How to Get Started in Currency Trading - EarnForex on How to...Being global in nature, the Forex...

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How to Get Started in Currency Trading

Trap the Real Financial Potential Smartly

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Copyright © 2012 by Stephen White for www.EarnForex.com. All rights reserved. Produced in the United States of America No part of this publication may be stored in a retrieval system, reproduced, or transmitted by any means or in any form, electronic, scanning, photocopying, mechanical, recording, or otherwise, except as permitted under the Section 107 or 108 of the United States Copyright Act 1976, without the prior written permission from EarnForex.com. However, copying or sharing the ebook is allowed if the content is left intact. The sale of this ebook is strictly prohibited. It may not be sold, resold, or given to any person in any way. Limit of Liability/Disclaimer of Warranty: While the author and publisher have taken their ideal efforts in creating this e-book, they make no warranties or representations with respect to the completeness or accuracy of the book contents and specially disclaim any implied warranties of fitness or merchantability for any purpose. No warranty may be extended or created by the sale representatives or written sales materials. The contained strategies or advices may not be appropriate for your situation. Therefore, do not proceed without consulting with a professional, whenever the need arises. Neither the author nor the EarnForex.com shall be held liable for any kind of profit or loss or any other commercial costs, including but not limited to incidental, special, consequential, or other damages while trading currencies in any part of the world. This e-book is licensed only to make you familiar with the topic. Thank you for revering the efforts of this author!



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Introduction If you have ever gone on an international tour, you must have exchanged currency for buying the products as well as for enjoying the various services in the destined foreign nation. Regardless of where you exchanged the money and the number of times you did the exchange, you actually enter into a transaction in the biggest financial market on the planet, the Foreign Exchange (Forex) market via which trillions of dollars flow on a daily basis. As a matter of fact, the exchange rates tend to vary from one place to another so frequently such that the rate at which you exchanged the currency may not be the same after two hours at that same place. Depending on where you enter into the transaction, you are likely to end up obtaining either very less or much more than expected! This incessant frequent fluctuation in the exchange rates is what the traders in the Forex market tap to make huge profits. Being global in nature, the Forex market exists so that the traders can convert currencies from one to another in no time with some significant gains. Such a market is a fast-paced one wherein the traders seek ways to make quick profits from the small but frequent ups and downs in the exchange rates. Instead of exchanging money in order to gain the currency of a particular foreign country just like vacationers do, the traders simply earn profits by opening a valid account at a Forex broker. This mechanism is much analogous to that of trading commodities wherein you invest some capital to kick off and leverage the deals of higher values. Because of quick actions to make profits and leverage, Forex trading also has its own set of significant risks. It is not at all tough to get started to be a Forex trader but what is required is to trade with the broker that you can trust and to trade with the capital that you are ready to forego. What’s more to it is that some rules and regulations tend to govern this international market, which calls for a lot of research, knowledge, and study – the inescapable and indispensable trinity that will make you a successful trader in this online profitable market. While a few traders prefer to take their own decisions pertaining to trading, others try to trade with computerized robots. No matter which technique you select and employ according to your preferences and situations, Forex trading has multiple opportunities for those who want to make quick profits. However, the key is to begin slowly and steadily, and examine every aspect vigilantly and deeply! Keeping this in mind, the first step towards profitable Forex trading is to comprehend the Forex market, its basics, the essentials, and its trading strategies.



Contents Introduction ............................................................................................................................................ 3

Chapter 1: Comprehending the Meaning of Forex Market ....................................................................... 5

1.1 Currencies on the Trade Track........................................................................................................ 5

1.2 How Currency Prices are Determined or Influenced? ..................................................................... 6

1.3 Who Trades in the Forex Market? .................................................................................................. 7

1.4 Should I Trade in a Forex Market Flooded with Big Giants? ............................................................ 7

Chapter 2: Figuring Out the Working of Forex Market.............................................................................. 9

2.1 Forex Terms ................................................................................................................................... 9

2.2 Structure of Forex Market ............................................................................................................ 14

2.3 Types of Forex Transactions ......................................................................................................... 16

2.3 How Traders Make Money (Trade Mechanics) ............................................................................. 19

2.4 Types of Forex Accounts .............................................................................................................. 22

2.5 Types of Orders............................................................................................................................ 23

2.6 Forex Trading Hours ..................................................................................................................... 26

Chapter 3: Exploring the Forex Market Trading Strategies ..................................................................... 28

3.1 Overview ..................................................................................................................................... 28

3.2 Fundamental Analysis .................................................................................................................. 28

3.2 Technical Analysis ........................................................................................................................ 29

Chapter 4: Trading for the First Time in Forex ........................................................................................ 42

4.1 Demo Account: Demo Your Knowledge to Act Right ..................................................................... 42

4.2 Choosing an Ideal Online Broker .................................................................................................. 43

4.3 From Demo Account to Real Account ........................................................................................... 45

4.4 Money Management ................................................................................................................... 46

Conclusion ............................................................................................................................................. 49



Chapter 1: Comprehending the Meaning of Forex Market The foreign exchange market is where currencies of varying nations are sold. It is a currency market wherein the commercial organizations, investment banks, firms, and individual investors buy, sell, and swop one currency for another. In such a market, just imagine money as a commodity, which you buy in a hope that its value shall increase or sell in the anticipation that its value will decrease. Although you are buying the currency of another country, you do not purchase anything ‘physical'. This indicates that there is no physical exchange of money taking place in this market. Think of this as purchasing the shares of a public company where all transactions happen electronically through a trading account. Although not much media attention is gained by this market as compared to stock market, the foreign exchange market is the largest monetary marketplace in the world as it is only one to deal with almost $5 trillion worth of transactions every day. So, simply put, Forex is the market in which money or currencies are traded.

1.1 Currencies on the Trade Track Varying currencies are utilized in different places across the globe. In the United States of America, the US dollar is the currency; while Australia’s formal currency is the Australian Dollar. Similarly, the Great Britain uses Pound as its currency, while India’s currency is Rupee. At any point in time, each currency in the world has a different value that is measured in terms of other currency. This means that the price of ever currency is relative! For example, the value of 1 Euro in the Forex market may be equal to 1.372 USD but this value changes from place to place and from time to time. This indicates that a trader with 6.86 USD can gain 5 Euros if he sells it in the Forex market but it is necessary to determine the profit that can be made by this deal. This is exactly what foreign trading is all about! A Forex transaction always takes place between two currencies. This is the distinguishing point for the new traders who come from the stock or futures markets where each trade happens in dollars. In the Forex market, the currencies are indicated by their corresponding symbols of three letters, wherein the first two letters denote the country name and the third letter represents the name of the currency in that country. For example, in the ‘CHF’ symbol that represents the Swiss Franc currency, ‘CH’ stands for ‘Confoederatio Helvetica’ that is the Latin name of Switzerland. Table 1.1 lists the major currencies according to the descending order of their trading volume. The remaining currencies are treated as minors.

Symbol Country Currency USD United States of America Dollar

GBP Great Britain Pound

JPY Japan Yen

EUR Euro Nations Euro

CHF Switzerland Franc

CAD Canada Dollar

AUD Australia Dollar

NZD New Zealand Dollar

Table 1.1: Major Forex Currencies as per the Trade Volume Unlike a normal product market, there is no one-stop shop in this market for trading currencies as the trade is done via a lot of individual dealers or financial centers across the globe. Due to high demand of currencies, Forex trading is done five days a week and 24 hours a day wherein currencies are traded



globally among the chief financial centers of New York, London, Tokyo, Singapore, Paris, Hong Kong, Sydney, Frankfurt, and Zürich. Unlike the stock market, the currency market has no central exchange such as the London Stock Exchange. In fact, this market is an interbank market that means it is an interconnected network of banks and institutions, which is explained in detail in Chapter 2. Due to the persistently boosting technology for trading, currency trading has now become easier and more accessible. Unlike the past when Forex was the realm of government or firms with much wealth, the market is now giving an opportunity to any average seeker to open an account for currency trading – thanks to computerized trading through Internet! Yes! With only an Internet connection on your computer, you can earn valuable Forex profits. As a fact, not all currencies are tradable; some brokers offer very limited set of currencies for trading.

1.2 How Currency Prices are Determined or Influenced? It can be easily known that 1.25 US Dollars is adequate to purchase cold drink but can it be so smoothly known how much is $1.25 in terms of Mexican Pesos, Yen, or Australian dollar? Actually not! As a matter of fact, this relative definition of prices is set by the economy itself! There are several ways in which the value of a particular currency is set by the performance of the economy it symbolizes. For example, if the economy of the U.S.A. is performing very well, the value of Dollar is likely to increase as compared to other currencies. This is what the current Forex market scenario is! Table 1.1 reveals that the US Dollar is the king of the market. In fact, as per the International Monetary Fund, this currency has a share of around 62% in the official foreign exchange reserves of the world. There are many reasons why USD plays a central role in the Forex market but one of the main reasons is the economy of the nation, which is largest, strongest, and most stable. During the 20th century, the currencies were traded with valuable metals such as silver and gold. The most common was the Gold Standard that hooked the US dollar up to the value of 1 ounce of gold followed by the pegging of other currencies to the dollar. These other currencies used to fluctuate by a margin of maximum 1%, which was termed as the Fixed Exchange Rate despite this meager fluctuation. Today, this mechanism is no more present. The Forex trade now occurs at Fluctuating Exchange Rate that is determined by the demand and supply of that particular currency in the market just like a commodity. Typically, the currency prices are determined by a very big matrix of continuously changing economic as well as political conditions. However, the most influencing ones are global trade orders, interest rates, political stability, and inflation; which can cause high volatility in the prices of currencies. At times, the government literally steps into the Forex market to leverage the value of its nation’s currency either by inundating the market with its national currency for lowering the price, purchasing the national currency for raising its price, or by selling other currencies for raising the price of the national currency. This action is termed as central bank intervention.

http://www.babypips.com/forexpedia/IMF



Selling other currencies or purchasing national currency would result in the decreased supply of the national currency, making the price of the national currency to rise in the market. A vital thing to remember is that most currency trading happens according to the speculation. A majority of the trading volume is offered by the traders that purchase and sell currency according to the price changes within a day. The amount of buying and selling volume at any given time, the liquidity, is the scale of this speculative market and is always high. As a result, it is easy to exchange currencies for almost anyone. Liquidity determines the changes in prices over time but the huge trading volumes in such a liquid market have very little influence on price. Nevertheless, the trade volume and size of the Forex market make it unachievable for any single entity to dominate the market for a long period.

