Articles of Interest for Forex Traders
Avoid the Forex Scams!
My Easy Solution to Choosing the Right FX Dealer
Article by Joe Ross
Some time ago, Swiss police raided a Forex firm in Geneva for suspicion of financial fraud. 28 police rushed in and took documents and a computer. The founders of the firm made no comment.
After this news hit the wires, several of our Forex students wanted to know how to find a legitimate foreign-exchange firm. As I told my students, I consider choosing your Forex firm THE most important thing when you start Forex trading. Here’s why.
When you open a Forex account, it’s not like having your money at a bank with depositor insurance. It’s not like opening a futures account where your money is guaranteed because of the exchange’s mark-to-market rules. You simply have to choose a reputable firm or you could lose your trading account. That’s right, you could lose every cent. Such loss has already happened when Forex brokers have gone broke! So it’s up to you to choose a good dealer. I’ll explain how to do it.
Two Very Important Factors When Choosing an
FX Dealer
Ever since retail Forex began, I have maintained that it is essential that you work with reputable FX dealers from a country that demands high industry standards for Forex firms. Strangely, Switzerland, which has very strict banking rules, actually has some of the most lax rules for forex trading firms.
On the other hand, the U.S. has tight industry standards and the strictest regulation for Forex firms. So do Canada, the U.K., Australia and Hong Kong. So if you have your account domiciled with any of these nations, you’re already ahead of the game. But beyond that you also need to find a reputable and well-capitalized firm within your country of choice.
I’ll repeat that: place your hard-earned cash only with a firm that is highly regulated AND is well capitalized! These two points are extremely important. In fact, I know of one firm that even displays its balance sheet directly on their website. Now that’s transparency!
If a firm avoids strict regulations, then you don’t want to be involved with them. If they don’t “more than meet” the minimum capital requirements of these regulators, then you also don’t want to do business with them.
How to Tell Which Firm Is Worth Your Business
You can find out which firm is exceeding industry standards by visiting the regulator’s sites: www.nfa.futures.org and www.cftc.gov
The CFTC and NFA can point you to a list that tells you exactly the amount of assets a firm has, and the minimum requirements each firm has to meet.
Don’t get involved with a small firm or an unregulated or loosely regulated firm. As I said before, regulators in the U.S., U.K., Canada, Australia and Hong Kong are tough. If your firm dodges these places, there’s a reason.
If your firm welcomes regulation, and strives to exceed minimum capital requirements that the NFA and CFTC set forth, then you are probably with a firm that’s worth your time.
Be Very Careful:
Avoid the Scammers &
Choose Legitimate
Forex Products
We’ve seen how to avoid less-than-honest Forex dealers in your trading.
And for certain, choosing a reputable Forex dealer is very important. But in addition to choosing a legitimate dealer to broker your trades, you also need to be certain you’re using legitimate money managers and automated platforms if you decide to go that route in your trading.
So how do you do that? Well, basically, it all comes back to that old saying “buyer beware.” As in any other market, if any Forex products or managers sound too good to be true, they probably are.
Outrageous Profits? Don’t Believe it.
Specifically, be aware of what any potential money manager or automated trading robot (expert advisor) is promising you. Take a look at their advertising: Do they claim they can produce these returns with NO potential for losses? Do they advertise enormous, outrageous gains? If so, be cautious.
Lately, there has been one that goes so far as to say it’s never had a losing trade and that it can earn 20,000% a year (No, that’s not a typo – 20,000%.).
Ridiculous! Don’t be suckered in. If we could all earn 20,000% and never post a loss, then we could all be filthy rich in no time. In fact, why would anyone have to have a job? We could all buy these trading robots that cost US$100 to US$300 and never have to work again!
It’s crazy, yet wannabe traders actually buy into these types of scams. I hate to see so many people getting cheated that way.
Outlandish Promises? Move Past Them
Legitimate money managers and automated programs will state there will be losses, and usually give you examples of draw downs that they’ve had in the past. They don’t tell you you’ll be a millionaire real soon.
So be careful with whom you trade and be equally as careful as to whom you trust to manage your Forex money. Remember, if you’re promised the moon without any margin for error, then it’s probably too good to be true.
I want you to know I personally trade the forex markets and I have an account at a Forex firm to facilitate that trading. So I can attest that the Forex market as a whole can be as legitimate as any out there. In fact, the Forex market is so huge, with such a large trading volume every day, that it’s almost impossible for a corporate-type or CEO scandal to upset this market, as you might find in stocks.
I don’t want to scare you away from Forex trading, especially now that many of the old problems are no longer in existence. Many forex firms that used to cheat have now reformed and voluntarily placed themselves under regulation. Still, I want you to be cautious when you’re choosing how you’re going to trade this market, so you can avoid a bad experience right from the start.
What is the Value of a Pip?
Article by Joe Ross
One of the great mysteries of Forex market is the value of a pip.
The truth is, pips are pretty easy to understand, once you get the hang of Forex trading. A pip is simply the smallest increment a currency trade can move (four places beyond the decimal point).
