200/25 = $8 per pip. Once we've completed this, the trader must locate the pip value of the EUR/USD. 1 standard lot equals $10 per pip, a mini lot equates to $1 per pip and a micro lot represents $0.10 per pip. As such, using 1 standard lot here would put the trader in at a higher risk bracket of $250 ($10 per pip * 25 pip stop loss = $250). Given this, we could simply size the position using 8 micro lots since they equate to a $1 pip movement ($1 per pip [1 micro lot] * 8 = $8 per pip * 25 pips = $200). There are additional steps involved when your account currency is different from the counter currency. However, for ease, one can simply use a position sizing calculator. It's time efficient, easy to use and less taxing on the brain!
- Keep risk parameters to within a 1-2% risk bracket. We know that it may be tempting to risk more but this is a dangerous play, in our humble opinion.
- Don't overtrade. Focus on only a few pairs to begin with.
- Trade using a demo account first. This will allow one to become familiar with the platform features. Why not consider opening a demo account and get a feel for the market without risking capital. The next question that usually arises is, how long should one stay on demo? Well, there is no one right answer here, we're afraid. While a demo account is beneficial for the learning process, to trade the markets successfully one needs to fully appreciate the psychology behind trading. Therefore, once fully comfortable with the trading platform features, trading a small live account could be the next step forward, assuming you have a back-tested method with a clear-cut trading plan that is! With IC markets, you can open an account with as little as $200. That way, making your very first need not break the bank should you make a mistake.