1.3 Who Trades in the Forex Market? Putting in simple terms for a beginner, two chief groups are involved in trading currencies according to their motive: To protect themselves against the Forex fluctuations or to speculate for profit. Approximately, 10% of the daily volume comes from those who have the former motive. These entities such as institutional investors and multinational companies buy or sell goods and services in a foreign nation and are obliged to convert profits made in the currency of that nation into their own national currency such that they do not suffer a loss due to fluctuations. This is done by making the deal at a fixed price, which is known as hedging. Central banks can also hedge in order to defend their domestic currencies or to improve the financial imbalances. The remaining 90% of daily volume comes from those investors who trade for gains on the basis of speculation. These speculators include big commercial banks (main players), and private or home-based traders of which the former group trade in millions. A new term has been coined in a past couple of years to represent new traders like you – Retail Forex Traders that represent a small percentage of the daily volume. Apart from these players, there are brokers who work as private individuals for bringing buyers and sellers together. They earn by charging a commission per transaction. In short, big commercial banks, big companies, government and central banks, brokers, speculators, daily individual traders, and multinational corporations play on the landscape of highly volatile Forex market to:

Buy goods and services of other nations

Deal in financial assets

Alleviate the risk of price movements through hedging Big corporations such as Walmart whose branches are spread over the world must be receiving its earnings in the currency of that particular nation where its specific branch will be. Such commercial enterprise doing business in a foreign nation is at risk because of fluctuation in the currency value. Therefore, it steps into the foreign exchange to hedge the risk by setting up a fixed rate at which the transaction of exchange is done at some time in the future. On the other hand, a speculator enters into the transaction to make a profit. A proper working structure of the market will be discussed in detail in Chapter 2.

1.4 Should I Trade in a Forex Market Flooded with Big Giants? Yes! You can always think of trading in such a market if you really wish to do so! You need not be a big entity or a millionaire in order to trade Forex. In fact, several traders step into this market for making money by buying and selling currencies at a profit. Factors such as the decelerated global equity markets and waning global interest rates have triggered the need of chasing and grasping new opportunities for the investors.



At the same time, globalization has resulted in increased trade and foreign investments, which along with fluctuating exchange rates has given rise to a big international market with lots of exciting opportunities. This is none other than the Forex market that provides matchless profit potential for trading in any market condition. This is exactly where such a market differs from other markets such as equity and stock. Here are some great reasons for you to enter into this new promising market.

No Central Exchange: As compared to the stock market, the Forex market has no physical central exchange. In the presence of such an exchange, the money making opportunities would have become limited (by commissions only).

No Monopoly: The Forex market is so huge and spread out with innumerable participants that no single participant can dominate or control the currency prices for a long time. Not even the Central Bank can do so! Indeed, the intrusion of the giant central banks is now transitory. This is very feasible and beneficial aspect of this market as compared to the futures market.

Fewer Rules: The Forex market does not operate with stringent rules that govern the stock market. This is because it is not regulated by any central governing body.

No Extra Overhead: Except for the brokerage fees or commissions, no additional overheads exist in the form of clearing, exchange, or government fees.

Trading at Your Time: Because the Forex market is open 24 hours a day, you can choose your own time to start a trade.

Entry and Exit at Will: Transactions worth of trillions a day make this market highly liquid! This facilitates the traders to get in and out in any market condition. Just a click of a button can make you sell and buy currencies. The market is too big to hold you for long!

No Limit on Size: There is no limit on the currency that you can purchase or sell. So, if you have $1 million USD to sell, you are free to do so!

High Liquidity: Liquidity refers to the power of an asset to get converted quickly into cash without any price discount. Applying this concept to the Forex market, it means that a trader can move big amounts of money in and out with minimal price movement.

Online Transactions: The Forex market has received a great boost due to the advent of Internet traders and platforms.

Trade More than the Account Balance: Brokers allow traders to enter into trade using leverage, the ability to trade more money than what is there in the trading account. For instance, if a trader trades at a leverage of 1:60, he can trade $60 for every $1 present in the account. This indicates that he can manage a trade of $60,000 by depositing $1,000 of the total capital. You will learn about leverage in detail in Chapter 2.



EUR/USD Base Currency

Quote / Counter Currency

The number of these

To buy one unit of this currency

Chapter 2: Figuring Out the Working of Forex Market Just like other financial markets, the Forex market has its own structure, working mechanism, set of trading conventions, and related idioms. For a beginner, it is very much vital to understand the terminologies and mechanics of this market. Although this may take some time, the fact is that the basics are quite straightforward.

2.1 Forex Terms Before you try and understand the working of the Forex market, let’s first take a look at the different terminologies used in this souk.

2.1.1 Currency Pairs Each Forex trade is comprised of concurrent buying of one currency and selling of another. The two currencies involved in a trade or transaction are always quoted in pairs, for instance, EUR/USD. This quotation helps in signifying the value of one currency in terms of the other by comparison. The first currency stated before the slash in the currency pair quote is known as the base currency, while the second one after the slash is known as the quote or counter currency. As the name suggests, the base currency forms the basis of a buying or selling transaction.

EUR (Base Currency)/USD (Counter Currency) = 1.2589 (Rate)

If you wish to buy, the rate indicates how many units of the quote currency are required for you to buy one unit of the base currency. And this is nothing but the exchange rate or currency rate. Similarly, at the time of selling, the rate specifies how many units of the quote currency you can obtain after selling one unit of the base currency. For instance, if the EUR/USD currency pair is quoted as EUR/USD = 1.2589, it means that purchasing 1 Euro requires US$1.2589. The inverse of this quote is USD/EUR = 0.7943, which means that US$0.7943 would give you 1 Euro.

2.1.2 Pip A majority of the currency pairs are quoted up to four decimal places, wherein each place is individually called a Percentage In Point (PIP). So, the unit of measurement that signifies a change in the value of the currency pair is known as a pip. For instance, if the rate of EUR/USD changes from 1.2572 to 1.2573, then the USD rise of .0001 is ONE pip. Typically, a pip is referred to the smallest change in the last decimal place of a rate in the quotation. So, if the quote currency is USD in any pair, one pip is always equal to 0.0001 as this is the smallest possible change. However, there are exceptions when the pairs have Japanese Yen where one pip is 0.01 because they are quoted only up to two decimal places. The pip for most currencies is 1/100 of 1% of the currency unit. The only exception is the Japanese yen that has smaller value than the American Dollar. In this case, the pip is 1/100 yen. Therefore, pip is the smallest unit in the Forex market, but at the same time, it is the biggest factor to affect your profit or loss margin. This becomes when you get involved in multimillion transactions



wherein the difference of any of the decimal places results in a big difference of significant amount of currency being exchanged. Because each currency owns its relative value, it becomes vital to calculate the pip value for that stated currency pair. Let’s see an example on how to do so.

Exchange Rate Ratio: USD/CAD = 1.0300 Pip Value in Terms of Base Currency = Exchange rate ratio x Value change in counter currency = [1 USD/1.0300 CAD] x [.0001 CAD] = [(.0001 CAD) / (1.0300 CAD)] x 1 USD = 0.00009709 USD per unit Now, if a trader trades 10,000 units of USD/CAD, one pip change that the exchange rate undergoes would be around 0.97 USD change (10,000 units x 0.0000970 USD/unit).

2.1.3 Pipette Pipette is nothing but a fractional pip. There are a few brokers who quote the pairs up to 3 or 5 decimal places for more precision. For instance, if GBP/USD rate moves from 1.50521 to 1.50523, then the noticeable .00002 USD rise is known as two pipettes.

2.1.4 Lot This refers to the specific amount of units or money agreed to be dealt with in a transaction. It is the trade size and is typically a multiple of 100. The standard lot size is 100,000 units of base currency. However, there are options such as mini (10,000), micro (1,000), and nano (100) lot sizes. A nano lot is the smallest tradable lot that most brokers offer as 100 units of your funding currency. So, if your trading account is funded in US dollars, this lot is $1,000 worth of the base currency you trade. Both nano and micro lots are good for the newbies who need easy and smooth trading. Moreover, there are brokers that enable you to trade with even 1 currency unit. Each lot has its own pip value that changes according to the currency pair. For example, the value of pip for EUR/USD is $10 by default in case of standard lots, $1 in case of mini lots, $0.10 in case of micro lots, and $0.01 for nano slots. The formula to determine the pip value per lot size for EUR/USD trade is: Lot size x One pip, i.e., 100,000 x 0.0001 = 10$ in case of standard lot size. Something as small $1 per pip may look like a small amount but if the market moves 100 pips within some hours, which is against your anticipation, loss of $100 that you will be bearing is significant.

2.1.5 Exotic Currency Pair This is a pair wherein any of the two currencies is the USD and the other is a currency from a developing, riskier, and smaller country such as the Mexico Peso (MXN). There are around 25 exotics that a retail trader can trade but at a very high cost. Yes! Trading these pairs can be expensive due to fewer market participants and traders dealing with them, which force the brokers to increase the costs of these less traded pairs. These pairs are not that liquid! Some of the examples of these pairs are USD/HKD (Hong Kong Dollar), USD/SGD (Singapore Dollar), USD/ZAR (South Africa Rand), USD/MXN (Mexico Peso), and USD/THB (Thailand Baht).

2.1.6 Major and Minor Currencies The major currencies are those that are most frequently traded, and therefore, are most liquid in the Forex market. They are eight in total: USD, AUD, CAD, EUR, NZD, JPY, GBP, and CHF. The remaining currencies are minor currencies. In terms of pairs, there are seven pairs that are most frequently traded as shown in the chart.



2.1.7 Cross Currency This refers to a pair wherein neither of the two currencies is USD. These pairs may reveal unpredictable price movement or behavior because the trader has set off two USD trades. For instance, starting a EUR/JPY trade is same as buying a EUR/USD currency pair as well as selling a USD/JPY. GBP/EUR, EUR/JPY, and GBP/JPY are most frequently traded cross rates.

2.1.8 Bid Price and Ask Price/Offer Price The bid price is the price at which the market participants are ready to purchase a specific currency pair. It is a price at which the trader vends the base currency. On the other hand, the offer or ask price is the price at which the market participants are ready to purchase the base currency. For example, in the quote USD/JPY 89.29/89.32 that is the quote convention (can be written as USD/JPY 89.29/32), the bid price is stated to the left of the slash while the offer price is on the right. It simply means that you can buy 1 USD for 89.32 Japanese Yen (offer or ask price) or sell 1 USD for 89.29 Japanese Yen (bid price). Kindly note that the bid price is always lower than the ask price. Conventionally, two digits are shown after the decimal point. However, if the difference between the offer price and bid price is over 100 pips, three digits are shown after the slash mark, for instance, USD/JPY 89.29/380). If the pip difference is this much high, it is the sign of a weak quote currency!

