10 Important Factors for Forex Rookies
11/19/2014 9:00 am EST
Those looking to transition from the equities markets into currency trading should consider these core differences as they work to get assimilated in the world of forex, writes Tom Cleveland of ForexTraders.com.
Trading stocks for profit, as opposed to buying and holding for the long term, involves a great deal of skill and attention to both financial and psychological factors within the market.
Occasionally, a stock trader will grow weary of the stock genre, wondering if there is a greener pasture upon which to ply his skills. Or, more volatility may be available in markets outside of equities.
The foreign exchange, or forex market, has garnered a great deal of popularity in the past decade. Can a stock trader easily transfer his skill sets to this medium and achieve success without an extended learning period?
The answer is both "yes" and "no." There are many similarities between the two trading mediums, but the differences can also play havoc with your intuition when it comes to developing profitable trading strategies.
The basic requirements are still the same. To be successful, you must have knowledge, experience, and the ability to control your emotions, factors that every successful stock trader has assimilated over time. Dealing with the subtle similarities and differences is the challenge at hand. Here are a few highlights to address:
- Value: Stocks have "intrinsic" value as opposed to "relative" value for currencies. Currencies trade in pairs, so you are always long on one and short on the other, but currencies cannot fail, like companies can.
- Exchanges: Stock exchanges have specific open and closing times in a single day. The forex market is an "informal" electronic market that networks major banks around the world with their clients.
- Trading Periods: A stock exchange may operate for seven to eight hours in a day. The forex market opens in New Zealand on Sunday and ends in New York five-and-a-half days later on Friday at 4:00 PM.
- Tierage: Where there are large blue chip companies down to small cap stocks, currencies relate to major pairs starting with the US dollar, followed by minor pairs, down to "exotics."
- Liquidity: For currencies, the "majors" have high liquidity, but the spreads expand and the liquidity lessens as you move to the "minors." The forex market is the most liquid market in the world with over $4 trillion in daily turnover.
- Volatility: Price gyration for stocks may be two to three times greater in size than for currencies, but currencies tend to shift directions on a more frequent basis.
- Margin vs. Leverage: With stocks, you may borrow up to 50% of your equity value and also pay interest for the privilege. With currencies, the term is "leverage," which in the US is now limited to "50X." No interest charge is assessed, but minimal overnight swap charges may apply.
- Technical Analysis: The great benefit of technical analysis, or TA, is that its skills easily transfer to other investment mediums. Forex traders, however, may frequently view many different time frames to determine the strength of prevailing trends at the moment.
- Fundamental Analysis: For stocks, you have the benefit of long-term projections for a single entity and how it performs in the market. For currencies, you must be mindful of the fundamentals for both countries, as well as other world markets. This interdependency of global economies make long-term predictions in the currency markets near to impossible.
- Brokers and Fees: Both mediums have middlemen that must also operate at a profit. Broker fees in the forex world tend to be limited to the spread at hand.
The best advice is to open a "free" demo forex trading account. Trading "virtual" cash with real-time forex quotes is the best way to develop experience and consistency with this medium before putting real capital at risk.
See related: How to Achieve Consistency Faster
By Tom Cleveland, analyst, ForexTraders.com