That was easy, wasn’t it? But you still don’t know the value of a pip, so I’d better explain what a pip means in dollars for your trading account.
A Pip’s Value Depends on Your Trading Account
How much a pip is worth depends on what kind of account you have. As an individual, you can open what’s known as a standard or a mini-account with your market maker (read: “Forex broker”).
If you have a mini-account, you’re taking a smaller position in a currency than if you had a standard account. A mini-account lets you control 10,000 units of currency, and a standard account allows you to control 100,000 units of currency.
In other words, you get to control a lot of currency for a small fee.
So if a currency pair ends in U.S. dollars (ex. EUR/USD, GBP/USD, etc.) then one pip in a mini-account would be worth a US$1 each time the trade moves. Therefore a two-pip spread would equal US$2. If you had a standard account, a pip for a USD pair would cost you US$10. (Or US$20 for a two-pip trade.)
One or more pips is how much your market maker charges you to place a trade. Your market maker would charge you once when you buy, and nothing when you sell back to the market. Entry and exit of a single trade is called a “round turn.”
If Your Pair Doesn’t End in the Dollar, Then
Check Your Forex Dealer’s Site
However, some pairs don’t end in “USD.” So these have to be converted back to dollars to know what they are worth. Each broker usually has a way of seeing pip costs on their website or on their trading software.
As I write this, for the USD/JPY pair one pip for each mini-lot is around 90 cents per pip of movement. So a 2-pip spread would cost you only about US$1.80.
In either case, it’s easier to think of pips as small movements on your account. But check with your dealer to see if they have easy mechanisms for you to convert back to U.S. dollars.
Which Pair Comes First?
When you start trading in the Forex market, you learn pretty fast that you can only trade certain currency pairs - and they all have symbols similar to stock symbols.
Below is a list of the major currency pairs with their symbols, so you can get an idea of what these pairs look like.
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EUR/USD (euro/U.S. dollar pair) |
But how can you tell which currency is listed first in currency pairs? Here’s a handy cheat sheet that will tell you in a second which currency should be first, and which should be second.
It all revolves around the list below:
Euro (EUR)
British pound (GBP)
Australian dollar (AUD)
New Zealand dollar (NZD)
United States dollar (USD)
Canadian dollar (CAD)
Swiss franc (CHF)
Japanese yen (JPY)
When you’re pairing currencies, you simply refer to this list to find the symbol. The currencies listed above teh United States dollar (USD) are always listed first. If you're trading a currency that's lower on the list than USD, it's always listed second.
For example, the British pound is higher on the list than USD. So if you're pairing them, the symbol is GBP/USD. If you’re trading anything below USD on the list, USD comes first. So if you’re pairing them, as with the Swiss Franc, it is USD/CHF.
You can think of any below the Japanese yen on this list as being an exotic currency. If you’re trading an exotic currency, like the Mexican peso (MXN), then it’s listed second after the major currency (USD/MXN) or (EUR/MXN).
Speculative investors love the Forex market because it allows them to control a large amount of currency with a relatively low investment on each trade. In other words, this market allows you to use leverage to go for larger gains.
Of course, leverage cuts both ways. Yes, it gives you the opportunity to magnify your gains much faster, and provides a strategy to minimize your losses. But leverage can also make you lose more on your trades more quickly than in your average non-leveraged investment.
Fortunately, there’s a way to minimize this risk – and still go after the larger, leveraged gains. I want to show you how.
Place the Right Stop-Loss for Each Pair
You should ALWAYS place a stop-loss on every single Forex trade. But that’s only the first step. You also need to think about where you’re placing your stop-loss.
When minimizing risk, some traders make the mistake of putting the exact same stop-loss on every pair they trade. They never take into account that different currency pairs have different levels of volatility. Some currency pairs commonly shoot up (or down) as much as 300 pips in a single day, while others generally move 50 – 100 pips.
That makes a huge difference, and you need to take this into account when you’re trading. Let’s take a look, for instance, at the daily charts of AUD/USD (left) and GBP/JPY (right), and measure their volatilities with the ATR (Average True Range) indicator.
GBP/JPY Trades Twice What the AUD/USD Does!
GPB/JPY averages 355 pips per day,
while AUD/USD averages 175 pips per day.
As it turns out, while they look somewhat similar on the chart, the British pound/Japanese yen (GBP/JPY) trades DOUBLE the number of pips that Australian dollar/U.S. dollar (AUD/USD) does each day on average.
So let’s say you like to place a 40-pip stop-loss to be safe. That might work on a pair like the AUD/USD that trades 174 pips a day. But it’s NOT a good idea if you’re trading a pair that zips up and down 352 pips in a day like the GBP/JPY.
Think about it. You are twice as likely to get kicked out of your trade with the GBP/JPY. And if you get stopped out of your trade, then you can never make any profits.
So, instead, look at the volatility for each pair before you set your stop distance. This is what the pros do. It’s pretty easy to figure out how volatile a pair is – simply look at the average true range (which is at the bottom of these charts above) for each pair.