2.1.9 Bid/Ask Spread Simply known as spread, bid/ask spread is ask price – bid price. In the above given USD/JPY quote, the bid price is 89.29 and the ask price is 89.32, which means the pair has three-pip spread. The spread is usually quoted in pips. The spreads are actually higher in case of trading with exotic currencies.

2.1.10 Transaction Cost This is nothing but the bid/ask spread itself. So, the transaction cost = spread x units traded. The typical characteristic of a spread is that it is also the cost of transaction for a round-turn or a round trip trade. In such a trade, a complete transaction is made via an entry (buy or sell) and an offsetting exit in the same



currency pair of the same size. Usually, the transaction cost of the cross currency and exotic pairs are frequently higher, and therefore, the newbies do not attempt to trade with these currencies. Apart from the bid/ask spread, the transaction cost may also include commission that some brokers charge for executing an order.

2.1.11 Position This refers to the net total trades made in a specific currency pair, which a trader holds in the trading account. Position is also expressed by buying or selling, i.e., the amount of a currency either owed or owned by an investor. Think of it as a commitment to buy or sell the specific currency. This total can be open, closed, short (more sales than purchase), or long (more purchase than sales). A Forex position determines where you stand in the market and whether your trades are successful or not. An open position means a trade that has been set or entered but is yet to get closed with an opposing trade. For example, an investor enters into the market by buying USD/CAD, which means he has an open position in that currency. The position is said to be closed when he sells USD/CAD. If the duration between the open and close position extends beyond a day, it is known as long-term Forex trading.

2.1.12 Long and Short Positions These terms are related to your decision of buying or selling. If you buy, which actually means to purchase the base currency by selling the quote currency, you would surely want the value of base currency to increase so that you can sell the brought units back at a higher price. In the language of traders, this is known as ‘taking a long position’ or ‘going long’ to buy. As a shortcut, long = buy = bull. In simple terms, a long position refers to holding a position in which a currency is brought (you go long on that currency) in a hope for its value to rise for making profit. Similarly, if you have decided to sell that means selling the base currency for purchasing the quote currency, you would surely want the value of base currency to decrease for purchasing it back at a lower price. This is known as ‘taking a short position’ or ‘going short’. So, short = sell = bear. So, a short position refers to holding a position in which the currency is sold in a hope for its value to depreciate for making profit. For instance, if you buy USD 10,000 units worth of USD/EUR, it is said that you are short on EUR and long on USD. In other words, you have a long position on USD and short position on EUR.

2.1.13Broker This Forex entity refers to an individual or a firm that brings together the like-minded buyers and sellers in the market or gives them access to the trading platform also popular as trading software to make trades and manage the account. Also known as retail broker and trading broker, the entity is compensated by the bid/ask spread. The individual or the company also monitors and advises the investors or traders on the present market conditions.

2.1.14 Order It is a command that a trader gives to a broker to sell or buy the currency at a certain rate. There are many types of orders, which we will explore later in this e-book.

2.1.15 Leverage This is the ratio of the capital amount to the required margin used in a transaction. It is the way to control huge money amounts with a relatively less amount of capital or investment. For example, let’s



assume you open an account with $1,000 and wish to open a position of $20,000 by buying two mini lots of EUR/USD (1 mini lot = $10,000). In this case, the leverage is 1:20 ($1,000 / $20,000). To determine the leverage, divide the margin balance in the account by the total value of the open positions. Further, to control a position of $100,000, your broker may keep aside a margin of $1,000 from your trading account. Therefore, the leverage is 1:100 ($1,000 / $100,000). This is too high leverage but is not as risky as it appears due to the fact that currencies do not fluctuate as high as stocks in the stock exchange. In fact, a majority of currency pairs do not move over 1 cent per day on an average, which is not even 1% change. So, in order to make a significant return, many traders depend on leverage (debt) to boost their potential returns for such meager moves in the rate. If currencies moved or fluctuated as high as stocks, the brokers will never offer such big leverage amounts. Usually, leveraging tends to differ dramatically, ranging from 1:2 to 1:3000. While leveraging can make you earn significant gains, it can also go against you, making it a risky affair. For instance, if the currency in one of your trades fluctuates or moves in the opposite direction of what you had anticipated, the leverage would surely increase your losses. In order to avoid it, experienced traders choose a strict trading style that involves the implementation of limit and stop orders, which will be discussed in the Types of Orders section.

2.1.16 Margin It refers to the minimum security deposit that the investor needs to make while opening a new account at broker for Forex trading. This minimum amount tends to differ from one broker to another, and that it may be anywhere from between $100 and $100,000. Whenever you make a new transaction, some amount of the balance in the margin account is kept aside as the early margin requirement for the fresh trade, which is dependent upon the currency pair, the rate, and the number of units (lots of base currency) traded. In the example given in the Leverage, $1,000 is the margin that is required as a ‘good faith deposit’ to open or maintain a position with the broker. Given that a trader wishes to buy a lot of $100,000 and has been offered a leverage of 1:100, he only has to invest $1,000 (1% of lot worth) of her or his own money into his margin account! The margin required is usually denoted as a percentage of the position amount, such as 2%, .5%, or .25% based on which you can determine the maximum leverage you can carry with your trading account as shown in Table 1.3.

Margin Required Leverage

0.25% 1:400

0.50% 1:200

1.00% 1:100

2.00% 1:50

3.00% 1:33

5.00% 1:20

Table 1.3: Margin Required and Leverage Estimated

For example, if the margin is 0.25%, you need to divide 1 by 0.25 and multiply the figure by 100. This comes to 400 and putting it in ratio form, it comes to 1:400. Or simply ask yourself, 25% of what shall give me 100? It is that easy! The relationship between the margin and leverage or formula to calculate any of the two is:

Leverage = 100 / Margin Percent Margin Percent = 100 / Leverage



In case the leverage is not mentioned, you can calculate the margin required by the formula: Margin Requirement = Current Price x Units Traded x Margin Percent / 100 There are some more terms with regards to margin, which you must know.

Account Margin: Total money in your trading account

Used Margin: Amount locked up by the broker for opening or maintaining your current positions. You can only use this sum when the broker returns it after closing the current positions or after obtaining a margin call

Margin Call: Buzz by a broker for closing all or a few open positions at the market price when the amount in your account is inadequate to cover for the possible loss

Usable Margin: Money in your account usable for opening new positions

Example: Let’s assume that you have opened an account with $5,000 and a leverage of 1:500. Now, you wish to enter into the trade of 5 standard lots of USD/JPY, which is 500,000 USD. To determine the margin, simply divide the leverage by lot size = Lot Size/Leverage = 500,000/500 = $1,000. Therefore, your margin is $1,000 that you need to deposit, which leaves $4,000 in your account.

2.2 Structure of Forex Market Unlike other financial markets, the Forex market has no central clearinghouse where the two parties (seller and buyer) get together to carry out a transaction. Rather, the big international banks known as the Interbanks stay on an electronic network and help set the exchange rate for currencies across the globe, at which the investors, speculators, and other participants agree to sell or buy to each other. This is the reason why the foreign exchange market is also called the Interbank or Over-the-Counter (OTC) market. To get a clear picture of this, let’s recollect the structure of stock market. The stock market by nature is centralized, and therefore, monopolistic. A single entity or the central house controls prices and all buyers and sellers are required to go through this entity. In case the sellers turn out to be more than buyers, the central house tends to easily manipulate the prices to fulfill its own selfish motives. However, spot Forex trades are decentralized, which means that the parties need not go through a central house or exchange such as the New York Stock Exchange. In fact, there is no sole price at any point for trading currencies. This means that the quotes from the various currency dealers tend to differ. Further, Forex trading can be done from anywhere, any place through the Internet. Depending upon the parties involved in Forex transactions, the Forex market is split into the wholesale or interbank market and the retail or customer market. This means that the Forex market is a two-tiered market. The interbank market is similar to a wholesale market whose main function is to set the prices. It mainly consists of hundreds of big banks such as Barclays and Deutsche, and some small banks worldwide but also comprises of non-bank dealers (20%) and Forex brokers who only match the sell and buy orders and are not FX specialists. The customer market is a kind of retail market wherein the banks carry out transactions with individual and institutional customers such as governments and commercial companies.



In the interbank market, the biggest banks enter into a transaction directly with each other through interbank brokers or electronic brokering systems such as Reuters or Electronic Brokering Services (EBS). Credit dominates this market, as banks trade only with those banks with whom they have established credit lines or relationships. All the banks in this market can view the exchange rates that everyone is following. But this does not mean that all banks have to follow the apparent rates. The exchange rates are highly dependent on the credit relationship between the two parties. It is similar to requesting a loan from a local bank wherein a better credit score would grant more affordable interest rates and bigger loan. Many banks such as banks in emerging markets and small community banks, institutional investors, and corporations cannot see these rates because of no set credit lines with these interbanks. This compels the small participants to transact with only one bank, and this indicates lower competitive rates for the participants down the hierarchy. However, the online trading revolution has changed this scenario by connecting the retail market with the interbank market in a low-cost manner. Let’s now explore the hierarchy of the Forex market structure. 1. Interbank Market: At the top of the Forex hierarchy is the interbank market wherein the

participants trade directly, handle huge transactions, and set the bid and the ask prices as per their anticipated currency movements. The resulting huge flows of money dealt by the big banks in this market drive currency prices. They trade electronically with each other via the the Reuters Dealing 3000-Spot Matching or Electronic Brokering Services (EBS). In most cases, these participants trade on behalf of their clients such as other banks, individual, and financial institutions.

2. EBS and Reuters: These two are rival companies offering the best exchange rates for the different currency pairs for matching the selling and buying requests of the bank dealers. However, for the EBS brokering platform, USD/JPY, EUR/USD, EUR/CHF, USD/CHF, and EUR/JPY are more liquid. On the other hand, EUR/GBP, GBP/USD, AUD/USD, USD/CAD, and NZD/USD are more liquid for the Reuters platform.

3. Retail Market Makers (RMM), Retail Electronic Communication Networks (ECNs), Hedge Funds, and Commercial Companies: These are the institutions that lack better credit relationships with the interbank market participants due to which they transact only through commercial banks. These participants, therefore, have to face a bit higher rates than the ones in the interbank market. You will learn about market makers in detail in Chapter 3.

