Example Trades in the Forex Exchange

January 27, 2009 by  
Filed under Forex Trading

When trading in the Forex markets, you first must understand the basis of all currency pairs. These currency pairs compare the exchange rates between two different countries, and are listed with the bid, ask, change amount, change %, high, low and time of the quote.

For example, if the euro/dollar currency pair bid was listed as 1.2344 and ask was 1.2347, the difference between these numbers is what your broker’s fee is for the sell or buy order you place on them. You will actually pay the 1.2347, but your currency pair is only worth 1.2344.

All Forex trades are executed in standard 100,000 unit lots, unless your brokerage firm offers mini accounts for lower levels of trade. Here, we’ll assume a standard account.

In order to buy 100,000 euros on the Forex market, you need $123,470 to purchase them. Here’s where Forex is much different than the stock market. Your broker will ‘loan’ you 99% of this amount usually, or $122,235, and you’ll need to put $1,235 in on the buy order. This allows you to leverage your buy points, but also gives the broker the ability to cut losses and sell if he feels you are not credit worthy to owe him thousands of dollars. However, all profits will be yours to keep.

You have already paid the broker’s fees in the purchase, so profits do not include a commission. Let’s say the above currency pair changes to 1.2362, meaning your euros are now worth $123,620 – this translates to a profit of $150 if you sell at this point. If this happens within the same day or even minutes, as is common in the Forex market, this presents a 12% return on your investment! Not bad for simply fronting the $1,235, is it?

Now, let’s say the opposite happens. After purchasing your euros, the exchange rate lowers to 1.2342 in a matter of minutes. This means your euros are now worth $123,420, translating to only a loss of $50. However, if your euros fall to 1.2210, you now owe your broker money; this isn’t the greatest scenario!

Of course, there are several options to help protect your leverage with the broker. You may employ stop, limit or OCO orders in order to cut your losses or capture gains when rates reach a certain point.

This scenario presents a prime example of the magic and great advantage of leveraging your investment dollars. The 1% required by you, the investor, still allows for slight fluctuations before losing and owing money. However, this can still easily happen in the Forex market, as its volatility is nothing to be reckoned with!

Start at the Forex website with some practice trades using the available Forex software. Study the market and ensure you understand how it works before ever using your hard-earned money. After several successful trades, or at least ones you would be comfortable with using your own money, start small.

Every investment carries risk, but with time you’ll learn to manage this risk and take advantage of the volatility of the Forex market; after all, this not only means that you can lose a great deal in a short amount of time, but someone out there is gaining just as much on the same currency pair.

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