What is Forex?

The Forex Market

The foreign exchange market is the market in which currencies are bought and sold. Every trade involves selling one currency for another. For example, if the EUR/USD exchange rate is 1.10, you’ll need to exchange $1.10 dollars for 1 euro.

The foreign exchange market has traditionally been dominated by central banks, financial institutions and businesses. However, retail traders have seen their share grow with the rise of online Forex trading platforms since the early 2000s.

Why trade Forex?

The Forex market is open 24 hours a day, 5 days a week. This means that you can trade at any time of the day, regardless of where you live. The best time to buy and sell currency generally occurs when the markets are most active. Our guide to Forex market hours discusses this in more detail.

The Forex market is the largest financial market in the world, with daily trading volumes over $2 trillion⁽¹⁾ according to the Bank for International Settlements. This is one hundred times larger than daily trading volumes on the New York Stock Exchange. Deep liquidity helps drive down trading costs, and makes it easier to get in and out of large positions.

Leverage, which is synonymous with borrowing, also explains the Forex market’s enduring appeal. Leverage makes it possible to trade with more money than you actually have, by borrowing the difference from your broker. This will magnify your potential profits and losses. In some markets, regulators have capped the amount of leverage that brokers can offer their clients. However, offshore brokers still offer high leverage Forex trading accounts.

Forex trading could be right for you if you have an interest in global finance and macroeconomics, as exchange rates tend to respond to relative differences in growth and interest rates between countries. Countries with higher economic growth and interest rates usually see their exchange rate appreciate against that of their weaker peers. However, unlike stocks, exchange rates have no credit risk and cannot "go to zero".

What are the costs of trading Forex?

The following three costs are ones to look out for:

• Trading fees
• Swap fees
• Account funding fees

You may also come across platform fees, inactivity fees and other administrative fees, but they are less common.

Trading fees

If you've ever exchanged money at the airport, you'll be familiar with the difference between the price at which a currency exchange service will buy and sell you currency. This is also how most Forex brokers and trading platforms earn fees. Competition between brokers has driven these spreads low, especially across major currencies.

What is a pip, in Forex trading?

The difference between buying and selling prices is called the spread, as is usually expressed in pips. A pip is the smallest amount by which an exchange rate can move, as is calculated as 1 percent of 1 percent, or 0.0001.

What is a lot in Forex trading?

Some brokers may charge commission across trading accounts with very low spreads, or no spreads at all. These accounts are usually called "raw" or "zero" accounts. Commission is typically expressed in dollars per lot, where a lot represents 100,000 units of currency.

For example, FP Markets' Raw account charges $3 per lot per side, and spreads from 0 pips. This means that for every $100,000 you'll trade, you’ll pay $3 upon opening and another $3 upon closing your position. These accounts are popular with day traders and scalpers because they offer more price transparency and can have lower overall fees.

Swap fees

In addition, your broker will levy a swap fee if you use leverage and hold a trading position open overnight. A swap charge is calculated based on the interest rate differential between both currencies in each currency pair. For example, if you are long EUR/USD, you will pay a swap charge if the euro’s interest rate is higher than that of the US dollar.

Importantly, the swap charge can be either positive or negative. A positive swap charge means that you will pay the broker, while a negative swap charge means that the broker will pay you. Swap charges will vary depending on the currency pair, the market interest rates, and the broker.

Swap charges can have a significant impact on your profitability. If you keep a position open overnight, you’ll need to factor in the swap charge when calculating your potential profits or losses.

Here are a few things that you can do to minimise the impact of swap charges:

• Use a currency pair with a low interest rate differential;
• Close your positions before the end of each trading day;
• If possible, open a swap-free account. Swap-free accounts, also known as Islamic accounts, often are only available to clients of Muslim faith for religious reasons.

Account funding fees

You will also often incur fees when moving money in and out of your trading account, whichever funding method you use. Your bank, card provider, electronic wallet or cryptocurrency provider may charge fees of their own. These fees will be in addition to any deposit and withdrawal fees your broker may charge.

Currency conversion fees may also arise if the funds you deposit and your trading account are denominated in different currencies. For example, you’ll face currency conversion fees if you send Indian rupees but your account's base currency is in dollars.

Here are a few things you can do to minimise these fees:

• Choose the least expensive funding method.
• Choose a broker with no deposit or withdrawal fees. Some brokers will even cover any third party payment fees if you invest a large amount of money.
• Open a trading account in your own currency in order to avoid any currency conversion fees. For example, if you live in the European Union, open a trading account in euros. You'll find a list of each broker's account currencies in our review.

What are the risks of trading Forex?

Forex trading is risky as prices often move in unexpected ways, especially around news events, data releases and central bank interest rate announcements.

Here are three things you can do to manage your risks:

• Use stop-loss orders in order to cap each trade’s potential losses. A stop-loss order will automatically close a trade once the price reaches a certain threshold. If your trading platform allows, use trailing stop-loss orders to preserve unrealised profits.
• Use little to no leverage, until you’re an experienced trader. Leverage will magnify your potential losses, and could force your broker to close your positions if you’re unable to meet a margin call.
• Excess leverage could also cause you to lose more money than you invested. Look for brokers that offer negative balance protection to avoid this outcome. All brokers regulated in the European Union are now required to offer this guarantee. Most offshore brokers offer it too.

How to get started with Forex trading

Finding the right broker is easier than you think if you know where to look. We've summarised below a few items to consider, drawn from our guide to Forex brokers for beginners.

• Markets: look for a broker that offers the full range of markets you have an interest in, whether this is Forex, stocks and/or crypto-currency.
• Trading platform: choose a broker that offers a widely used trading platform, such as MetaTrader 5, MetaTrader 4 or cTrader. This will make it easier for you to find answers to any question you may have.
• Fees: take time to consider your broker’s trading fees, swap fees and account funding costs, as they will all have a material impact on your bottom line. You may need to create an account if that information isn't publicly available.
• Customer service: circumstances will arise when you need help with your account. Look for a broker that offers customer service in your language, at a time of day that works for you. We suggest contacting your preferred broker's customer support team before opening an account, to assess the quality and timeliness of their response.
• Regulation: you can take steps to protect yourself from scams and fraudulent actors by opening an account with a broker regulated in tier-1 jurisdiction. This is why TrustedBrokers only partners with regulated brokers and monitors the validity of their licences in near real-time. You'll also find direct links to their licences in each of our broker reviews.

If you are new to trading, consider opening a demo account with your preferred broker. A demo account will allow you to familiarise yourself with your broker and his platform. It will give you time to learn trading at your own pace, without putting capital at risk. Learn more about the pros and cons of demo accounts.

Last but not least, educate yourself through personal readings and research. TrustedBrokers hosts the Internet's largest free collection of trading ebooks, covering topics as varied as technical analysis, trading strategies and trading psychology. Your broker may also offer free learning material and webinars, even if you open a demo account.

Conclusion

The Forex market is a deep and liquid market, open 5 days a week, with low fees and the possibility of leverage. However, it isn't without its risks, especially if you are new to online trading. That's why you should consider whether Forex trading is right for you, and never invest more than you can afford to lose.

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