Retail Market Makers and Retail ECNs: They are the brokers who serve private individuals (retail traders). While the former sets the bid and the ask prices on their own, the latter combines the different bid and ask prices from the formers as well as from the other



participants linked to their platform for offering the best exchange rates. The ECNs are online trading platforms or software programs with whom the risk of manipulation is minimized as compared to desk brokers, as they directly route the orders to the best available ask or bid price in its system. The retail market makers allow you to open a highly leveraged margin account for trading currencies online. Further, they also invite other capable parties such as hedge funds, retail traders, corporations, and other banks for transactions.

Hedge Funds and Commercial Companies: These are speculators, hedgers, or investors that have international portfolios of diverse holdings such as stock and bonds. They aggressively participate in the spot market and work with the aim of earning profits.

4. Retail Traders: These are individual investors or speculators who were once not allowed to get involved in the Forex market. However, the advent of electronic trading and the introduction of retail brokers have removed the barriers, opening the doors for people like you to play with the giants for profits through Forex brokers by dealing in small lot sizes.

5. Governments and Central Banks: These are the chief market players but are not always involved in the Forex market. National governments and central banks such as the European Central Bank and the Federal Reserve step into the Forex market for their trade payments and managing foreign exchange reserves. Central banks influence the exchange rate when they change the interest rates for regulating inflation and control the demand and supply of their currencies. They also intervene in the market due to dissatisfaction of the present exchange rates. Intervention takes place by huge sell/buy operations that tend to change the exchange rates, making themselves significant market players.

A market maker is a broker, dealer, or a trading platform (online software) that quotes both the bid and ask price. This entity also forms a two-sided marketplace by taking the short as well as long positions so that the profit is earned from the difference in spread. This is essential for you, as when you put a sell order, the market maker tends to buy the currency from you, even if there is no seller lined up. In this way, market makers literally "make a market" for the currency pairs.

2.3 Types of Forex Transactions There are six different types of transactions that you can make in a Forex market. These are nothing but the different ways to trade in this market for investment or speculation.

Spot: This is the fastest way to trade wherein the currencies are traded on the spot at the present market rate. In practice, the settlement occurs within two days without signing a contract. The exchange rate effective for such a transaction is called the spot rate, while the market is known as the spot market. Such transactions are highly liquid, have tight spreads, and are voluminous in nature. Brokers in this market provide free research and feasible account opening schemes where the margin is as low as $25, making it easy to enter into this market.

Forward: This is a contract-based transaction that is most sought way to trade because of its ability to minimize risk. The buyer and seller agree to perform a transaction at some future date but with a rate that is agreed today, which means that no financial exchange happens until that fixed date. When that date arrives, the currencies are trade at the pre-decided rate, which is very much in favor of exporters and importers who do not then have to face fluctuation risk. In relation to spot rate, the forward rate may be at discount, par, or premium. The forward rate is said to be on par with the spot rate if both of them are same at the time of trade. Kindly note



that there is no time limit in this trade. A transaction can be performed on a future date which can be before or after a few days from the current date.

Futures: This is much equivalent to a forward contract, except that the agreeable day of transaction needs to fall within the three months from the day of contract. So, there is a time limit within which the trade must be closed. Further, unlike a forward contract, the time period and size of the transaction are fixed here.

Swap: This one is a kind of forward transaction wherein both buyer and seller agree to perform a currency swap for a particular period of time. Swap means concurrent sale of spot currency for the forward purchase of the same currency or the purchase of spot for its forward sale. They also accept reversing this swap and going back to their original positions at some point of time in future. In simple terms, two investors agree to change their currencies for some time after which they change their currencies back on a pre-decided day. Such a transaction is not necessarily performed in the Forex market although it is most common and normal one.

Option: This is the right (not obligation) conferred upon an investor to exchange currency on a desired but fixed date with other denomination at a fixed exchange rate. If an option is sold, the trader becomes obliged to trade the currency. The option transaction is highly popular because of the high exchanges that sink huge money into the Forex market daily. However, the con in trading options in Forex is that the hours are limited for a few options and the liquidity is not as high as the spot or futures market.

Exchange Traded Fund (ETF): Regarded as the latest transaction type, this is an open-ended deal that is carried out at anytime during the trading day. However, the market of such a transaction is not open 24 hours. An ETF usually abides by price movements of prominent currencies and then go for a rise or fall in the currency value according to the trend of movements. It can hold a set of stocks as well as a few currencies so that the investor gets a chance to expand the trade with different assets. Usually, financial institutions create such transactions that are traded like stocks via an exchange.

Of all the transaction types, the spot and forward types lead the Forex market share as shown below.



Example of Real-life Transaction – Hedging Strategy I Let’s say a company in the U.S.A agrees to sell a gadget for 300 million Euros but it will take 30 days to deliver. The company will obtain 300 million Euros for its gadget but what if the Euro loses its value against the USD after 30 days? It is obvious that when converted, the value will not be as worth as expected. Today’s Rate = 300 million Euros at 1.7000 USD/EUR = $176 million Estimated Movement of USD/EUR after 30 Days: 1.7500 Estimate Future Loss = 300 million Euros at 1.7500 USD/EUR = $171 million ($5 million loss) Therefore, the company enters into the Forex market for hedging against the probable loss from exchange rate fluctuations in future. For averting the loss of $5 million, the company enters into a forward contract with a market maker who shall then obtain 300 million Euros in 30 days at the today’s agreed exchange rate (1.7000 USD/EUR). Therefore, the U.S.A firm is promised $176 million as it has hedged against the risk of obtaining less than the actual worth. The forward contract is a legal agreement, and so, signifies an obligation on both sides. Hedging is a strategy to protect against a predictable big loss. It is a way to cut down the amount of loss in case something unexpected happens. It is much like trading with an insurance cover. Example of Real-life Transaction – Hedging Strategy II Scenario 1: An oil firm needs to purchase crude oil in 6 months by making payment in American Dollars. Now, if the price movement is positive, i.e., the dollar depreciates; the firm can buy oil at the spot rate because the rate has become cheaper. However, what if the dollar appreciates as compared to the current spot rate? Solution: The firm can enter into a suitable options contract, another way to hedge foreign exchange exposure. An options contract confers the right, but not obligation, to an international firm to sell (a ‘put’ option) or buy (a ‘call’ option) a fixed quantity of currency pair at a specified exchange rate at some date in the future. So, in this case, the oil firm can choose to buy a Call option, i.e., the right to buy the required amount of dollars at a fixed rate (strike rate) on the specified day. In this way, the firm benefits by paying a lower price to buy USD. Call Option is executed when risk is an upward trend in price, while Put Option is utilized when the risk is a downward trend. Scenario 2: Assume that it is 3rd December 2012 and the price for EUR/USD is 1.4000. You suspect that the price movement will be downwards due to some influencing reports coming out soon in next two months. Hedging Solution: You now approach your broker and request him to buy a EUR put/USD call, which is termed as ‘EUR put option’ at a strike price of 1.3900 and with the expiry date of February 2, 2013. The broker then conveys that that this option will cost you 10 pips (this is the premium you pay). Assuming that the new reports force the rate of EUR/USD to fall up to 1.3850, you can now exercise your put option to enjoy a profit of $40 pips (1.3900 – 1.3850 – 0.0040). Mostly, hedge funds and big export/import companies enter into hedging whose successful outcome is ensured only after gaining a lot of experience. Because of the risk of excess losses on spread, a normal trader must avoid hedging.



2.3 How Traders Make Money (Trade Mechanics) A Forex investor or speculator enters into the market by either selling (short) or buying (long). In such a market, he does not need to possess that particular currency in order to sell, which is certainly a big benefit as the trader can buy it back at a lower rate later for making profit. Moreover, there is no need to wait for the price trend to go up for purchasing or for it to fall down for selling. As a result, the Forex market is a two-way souk that routes traders to profits irrespective of trend going up or down. Profit or loss is calculated by the trading platform automatically on a continuous basis throughout the trade. Profit or loss refers to the difference between the currency’s value at the time of trade (entry) and at the time when it was over (exit). If you want to enter into Forex trading, it is vital to understand how to calculate profit or loss. Just recall the scene of auction and compare it to the trade or transaction in Foreign exchange. On comparison, you will find that the value of the currency (product in auction) is described as Bid and Ask prices (Bid price = selling price and Ask price = buying price).

2.3.1 Profit/Loss in Long or Short Position In a long trade on a pair, profit or loss refers to difference between the Ask (buying) price at the time of entering into the trade and the bid (selling) price at the time of exiting or completing the trade. On the other hand, in case of a short trade, the difference between the bid price while entering and the Ask price at exiting determines the profit or loss.

Example Let’s assume that you as a trader predict that Euro will rise in value as compared to the USD. So, you place a market order to buy EUR/USD at 1.4480/85. Let’s also assume that you have opened a standard size account with your broker. Therefore, buying at Ask price: Buys 100,000 Euros by giving away $144,850 US Dollars Now fortunately, after the trade, the value of the Euro increases as per the prediction. Therefore, you choose to close or exit the position (trade) by selling EUR/USD at the market price of 1.4500/02. So, selling at Bid price: Sells 100,000 Euros by acquiring $145,000 US Dollars At the time of purchasing Euros, you gave away $144,850 USD and now at the time of selling the Euros, you gained $145,000. Therefore, you made a profit! Profit: ($145,000-144,850) = $150

2.3.2 Profit/Loss as per Pip Value Relative to Lot Size You have already learned to calculate pip values that can help you determine the profit or loss, as currencies are measured in pips.



Example Let’s assume that you are buying USD/CHF at 1.4530/1.4540. Therefore, you will buy the 1 standard lot of currency at the ‘ask’ price: Buys 100,000 USD by giving away CHF (Swiss Francs) worth 145,400 After some hours of this transaction, you see a price movement of up to 1.4550. Because of this upward movement, you choose to exit or close your trade at this rate, which is now 1.4550/1.4560. Because you have opened a long position, you will now have to close it by initiating a short position by selling at the bid price. So, Sells 100,000 USD by accepting Swiss Francs worth 145,500 Pip = Difference between the price movements (ask price at the time of entering and bid price at the time of selling) = 1.4540 and 1.4550 is .0010 or 10 pip profit Value per pip = (.0001/1.4550) x 100,000 = $6.87 ------- [(One pip/current rate) x lot size] Profit = Pip value x pip profit = $6.87 x 10 = $68.7 You can see that pip wise profit is less than the direct comparison as shown in the previous example.

The above formula for calculating the value per pip according to the lot size changes for those currencies wherein USD is not the base currency. It changes to (One pip x lot size) for the above example The currency pairs in which USD is the quote currency are known as direct currency pairs, while those in which the USD is the base currency, they are known as indirect currency pairs. So, the changed formula is for the indirect currency pairs.