Don’t Bet Everything on a Single Trade
Experienced traders take risk management one step further. First they set the appropriate stop, and then they risk only 1-5% of their account at any one time.
Let’s suppose you decided you should place a 100 pip stop on the AUD/USD and a 200 pip stop on the GBP/JPY. Currently you have a US$5,000 trading account and, following this risk management model, you’re planning to risk only 5% of your trading capital on the trade.
That means you could risk US$250 of your capital. This risk would be the difference between your entry (where you got in) and your stop level.
If the AUD/USD stop is 100 pips away (which is US$100 per mini lot of risk), then you can buy two mini lots of AUD/USD and stay within that risk.
However, if you’re trading the GBP/JPY pair with a 200 pip stop (to account for it being doubly volatile), then you would trade only one mini lot of that pair to stay within your risk parameters.
Note: When you have a smaller trading account, you generally have to risk more (closer to 5%) for any trade to be worth your while. With a larger account, you have more freedom to take smaller risks (1-2%), and still make money on your trade. Therefore, the larger your account balance, the better chance you have of success in Forex trading.
Think about your risk on two levels:
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Risk per each currency pair |
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Risk per cent of your trading account. Combine those two and stay within the risk parameters of both, and you will find yourself assessing risk like a professional. |
Assessing risk is the first and foremost thing you should do when trading in any market. Risk management is the key to your success in trading. It’s not enough to call the right direction in the trade. The risk has to be properly managed, or you will wipe out your entire account.
Do as successful traders do: manage your risk first and foremost!
There is one fundamental principle that guides currency traders all over the world. It's actually pretty simple, and it is this:
Forex traders buy currencies with higher interest rates to secure higher yields. In doing so, they push up that currency's value. On the other hand, Forex traders tend to take their money and run away from currencies with lower interest rates - and that pushes the currency's value down.
This guiding principle basically means:
Higher interest rates = rising currency
Lower interest rates = falling currency
But of course, there are exceptions. For example, it is possible for a currency to rally against another currency, even while the Central Bank is cutting rates. So how in the world does that happen?
The principle above applies to good economic times only. Thankfully, that tends to be the norm. But of course, as you know, it’s possible for the economy to be in crisis-mode for quite some time. When the markets turn lower or move into a recessionary period, the rules tend to change.
During abnormal market conditions, traders run to currencies that are the most beaten down thinking that they may not fall at all, OR will fall much less than others.
This is why the low-yielding Japanese yen and low-yielding U.S. dollar prospered in 2008 with terrible fundamentals and low interest rates. It was strictly a defensive play. These currencies had been sold off for years back to back. Therefore they were prime candidates for money to flow into as scared money looked for shelter from the economic storm.
However, there are other reasons out there that I've not discussed before. So let's take a look at them in a minute.
But before we do that, let's look at an example of one of these scenarios. The euro/U.S. dollar (EUR/USD) ran up about 2,300 pips in just a couple of months. This means the euro rallied against the dollar while the dollar pulled back. Now how in the world is that possible when the European Central Bank was slashing rates?
The Euro Had a Massive Rally Despite Lowered Interest Rates!
Here's how that happens. In a global recession, everyone already knows things are bad and probably going to get worse in the near-term. So at this point, that doesn't shock investors.
What an investor wants to see is how aggressively a central bank goes about attacking the situation to make things better for their economy. If they can see that the central bank is really on their toes and lowering rates aggressively so that they can get their economy back on track ASAP, then that's encouraging to traders.
If a country can get rates low, then it gives the opportunity for cheap money to boost an economy both from corporate spending and expansion and from a retail spending level. At that point, money becomes easier for both parties to obtain and expand.
So if investors can see that a central bank is quick to taking control, then it actually can end up being bullish for the currency because investors know they are taking the appropriate (and timely) steps to turn it all around.
However, if a central bank is slow to start the interest rate lowering process, then it can weigh down more on a country and its currency.
Another factor depends upon what other country the currency is paired against. For instance, above we're comparing the euro with the U.S. dollar. Well, the U.S. Federal Reserve beat everyone to the zero interest rate finish line (0% to 0.25% range). So while the ECB is expected to lower rates more, they are still higher than that of the U.S. Therefore, that can also end up being a bullish thing for a currency even though they are in a rate cutting mode.
Remember, what's good or bad for a currency is also relative to if it's doing well or poorly relative to the other currency that it's paired against. Take, for instance, the EUR/GBP pair.
It's no secret that Europe and the U.K. were both seeing horrible times in 2008. So why was the pound punished so much more than the euro? Why was the euro rising so dramatically in comparison with the pound?
The European Central Bank started being proactive earlier with its economy. While they were not quick to lower rates, they were quick to add liquidity to their markets. The U.K. was a bit slower, and got behind the curve more easily.
As a result, the U.K. economy started to suffer more than that of the rest of Europe. That's why traders had a more bullish sentiment for the euro than for the pound. The end result was that the euro went to all-time highs against the pound.
So it's all relative. You have to say to yourself, collectively: taking all things into account, who is doing a better job at managing their economy? That currency will get the traders' votes. Any other currency will be kicked off the island.
