Forex Introduction

Forex Introduction

by Andy Shearman


1. Introduction
2. The players
3. The attraction for private investors
4. Five ways to trade forex
5. Margin trading: risk and reward
6. Learning to trade forex
7. Regulation and caveats

1. Introduction

The foreign exchange market owes its existence to the 1971 abandonment of the Bretton Woods accord and the subsequent unwinding of the regime of universal fixed exchange rates.

According to the 2001 triennial survey by the Bank of International Settlements (BIS), global foreign exchange turnover amounts to more than $1,200bn per day, over 50% of which is transacted on the London market alone. Global turnover, however, is markedly down on the 1978 BIS survey figure of $1,490bn. The BIS attributes this to the launch of the euro, banking mergers, the growth of electronic broking at the expense of voice and telephone dealing (leading to fewer transactions) and non-banking consolidations that have reduced the need for foreign exchange.

2. The players

Although currency trading is inherently governmental (central banks) and institutional (commercial and investment banks), the foreign exchange market is also the province of non-banking international corporations, hedge funds and individual private investors and speculators. However, technological innovations like the internet have made it feasible for private investors to monitor currency markets and to trade via intermediaries.

3. The attraction for private investors

The main attractions of currency dealing to private investors are:

• 24-hour trading, 5 days a week with continuous access to global dealers
• An enormous liquid market making it easy to exchange most currencies
• Volatile markets offering profit opportunities
• Recognised instruments for controlling risk exposure
• The ability to profit in rising or falling markets
• Leveraged trading with low margin requirements
• Zero dealing commission

4. Five ways to trade forex

Private investors can trade directly or indirectly in foreign exchange through:

• the spot market
• forwards and futures
• options
• contracts for difference
• spread betting

We shall examine each of these instruments in turn, but first a risk warning.

5. Margin trading: risk and reward

All the aforementioned forex instruments are margin products, which means that your investment exposure can be a multiple of the cash that you lay down (i.e. the margin).

The main advantages of margin are that:

• Margin enables private investors to trade in markets with high minimum units of trading (e.g. the spot market where the minimum size trade is 100,000 units of the base currency).

• Margin trading enhances the rate of profit.

The principal disadvantage of margin trading is that it has the habit of inflating rates of loss, on top of systemic risk. For example, currency options are inherently riskier than spot market trades, because a small change in the underlying spot rate can generate a disproportionately large change in options prices. Sell naked call options and there is no limit to potential losses. Add leverage to the cocktail and you have the potential for large profits and large losses.

6. Learning to trade forex

Forex is still relatively fresh territory for private investors, having really only been rendered feasible by the advent of the internet. Like any financial discipline, the best investment is a sound and practical education. To this end, TraderHouse Network (UK) Limited has set up a training campus at the Cottesmore Golf and Country Club near Gatwick which was featured on BBC Breakfast News.

“We believe that hands-on training conducted by experienced professional dealers in a live dealing environment can help newcomers to avoid the basic but expensive errors habitually made by the self-taught,” says TraderHouse director Andy Shearman. “We have a fully equipped dealing room, tutors and desks for hire where you can practise until you become proficient enough to trade independently. There has never been a “University of Forex Trading” until now. TraderHouse fills this learning gap”

Margin broker Easy2Trade has teamed up with TraderHouse to provide 2-day basic training programmes in forex for new accountholders at the Cottesmore campus, where they can practise on demo accounts and benefit from expert one-to-one supervision.

TraderHouse has also joined forces with E*Trade- to offer intensive training in all Forexand Financial markets trading and spread-betting. As of late January 2003, TraderHouse will be holding 3-day residential training courses at the Cottesmore campus. Day two training is conducted in a “live dealing environment” and day three in the TraderHouse dealing room itself.

For further details, contact Andy Shearman on 01293-512211 or 07957-421769

7. Regulation and caveats

Forex trading is regulated by the Financial Services Authority. In order to open an account with a margin broker, applicants must demonstrate that they are intermediately experienced investors, albeit not necessarily in forex. This may entail disclosure of one’s investment history supported by trading statements and other evidence. Additionally, the applicant must demonstrate an understanding of the advantages and risks of margin trading.

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