2.3.2 Profit/Loss as per Margin and Leverage Trading in Forex market according to the margins allows you to buy more. For example, if you have $3,000 cash in your account that has a leverage of 1:400, your buying power is worth $12,00,000 of currency because you only have to give 0.25% of the purchase price as a deposit (margin). With an increase in buying power, you get a chance to boost your total returns with less cost. However, trading on margins needs experience, as it can amplify both losses and profits.



Example of Margin Affecting Profit/Loss Scenario 1 (Profit): Let’s assume that a trader has $3,000 in his account and he goes long (buys) a standard lot of USD/JPY at 96.20 with the maximum leverage of 1:50. Therefore, Margin Percent = 100 / Leverage = 100 / 50 = 2% Margin = 2% of lot size = 2% of 100,000 = $2,000 Assume that the rate moves to 97.20, which means: Price Movement: 100 pips Value per Pip: $10 per pip (in case of standard lot) Profit: Pips moved x Value per pip = 100 x $10 = $1000 The trader has earned a 50% return on his margin deposit of $2,000. Scenario 2 (Loss): In case, if the movement had gone against the trader by 100 pips, then: Loss = $1,000 This means 33% loss on the initial account balance or 50% loss on his margin. Now, $2,000 will be left in his account. A margin call will be triggered if the drop in price continues to contribute to the fall in his account equity such that the equity drops below the margin requirement of $2,000. Example of Leverage Affecting Profit/Loss Let’s assume that the $100,000 position has now gone up to $103,000. Here, the leverage is 1:1 that means you have given the entire cost of the position, $100,000, without borrowing. Profit: $3,000 or 3% of the entire deposit of $100,000 But what if the leverage was 1:100? Margin Percent = 100 / Leverage = 100 / 100 = 1% Margin = 1% of lot size = 1% of 100,000 = $1,000 Your Investment: $1,000 Borrowing from the Broker: $99,000 ($100,000 - $1,000) Your Profit: Three times your investment ($3,000/$1,000 x 100) Conclusion: 1:1 = 3% rate of return, 1:100 = 300% rate of return Note: If the price moves against you (falls), the leverage can convert the same rates as rate of loss! Therefore, leverage is a double-edged sword!

Warning: All the formulas shown will change when it comes to dealing with cross currencies.



2.4 Types of Forex Accounts A trader opens a Forex account with a retail broker. Although the Forex accounts are available in various flavors, the first account that a newbie opens is the Forex Demo account to introduce herself or himself to the broker’s software and execution techniques. It is a way to apply your gained theoretical knowledge in a real-life situation without any financial risk. We shall talk about this account in the next chapter in detail. Once the trader feels comfortable with practicing Forex trade in real environment, he opens a funded account according to the lot size. Full or standard, mini, micro, and managed accounts are the common types of funded accounts.

2.4.1 Full or Standard Trading Account – For the Experienced This is the most common account that gives you access to standard lots of currency, each being $100,000 worth. Because of the margin and leverage, you do not give this entire amount as collateral to your broker. Because each pip is worth $10 (100,000 x 0.0001), you can gain $1,000 if the position moves by 100 pips in your favor in a day (100 x $10) or lose $1,000 if the movement is in the opposite direction. Pros: Adequate capital to trade full lots means better perks and more services from brokers Cons: High capital demand, at least $2,000, which may not be affordable by the beginners

2.4.2 Mini Trading Account – For the Beginners This account enables traders to trade by using mini lots, each of which being equal to $10,000 (1/10 of the standard account lot). Because the lot size is quite less, the account is much feasible for the newbies due to shrunk exposure to risk as the deposits vary from $250 to $500 with a leverage of up to 1:400. The gain per pip is only $1 ($10,000 x 0.0001), which is $10 for a standard account. Not all brokers offer mini accounts but those who do offer such accounts try to pull new traders who are cautious of trading full lots due to the need of high capital. Pros: Less risk for the beginners, opportunity to try different strategies without bothering about the loss, and sustained risk management plan (For example, in front of expensive standard lot, it is easier to buy three to four mini lots to reduce the risk.) Cons: Less rewards coupled with lower monetary risk

2.4.3 Micro Trading Account – For Less Knowledgeable This one is smaller than a mini account because of trades happening by using only $1,000 lots and per pip gain being only $0.1. This account can be opened with a capital of just $25. Pros: Ideal account for those investors who have little knowledge about the Forex market and are not ready to invest big

2.4.4 Managed Trading Account – For Those with Less Time to Invest This is an account wherein you allow the broker to trade on the behalf of investor by using your capital. Account managers or brokers manage these accounts just like brokers handle the stock accounts in the stock market. While the buying and selling decisions are taken by the broker, the goals and risk management strategies are set by the investor.



Pros: Recommended only to those speculators who can invest a lot of capital (around $2,000 to $10,000) but have little or no time or interest to operate according to the market trend, as the professional Forex broker takes care of your account with a diverse portfolio without having you to spend your day in observing the markets. Cons: High capital demand, brokerage fees for account management After choosing from one of the above accounts (except for the managed), you can specify the type of account according to the kind of ownership as discussed below. This is often required when you open an account online.

Account Type Description

Individual You are sole owner.

Joint You are opening it with another person.

Business You are opening under an entity name.

Trust You are opening it as a trustee to hold funds for a beneficiary.

IRA You are opening it as a tax-deferred retirement account via a custodian.

Managed You are opening an account that is manageable by a third party.

Table 1.2: Types of Accounts as Per Ownership

2.5 Types of Orders Order refers to the manner in which you wish to enter or exit a trade. There are certain basic types of orders that brokers provide along with a few weird ones. You must know which order types your broker offers or accepts. Listed below are the different types of orders for you to place in the foreign exchange market.

2.5.1 Market Order or Unrestricted Order This is the most easiest as well as common order type wherein you buy or sell a currency immediately at the current price through your broker. If you start from buying, the current ask price will be used by the market order to perform the trade. Because there are no restrictions with regards to the price or timeframe, it is also known as the unrestricted order. In case of ECN brokers that are automated online programs, you simply click Buy and the trading platform instantly executes a buy order at current price.

2.5.2 Limit Entry Order Unlike a market order, this order allows performing a trade when the currency pair reaches the desired exchange rate that you specify. It simply tells the trading platform to buy the currency pair at your entered price. So, if the rate does not reach the target price, the platform will not purchase it for you. A limit-buy order instructs the trading program or the broker to buy the currency pair once the market price goes lower to be equal or less than what you have specified. Similarly, a limit-sell order allows selling the currency pair when its price rises to at least what you have specified. Such orders simply limit the maximum price you wish to pay for the trade. Such an order is given if you believe that the price will move in the other direction upon hitting the price you have targeted. However, you have to keep a constant watch on the monitor showing the market rates!



2.5.3 Stop Entry Order This is the order that helps purchasing above the market or sell below the market price, making it exactly the opposite of the Limit order. For instance, if GBP/USD is trading at 1.6000 and is expected to go upward until 1.6050, you set a stop-entry order at 1.6050 or either come in the long (buy) position. Such orders are useful when you feel that the price will shift only in one direction!

2.5.4 Stop Loss Order This order is very useful to exit a Forex trade by liquidating or settling an open position when the price moves against the anticipation of the trader. It is executed to either exit an existing position or enter a new position automatically. If such an order is used to enter into a position for buying at the market price that is higher than the current one, it is known as a buy-stop order. Similar is the concept of a sell-stop order wherein you exit trade by selling the currency pair at the market price lower than the current one. A stop loss order is generally used by the investors before they leave for holidays or upon getting into a situation where they cannot supervise their portfolio for a long time. A stop loss order helps in limiting the losses when the market price of a currency pair changes unfavorably in a Forex position (long open or short open). For instance, you went long for EUR/USD at 1.2050 (buy). In order to restrict your maximum loss, you put a stop-loss order at 1.2020. This means if the price drops to 1.2020 rather than moving up proving you wrong, the trading platform then executes a sell order at 1.2020 automatically to close your position for a loss of 30 pips. However, if the price falls below 1.2020, say up to 1.2000; you will be saved from the extra loss of 20 pips.

2.5.5 Trailing Stop Order This is a kind of stop loss order that is associated with a trade that moves with the fluctuation in price. For example, if you wish to sell or short USD/JPY at 91.50 and set a trailing stop at 10 pips, it indicates that your original stop loss is at 91.60. Now, if the If price drops up to 91.30, your trailing stop shall move down to 91.40. The stop will be locked at this price even if the price shifts against you. In the example where a trailing stop is of 10 pips, if USD/JPY becomes 91.30, then your stop would move to 91.40. But in case the price moves all of a sudden to 90.35, your stop will not change. Once the price becomes equal to your trialing stop, a stop-loss order will be executed to close your position.

2.5.6 Take Profit Order This order allows specifying the price at which you wish to close your position for realizing the profits. Well, these are the basic orders that most traders and brokers use while operating in the market. Apart from these, there are some more orders that are rarely used but are good to know (order duration types).

Good For the Day (GFD): This order remains open throughout the trading day. However, due to 24-hour operation, do check with your broker to know the cutoff time.

Good Until Cancelled (GTC): This order remains active until you cancel it manually.

Order Cancels Other (OCO): This order is a blend of two limit and/or stop orders. Placed below and above the prevailing price, the execution of one order triggers the cancellation of the other. For instance, if the currency price of USD/CAD is 1.1000, then the trader may order the broker or trading platform to buy at 1.1005 due to his expectation of it moving higher and higher and sell it if the price drops to 1.0950. Now, if the price rises to 1.1005, the buy order gets executed cancelling the sell order automatically.



Example of How Leverage and Stop Loss Order without Margin Affect Profit and Loss Let’s assume you open an account with $500 to trade two mini lots of EUR/USD at a margin of .5%. You also put a 20-pip stop loss order that gets triggered. Leverage: Total lot size / Account Balance = $10,000x2/$500 = 1:40 Value per Pip: $1 x 20 (mini lot has $1 value per pip by default) = $20 Loss: Value per pip x total number of lot = $20 x 2 lots = $40

Trade No Starting Balance in

the Account

Lots Used Stop Loss Pips

Leverage Outcome Balance after Trade

1 $500 2 20 1:40 -$40 $460

Day 2: You remain positive and decide to purchase four more mini lots of EUR/USD with 20-pip stop loss order. Unfortunately, this order gets triggered. Leverage: Total lot size / Account Balance = $10,000x4/460 = 1:87 (approx) Loss: $30 x 4 lots = $120


the Account



1 $500 2 20 1:40 -$40 $460

2 $460 4 20 1:87 -$120 $340

Day 3: You still believe the time to favor you and purchase 2 more mini lots of EUR/USD with 20-pip stop loss order. Sadly, you had to face this order. Leverage: Total lot size / Account Balance = $10,000x2/340 = 1:59 (approx) Loss: $30 x 2 lots = $60


the Account



1 $500 2 20 1:40 -$40 $460

2 $460 4 20 1:87 -$120 $340

3 $340 2 20 1:59 -60 $280

Day 4: Frustration now creeps up and you overreact by purchasing 3 more mini lots but this time, your stop loss gets loosen to 50 pips.



