How to Trade Forex
The FOREX market can be a dangerous place for the uninitiated but with the right knowledge, appropriate risk management strategies and a quality provider, the potential for trading success may only be a matter of time. Learn more on how to trade forex.
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Understand your market
The first step to trading Forex is to gain a strong understanding of the workings of the product you are trading. Some of these among others include how to calculate the pip value of a trade and thus the potential risk and reward of a position. The impact of trading with leverage. Understanding what and who influences the Forex market. The price action or behavior of a specific currency pair being traded and also the hours of the trading day that a target currency pair is likely to be active. Building a strong understanding of the market will allow the trader to gauge and manage risk versus reward and hopefully reduce some of the potential mistakes faced by inexperienced traders.
Build a trading strategy
Once the product basics and an understanding of how the market functions and behaves is obtained it is time to start building a trading plan or strategy. A trading strategy is quite simply a set of rules or process that governs how a trader identifies an opportunity, enters a trade, chooses exit points and manages the risk and reward whilst in a trade. A trading plan is thought of as a way to reduce the emotion associated with trading and create the repetition of what is considered a valid and successful trading approach. Some trading strategies are an informal and simple set of concepts while others are a complex set of rules and processes. It is widely believed that a trading strategy is a personal approach tailored by each trader to suit their own personality and risk profile. Whatever the method used the basic concept is universal in that the trader is approaching the market with a strategy rather than randomly and without direction.
Step 1: Identify a trading opportunity
Client believes the AUD is going to depreciate against the USD over the coming weeks and decides to take an exposure. The trader has employed various methods to identify a bearish opportunity in the AUDUSD including technical and fundamental analysis. The resulting trade is to SELL the AUDUSD currency pair.
|Currency Pair||FX Bid||FX Ask|
Step 2: Decide on Trade size
In this example the trader has identified a level of resistance above the AUDUSD @ 1.0610 that if broken would change the outlook for the currency pair and an exit of the short position. The trader also decides to try and limit losses on the trade to $1500 representing around 3% of the client’s existing capital should the AUDUSD rally against the short position.
Entry Price 1.0461 – Exit Price 1.0611 = -0.0150
Trade Size = $1500 / 0.0150 = 100,000
Sell 100,000 AUDUSD @ 1.0461 (market price)
Stop Loss placed at 1.0611
Initial Margin 1% = $1000
Understanding trade size is extremely important in Forex given the leveraged nature of the product. The client is controlling $100,000 AUD in the market but aiming to limit losses to only $1500 by using a stop limiting order. The initial margin on this trade is $1000 indicating leverage of 100:1. In the above example the client would require additional funds in the form of variation margin should the AUDUSD position rally and move unfavorably against the short position. In this example the client is risking only 3% of the available capital and has free funds to cover the additional variation margin of $500 that would be called should the position rallied to the stop loss level.
Step 3: Execute the Forex Trade and Place Protective Orders
Once the details have been identified the trade can be executed via forex trading platforms.
Entry Order: Sell 100,000 AUDUSD @ Market
Protective Order: Buy 100,000 AUDUSD @ 1.0611
Open Position will be reflected on the Position tab
Protective order will be reflected on the Orders tab
Step 4: Manage and Monitor
Once the initial trade has been placed the trader must manage and monitor position to update stop losses in a bid to lock in gains or add profit targets where necessary in an attempt to maximise potential gains and minimise losses.
Step 5: Review
Following the trade exit, for profit or loss, educators would recommend that it is a good opportunity to review the trade in its entirety including the decision making process and compare against the trading plan. This is considered an effective way to measure the trading plan and assess the traders ability to stick to their trading strategy.