Leverage: Total lot size / Account Balance = $10,000x3/280 = 1:107 (approx) Loss: $50 x 2 lots = $100


the Account



1 $500 2 20 1:40 -$40 $460

2 $460 4 20 1:87 -$120 $340

3 $340 2 20 1:59 -60 $280

4 $280 3 50 1:107 -$100 $180

Margin here would be $150 (3 x $10,000 x 5%) after which only $130 will be left in your account (180-150). This means that the useable margin is now just $30 because 3 open lots. Therefore, this will give you a margin call that will liquidate/close your position at market price and return the used margin of $150. Now, only $180 is left out of $500, which means 64% loss!

2.6 Forex Trading Hours It is now known to you that Forex market works 24 hours. But the time zones of different countries are different. So, it is vital to know how a 24-hour day in the Forex market looks like, considering the four chief trading sessions: Tokyo, Sydney, New York, and London. Winter (October - April) Summer (April - October)

Table 1.3: Forex Trading Hours

As you can see, there are some intervals when the trading time overlaps:

Sydney and Tokyo session - between 11PM and 7AM Tokyo and London Session - between 7AM and 8AM London and New York session - between 12PM and 4PM

The trading timings will change when the Daylight Savings Time (DST) is turned off.

Time Zone GMT Sydney Open Sydney Close

10:00 PM 7:00 AM

Tokyo Open Tokyo Close

12:00 AM 9:00 AM

London Open London Close

8:00 AM 5:00 PM

New York Open New York Close

1:00 PM 10:00 PM

Time Zone GMT

Sydney Open Sydney Close

9:00 PM 6:00 AM

Tokyo Open Tokyo Close

12:00 AM 9:00 AM

London Open London Close

7:00 AM 4:00 PM

New York Open New York Close

12:00 PM 9:00 PM



Ideal Hours to Trade:

During the two overlapping sessions, as most traders become more active to trigger liquidity at low transaction cost and proximal spreads.

During the European session hours, as that is the busiest one

During the middle of the week as that’s the timeframe having most movements with expanded pip range for major currency pairs

Nastiest Hours to Trade:

Holidays as all traders are relaxing Weekend as not many traders are active or are on holidays Fridays as liquidity tends to be lowest During the outburst of major news events that can make the market more volatile During sports finals such as NBA, as nobody likes to trade at the cost of most awaited fun

It is vital to know that the Tokyo and Sydney sessions offer less liquidity, which means the rates are less volatile; whereas the opening and closing times of the European session as well as the opening time of the US session ensures more liquidity. Similarly, trading at the time of the London session offers high liquidity because it overlaps with other key European markets such as the Swiss. Furthermore, if you compare a London session with the Tokyo session, you will see that lower spreads make the former a highly liquid market. Typically, a London session would open with high volatile atmosphere but tends to gradually calm down by the lunch time after which it boosts well when it overlaps with the opening time of the American markets. This is the time when many economic news headlines are released, justifying why most of the economic market data of the U.S.A is released during the mid day or later for traders in Europe. This actually affects the liquidity that is high when the American Forex markets open but slowly then comes down as the London session prepares to close for the day. Now that you know the mechanics of the Forex market, several questions regarding the trade must be coming to your mind: When to enter into a position, when to buy or sell a pair, or when to exit a position! In order to answer to these questions, it is vital to know about the different Forex trading strategies!



Chapter 3: Exploring the Forex Market Trading Strategies Some kind of Forex strategy is essential in order to make consistent profits through Forex trading. A strategy is a plan through which you can approach the market at the right time and make the right buying or selling decision. When a trader enters into this market for the first time, he is eager to know the ideal way to trade the Forex market because there’s always a good way and a bad way to trade currencies. As a fact, there’s no straightforward answer that applies to all traders when it comes to finding the best way to trade. The simple reason behind this is the volatile nature of the Forex market that demands shrewd analysis and strategic planning. The Forex market has different trading styles (short-term trading, long-term trading) and strategies/approaches on offer. Therefore, when it is the matter of deciding the best way to operate in the market, the starting point is not to analyze the market itself, but it is the resources you have to invest. The amount of money and time you have to invest in the Forex market actually forms the base on which you determine the best way or strategy to trade.

3.1 Overview A Forex strategy refers to a collection of analyses that a trader utilizes to decide whether to sell or buy a currency pair at any given time. It simply helps in developing ideas to trade well in the Forex market. That is why it is vital to choose a strategy that is easy to follow as per your daily Forex schedule and is successfully applicable with your account balance. For formulating a trading strategy, there are two major analyses or disciplines to consider: Fundamental and Technical. So, a Forex trading strategy can either be based on:

Technical analysis that offers various charting tools to keep a track of price movements

Fundamental analysis that rely on news-based events triggered by a multitude of factors such as interest rates and inflation

A currency trading strategy of a day trader typically is made up of a multitude of signals that initiate buying or selling decisions. The trading strategies can be offered by the software programs (automatic) or can be formulated by the traders (manual).

3.2 Fundamental Analysis This is an approach of observing the market by analyzing the economic, political, and social factors affecting the demand and supply of currency. This analysis makes much sense because it is the demand and supply of an asset that determines price. While this sounds easy, it is actually difficult to analyze all factors that influence the demand and supply factors. In other words, you need to strive hard to take a look at different factors profoundly for identifying economies that are performing well. For this, you must have an understanding as to why and how some news-based events such as the fall in Gross Domestic Product (GDP) or a drop in unemployment level influence a nation’s economy, and eventually, the demand level for its currency. Listed below are the major factors (news) that affect the Forex market:

Interest Rates: Central banks establish core interest rates for boosting the economic conditions in their individual nation. For example, recently, the Japanese central bank had set an interest rate of 0.25%, whereas that of the American Federal Reserve was 5.25%. In this case, the traders



got a chance of borrowing Japanese Yen at 0.25% and invest that currency in US Dollars to enjoy a net profit of 5% interest. As a result, the demand of USD increased in exchange for JPY, raising the value of the USD/JPY up to a great extent.

Rate of Inflation: A simple rule of thumb is followed here: Higher the rate of inflation than the rate of return, the more is the investment loss. Therefore, the currency of a country with higher rate of inflation will be avoided by the investors, which in turn, will reduce the demand for that nation’s currency. Even a gradual deterioration of an investment due to inflation is averted by major investors.

Economic Health: This is measured by the various vital economic indicators such as GDP, retail sales, industrial production, unemployment, durable goods demand, and consumer price index.

In addition to these news/reports, there are more quotes, reports, and comments that come from several official meetings wherein the economic issues such as interest rates and inflation are discussed. Even these reports tend to make the Forex market highly volatile. All these reports together make up the fundamental data that helps in evaluating the economy of a nation. Such data can be in various forms, such as a report released on the existing American home sales and an anticipation of a possible change in the monetary policy of European Central Bank. The release of these facts to the public often triggers a big change in the economic market. As a result, a reaction from speculators and investors becomes indispensable. Just going through these news and reports can aid the fundamental analysts acquire a deeper understanding of the long-term trends in Forex market so that the short-term traders can gain well from unusual events. The underlying idea is that a good economic outlook means strengthening of the country’s currency as more and more foreign investors would prefer to invest in that country. As a result, the currency of that nation will be purchased for acquiring the required assets. In a nutshell, the fundamental analysis helps in tracking the value of a currency by making the SWOT (Strengths, Weaknesses, Opportunities, and Threats) analysis of that nation's economy. Just think of a bus stop where the fundamental analysis can suggest in which direction the bus is going. If you choose to plan according to a fundamental strategy, be it is wise to keep an economic calendar with you to know when these reports came out.

3.2 Technical Analysis This is the most famous and successful method of analyzing the Forex market as well as taking decisions. Also known as price analysis, technical analysis involves the use of charts to analyze the Forex market for determining the price movement in near future. This means that this analysis requires a trader to comprehend the past patterns of the price movement to predict the future pattern or trend. It is said that history repeats itself! This is exactly the basis of technical analysis. By focusing on the study of price movements, the traders will look for similar patterns occurred in the past to form trade ideas in the hope that the price will move in the same manner as before. While the technical analysis is a primary tool in predicting the price movement of a currency pair, the fundamental analysis is the valuable tool in forecasting the future economic conditions of a country. The main difference between the two analyses is that technical analysis disregards the fundamental factors and looks right at the price action of the market. While fundamental data offers only a long-term forecast of price movements, technical data provides short-term price movements from its ability to generate price-specific information, making it easy to set profit targets and stop-loss orders. For a technical analyst, charts are the most valuable tools. A Forex chart is used to perform this analysis for making better decisions with regards to trade. Such a chart has real time data to keep one updated



on currency trades and trends for making the buying or selling decision at the right time. Therefore, it is vital for a trader to know how to read such charts. Charts are the basic tools that Forex traders use often. Because of the leverage and fast paced nature of trading, several traders generally hesitate to hold positions for a long time. For instance, the traders may kick off a big number of trades on the same day, and may close them within some minutes. When trading for such a short term, the charts of technical analysis prove to be the most proficient tools as they can show up lots of information in just a small amount of time. A Forex chart can be picked for any currency pair, and any type of basic chart can be used to show the price movement. So, let’s explore the basic types of charts and other concepts that help in showing price directions in technical analysis.

3.2.1 Technical Analysis Concepts There are three major charting styles that express price movements differently: Line, bar, and candlestick charts. Apart from that, there are terms such as trend, support, resistance, and moving averages to explore. Line Chart

A line chart is a simple chart that shows the changes in price of a currency pair (Y-axis) over time (X-axis). A simple line is drawn between two closing, opening, high, or low prices of a currency pair to show the general price movement over an interval. By far, line charts with a line drawn from one closing price to the subsequent are most widely used, as the closing price is given utmost importance in determining the winner of the war between the bulls and the bears in that given time period. This kind of chart depicts the market trend in a clear manner from time to time. Bar Chart

A bar chart is bit more complex illustration because it shows four chief pieces of information for a



specific time frame: Opening price, high price, low price, and closing price (OHLC). It overcomes the limitation of a line chart that shows only one price information. The chart is composed of vertical bars each of which shows the total price movement. Every vertical bar has left and right horizontal bars, of which the left one shows the opening price; while the last one depicts the closing price. The high and low prices are shown by the highest and lowest point of the vertical bar, respectively. Bar charts are applicable to all time frames. Thus, a single vertical bar can summarize the price range over the past minute, hour, day, or month. A good rule is that the longer the time frame, the better it is because it shows more data and reflects the market more significantly. Candlestick Chart A candlestick chart reveals the same information as by a bar chart, but does so a bit differently. It shows a high to low range of a price in a vertical line. Herein, each bar or a candlestick is made up of a ‘body’ and an upper as well as lower ‘shadow’. The body of the candle represents the range between the opening and closing prices. If the top of the body shows opening price, while the bottom indicates the closing price, it is called a bearish candle and is always filled with some color. Exactly opposite is the bullish candle that looks empty. Its body top shows closing price and the opening price is at the body’s bottom. In both the bullish and bearish candles, the upper shadow shows the high price, while the lower shadow shows the low price.

Candlestick charts are easy to use and interpret because of their high visual clarity on automated trading platforms, which makes them a good choice for beginners to analyze the charts. The biggest advantage of using these charts is that they provide early warning signs when trends start to change. Trend / Trend Line A trend refers to the general direction or movement of the price that tends to rise, fall, or move in narrow ranges. Therefore, three types of trends are possible: Uptrend (price rise or bullish), Downtrend (price fall or bearish), or Flat (sideways or in a narrow range).



If the Forex market is trending up, the new highs (prices) must break the former highs and that the lows must be higher than the former lows to give us higher highs and higher lows. So, an uptrend indicates that every next bottom is higher than the former one, and that every next high is more than the former previous one. Therefore, an upward trend line as an indicator is depicted by drawing it through the bottom points. It indicates traders that it is the right time to buy the currency. Once the market fails to break the former highs, or if the lows tend to fall below the former lows, an uptrend may be in trouble after which a downtrend or a sideways market may follow. In a downtrend, every next bottom is lower than the former one and every next high is lower than the former one. Therefore, a trend line is shown by drawing through the highest points. It indicates traders to sell the currency. On the other hand, in a flat market, every next high or bottom is at the same level as compared to the former high or bottom. So, the trend line is drawn by connecting both the highs and bottoms. A shrewd trader always places a stop Loss order above a downtrend line or below an uptrend line. Any trend must be set by its trade volume. The trade volume increases when the prices move according to the prevailing trend and vice-versa. It is said that the price of any currency pair in the Forex market will tend to ‘trend’ 70% of the time, which means it will favor a certain direction but will not move in a straight line. It is like stepping three steps ahead and taking one step back. While prices will be moving forward over time, they actually tend to move forward and back in the short run. In reality, the market does not move in a straight line, but rather, move upwards by a big amount and fall down by a smaller amount, before shifting back upwards by a big amount. Identifying the type of trend can occasionally be arbitrary due to trend length. Three different trend lengths exist: Short-term, medium-term, and long-term. Always consider ‘trend’ as your ‘friend’. So, do not open positions in opposition to the prevailing trend with a hope that the trend is weak and it will soon be reversed. In most cases, price moves through your stop loss order and the trend reverses only after that. The steeper the line, the less reliable it will be and more likely to break! Support and Resistance Traders know support as prices at which a currency pair is expected to increase in value, while resistance is identified at prices at which the pair is likely to decrease in value. Support is the level at which the demand is believed to be strong enough to avert the prices from falling further, while resistance is the level at which the strong demand prevent prices from rising further. For instance, traders with long positions may set ‘take profits’ order at 1.5000,



which there are many orders to sell at that rate. Therefore, the price forms a strong resistance line. After moving up when the market pulls back, the highest point hit before being pulled back is resistance. Then, when the market rises again, the lowest point hit before that rise is the support. Resistance and support are formed continuously on the graph as the market oscillates over time. A fall below a support level signifies a new motivation to sell, while a rise above the resistance level shows the eagerness to buy. A break below the support level indicates he victory of sellers (bears) over the buyers (bulls), while a break above the resistance level conveys the victory of buyers over the sellers. It is easier to detect or draw the support and resistance lines on a line chart. One of the technical analysis principles is that support can turn into resistance and vice versa. If the price breaks below a support level, the support level is said to be broken after which it can turn into the resistance level. This break indicates that the forces of supply have beaten the forces of demand. Trend Channel A trend channel is made up of two trend lines that create a trading channel wherein the price bounces between them, or between the support and resistance lines. The channel lines act as the boundaries for price fluctuations. You form a trade channel by just drawing a straight line parallel to the trend line, of which one goes through the highs and the other passes through the lows. The channel lines are utilized to determine where to fix profits or losses. For example, in an uptrend channel, you may place a take profit order under the upper line and a stop loss order under the lower line. Exactly the opposite holds true in case of a downtrend channel. In case the price does not touch the upper line of the uptrend channel, it denotes a weak trend. Channels should be interpreted as dealing areas within which the price tends to bounce. Atop of a channel, the investors would prefer selling the pair, while at the bottom, a buying transaction is ideal. If the price bounces steadily between the lines, profit occurs on the rise to the top of a channel as well as at each drop back to the channel’s bottom.



Trading on resistance or support lines or trading channels depends on two conditions: Price bounce or price break. In case of a bounce event, it is better to wait for the price to bounce first and then enter into a trade to avoid fast movements and break through the resistance and support levels. In case of a breakout, there are two options: Buy or sell whenever the price persuasively passes via a support or resistance zone or wait for price to make a "pullback" to the broken level and enter once the price bounces. However, the latter one does not occur all the time. It may happen that prices may go in one direction to leave you behind. So, always put a stop loss order and never stick to a trade only on hope. Trend Reversal Within a trend channel when the price has moved in a fixed direction for a long time, it reaches a point where it halts its move. The point at which it stops can be the point of resistance or support. When this point is crossed, it is known as breaking the trend line after which the price moves towards the opposite direction. Once this happens, the traders tend to close the orders that they have sold or brought by executing the ‘taking profit’ order.

3.2.2 Major Chart Patterns It is not enough to know the concepts; it is equally important to know how to use them. A Forex chart becomes useful only when you know to analyze the patterns it shows. While observing price movements on charts, it is often seen that they show some predictable events via patterns. So, patterns on a chart are graphical representations of repeating formations that are utilized for predicting the next move in the market. Reversal Patterns These chart formations indicate that the current trend is about to change its course. For example, if such a pattern is formed during an uptrend, it indicates that the price will soon go downwards. In the figure, six different patterns are shown, of which four have a neckline. A neckline is a trend line drawn alongside the resistance or support points, which is used as a confirmation line for confirming the validity of the pattern. To trade these patterns, just place an order beyond the neckline in the new trend’s direction and consider a target that is nearly the same as the pattern’s height. For example, in case of a double bottom, you can place a long order atop the neckline and set a profit target as high as the distance from the bottoms to the neckline. Never forget to place a rational stop loss around the middle of the formation. For instance, from the neckline, measure the distance of the double bottoms and divide it by two to know your stop size.



Continuation Patterns These formations indicate that the market is taking a break and that the ongoing trend will resume in the same direction of the former trend. They show the way in which the traders take a break before going ahead in the same direction. To trade these patterns, you need to place an order either below or above the formation in the direction of the trend and consider a target that is the pattern for rectangles. In case of pennants, the target can be as high as the mast. Stop orders are placed either above or below the formation. Bilateral Patterns These formations indicate that the traders are taking a break prior to moving in the next direction. They indicate that the market is trying to decide the trading direction. Because of the possibility of the price to move in either direction, these patterns are trickier to trade with. For trading these patterns, reflect on both scenarios namely, uptrend or downtrend breakout and put an order atop the formation and another at the bottom. If one the two orders gets executed, you can cancel the second one. Candlestick Chart Patterns Recall the candlestick chart wherein one or more bar-like candles show a short-term trend reversal or a continuation. While trading online, the different candle patterns offer an indication about the kind of expected price progress. However, you must always consider the previous trend while interpreting the current candlestick patterns. Table 1.4 lists the common and must-to-know candlestick patterns.

Name Illustration Interpretation Big empty body (White Marubozu)

Very positive Rising trend

Big filled body (Black Marubozu)

Very negative Falling trend



Name Illustration Interpretation White/Black opening/closing Marubozu

White Opening: Quite Positive White Closing: Positive Black Opening: Quite Negative Black Closing: Negative

White/Black Candle with little or no shadows

White: Rare one with high and closing prices being very close together as well as low and opening prices being close together, Indicates a stronger rising pattern, In case of no nearby support, the midpoint of the body acts as a support level. Black: High and opening prices remaining close together as well as low and closing prices remaining close together, Indicates a stronger falling pattern, In case of no nearby resistance, the midpoint of the body acts as a resistance level.

Doji

Opening price = closing price, which shows indecision Doji = Confirmation for existing support or resistance Doji in an up-move with the previous closing price above the current closing price = strong reversal indication Doji in an up-move with the previous closing price below the current closing price = Needs confirmation for reversal More Dojis together = Extra pressure on the market



Name Illustration Interpretation Long-legged Doji (Big wave Doji)

Warning signal for a reversal or a big uncertainty in the market

Doji Star

Morning Star

Evening Star

Doji above a white candle in an uptrend or below a black candle in a downtrend indicating a reversal trend that is confirmed by the next candle for becoming a morning doji star or a evening doji star

Dragonfly Doji

Open, high, and close prices are the same. The market has found the demand location (indicated by the long lower shadow line). The buying pressure succeeded in pushing the prices back up to



Name Illustration Interpretation the opening price. Bullish reversal pattern occurring mainly at the bottom of a downtrend.

Gravestone Doji

Open, low, and close prices are the same. The market is testing to locate the supply and potential resistance (indicated by the long upper shadow). The selling pressure succeeded in pushing the prices back downwards. A vital bearish reversal pattern that occurs atop an uptrend.

Spinning Tops or Bottoms

Seen commonly at a price top or bottom in a consolidation phase The small body = black or white Indicates neutrality and indecision as to which way to go. However, a possible price reversal = strong implication

Tweezer Tops and Bottoms

Two or more candles of equal length at the same price level = resistance or support Occur after an extended downtrend or uptrend for indicating a soon reversal Show reliable reversal patterns

Hammer and Hanging Man

Hammer: Bullish reversal pattern during a downtrend, signals that the price will rise again, safe to place a buy order but confirmation is essential (wait for a white candlestick on the right to close above the open price) The long lower shadow = Sellers



Name Illustration Interpretation pushed prices downwards but buyers could overcome this pressure and closed near the open. Hanging Man: Bearish reversal pattern that may indicate a strong or top resistance level, indicate that sellers are exceeding buyers during the price rise The long lower shadow = Sellers pushed down the prices but the buyers could push the price back near the open.

Table 1.4: Candlestick Patterns

3.2.3 Two Simple Technical Trading Strategies Now that you have gained an in-depth understanding of how to analyze the Forex market, it is time to comprehend some basic trading strategies. Forex trading cannot prove to be consistently profitable without following a Forex strategy. It takes much efforts and time to adapt an existing strategy according to your trading style and needs. Although there are many Forex strategies to follow, it is vital to choose that strategy, which is easy to follow and apply within your daily schedule of trading and with your decided account balance size. Because you are a beginner and have learned about charts, it is recommended to start with simple indicator Forex strategies that are based on the standard chart patterns shown by trading systems or platforms. These strategies are ideal for traders who desire technical analysis over everything else. Listed below are the two simple Forex trading strategies that are widely used: Moving Average Crossover and Parabolic SAR. Moving Average Crossover This strategy is one of the simplest yet most useful of all trading Forex strategies. A crossover refers to a signal momentum change marked by the crossing of the main indicator at a predefined signal line. This acts as a warning sign that a change is taking place with respect to either momentum or direction of the price action. The signals generated by such a crossing are handy in a trending or ranging market. Moving Average (MA) refers to the average of prices (closing prices often) over a specific number of intervals. It is a way to smooth out price action over time. The interval or time period of MA marks how much the price action will be smoothed. It simply means that you are taking the average closing price for the last 'X' number of periods of a currency pair. For instance, if an MA is calculated by totaling the closing prices for the last 10 bars, it is known as a 10-period MA. The longer the period, the slower it will respond to the price movement or the more it will lag behind the current



price. A moving average indicator helps forecasting future prices. Just by viewing the slope of the moving average, one can determine the potential direction of market prices.

When price action stays above the moving average curve, it signals a general uptrend and vice-versa. Depending on the level of smoothness and type of calculation involved, there are different types of moving averages. The easiest and most commonly used one is the Simple Moving Average (SMA) that is calculated by adding the closing prices of last "X" periods and then dividing the result by X. It is just like calculating the mathematical average. Because of the average of price history, you only get a general direction of ‘future’ price action in short term.

The Moving Average Crossover is based on the intersection of two typical indicators — the fast MA and the slow MA or the longer period MA and shorter period MA. This strategy is called the crossover method, as selling or buying signals are triggered when the two averages intersect or cross over each other. A buy order is placed when the fast MA meets or crosses the slow MA from below to above or when the shorter MA intersects the longer MA from below to above (uptrend). On the other hand, a sell order is placed when the slow MA intersects the fast MA from above to below or when the shorter MA cuts below the longer MA (downtrend). A stop loss order for a long position must be set at the low of the last candle just prior to the occurrence of cross. In case of a short position, a stop loss must be set at the high of the last candle occurring prior to the cross. Talking about the Take Profit (TP) order, it must not be less than the stop loss order. In case of other cross appearing prior to the trigger of the take profit or stop loss order, it is better to close the position. MA can trigger problems when it generates false signals (whipsawing), especially during sideways channels. Therefore, its indications should be confirmed by using other indicators such as the momentum of open, close, high, and low prices.

Whipsawing is also the reason why MAC is used over MA. MAC involves two or more moving averages on a chart, which result in fewer false spikes or whipsaws although it lags the market more than a single average. Two famous combinations in case of double crossovers are 5-day and 20-day averages, and 20-day and 100-day averages. In case of a triple crossover chart, the famous combination is 4-9-18-day averages. A buy signal is indicated when the most sensitive or the shortest average, the 4-day average, crosses the 9-day curve first followed by the 18-day average curve, each of which shows a trend in price.



Parabolic SAR Moving Average is a technical indicator that focuses on identifying the beginning of new trends. But apart from catching a new trend, it is equally essential to identify the end of a trend for ensuring a well-timed entry as well as exit. This is exactly what the Stop And Reversal (SAR) indicator helps to determine. Parabolic SAR is one of the most widely used technical strategies for identifying not only the price trends but also the exit points. Parabolic SAR is probably the easiest indicator to learn and explore, as it assumes that the price is going either up or down. Effective only in trending markets, the Parabolic SAR or stop-and-reversal line of dots is shown on the chart, which is identical to trend direction line. If the trend is bullish, the prices will be above the SAR line; while the bearish trend is indicated by the prices located below the SAR line. A trader closes a long position when the price breaks below this line, while a short position is closed when the price breaks above the line. The SAR line is also useful for trailing stop in Forex trading. To conclude, you should use both the fundamental and technical analyses in order to trade successfully in the Forex market. Just imagine buying a currency in the anticipation that the price will continue to move higher but the sudden news of bankruptcy just reversed it. So, focus on both the analyses is essential!



Chapter 4: Trading for the First Time in Forex Now that you know about the Forex terms, fundamental analysis, and technical analysis; it’s time to plan your own trading strategy. And for the beginners, there’s only one method, trial and error that only a Demo account from an accredited online broker can facilitate. So, let’s explore this account in detail.

4.1 Demo Account: Demo Your Knowledge to Act Right As the name suggests, a demo account is a practice account that allows applying the knowledge you gained, in a real-life trading environment without really putting your money at risk. You get to practice and test the learned trading strategies until you become truly comfortable with them. Once you start feeling confident about your trading strategies, you can leave your demo account and open a real account with the same online broker. Although there is a big difference when you use real money to trade through your real account, a demo account allow you to trade for only $0.10 cents pip, minimizing your likely losses to an absolute minimum while learning new strategies and gaining experience for using a trading software. However, it is vital to know that you will not get a chance to earn profits in return, as profits or losses take place virtually. A demo account, therefore, facilitates:

Trying your forces on the market. Forming a strong bond with the broker. Learning about trading possibilities. Testing your strategies without investing money. Learning the basics of the online trading platform or software. Placing orders and limits. Opening and closing positions. Predict the market using some analysis tools provided by the online software.

While trading online with a demo account, it is advisable to keep reading popular Forex forums and blogs along with reading Forex-related magazines and watching TV channels such as CNN Money. By co-relating the news with what you learned in fundamental and technical analyses, try to locate profitable entry and exits points for trading through your free demo account. While doing so, avoid following your emotions because being more emotional means getting more inclined towards wrong and loss-making trading decisions with regards to entry and exit points. Trade as if you are trading after investing your hard-earned money. Note down all the profitable entry points along with the factors that offered you such profits in a dedicated journal. Just practicing a fortnight will make you discover at least 4 to 5 gainful entry and exit points daily. After all, a demo account and regular practicing through it are the building blocks of your own Forex strategy for trading in future. The benefits of opening a demo account are:

No money required, and so, no risk involved Live market trading through charts Experimenting different strategies to earn profits Testing your knowledge Learning proper risk management by being vigilant on how market fluctuations affect your

trading methods and chart patterns Opportunity to evaluate the broker services offered by your online broker Full functionality that an experienced trader gets on a real account



4.1.1 Opening a Demo Account There are many online brokers who offer free demo accounts either for a limited time period (mostly 30 days) as well as account size or for unlimited time period. Therefore, it is vital to check the types of demo accounts on different software trading terminals on offer. The process of opening a demo account is really simple and quick. Many broker sites such as Easy-Forex and eToro will simply ask you to sign up or register at their site and read the terms and conditions after which you receive your username and password in your Inbox. You can then use the given credentials to log on to your demo account at the offered trading terminal. Other brokers such as InstaForex, RoboForex, and EXNESS will first ask you to install their trading terminal through which you need to register by filling and submitting personal details to their servers for obtaining the login information. In terms of time limits, brokers such as FXOpen offers 30-day Demo account while those like Oanda are famous for offering an unlimited Demo account. For a beginner, it is vital to trade for at least 30 days on a demo account as if you desire to earn every cent so that you get prepared for real Forex trading appropriately. When you get started, it is always wise to trade as small as possible. So, it is a good idea to start with a micro or mini demo account. Before you open a Demo account, it is much important to choose an ideal Forex broker. So, let’s find out how.

4.2 Choosing an Ideal Online Broker A Forex broker acts as a middle man that matches up sellers and buyers for executing a Forex transaction. There are different types of Forex brokers that you must know before you choose an ideal one.

Dealing Desk (DD): Such a broker always offers fixed spreads and quotes above or below market price, which means that the traders never get to see the real market prices. He typically has an in-house dealing desk where he comes up with a two-sided market to make it accessible for the clients. Once the client or trader makes the decision, the DD broker will take the opposite side of the transaction, playing a role of a market maker. For instance, when a trader wishes to sell, the broker operates by first buying from other traders; thus, creating the market. The goal here is to set off enough volume on both sides while capturing a specific percentage of spread. So, these brokers make money through the difference in spreads and by trading against their clients (earn money upon the loss of a trade) by entering in an opposite trade. Traders who trade via market makers enjoy extra benefits, as these brokers offer online live charts, market news, educational tutorials, and different technical analysis tools.

Non Dealing Desk (NDD): Such a broker does not have dealing desks but trade the orders directly through the interbank market. This means that there are no re-quotes and no taking other side of the trade or transaction. These brokers act by linking two parties together and provide transparency, which means trading in a truly competitive market. They earn via commission or by increasing the spread. There are two types of NDD brokers:

o Straight through Processing (STP): Such brokers have an STP system that routes the orders directly to the relevant liquidity providers (who are willing to buy or sell assets) who can access the interbank market. They have several liquidity providers, with each quoting its own real-time ask and bid prices.

Trader

Electronic Trading Platform

Dealing Desk

Non Dealing Desk

(STP + ECNs)

http://www.earnforex.com/forex-brokers/Easy-Forex

http://www.earnforex.com/forex-brokers/eToro

http://www.earnforex.com/forex-brokers/InstaForex

http://www.earnforex.com/forex-brokers/RoboForex

http://www.earnforex.com/forex-brokers/EXNESS

http://www.earnforex.com/forex-brokers/FXOpen

http://www.earnforex.com/forex-brokers/Oanda



The transactions are fully computerized and are immediately processed without any broker’s intervention. Most STP brokers offer variable spreads apart from fixed ones.

o Straight through Processing (STP) + Electronic Communications Network (ECN): These brokers offer a marketplace where all the Forex participants trade against each other by providing their contending bid and offer prices. All orders are matched in real time between counter parties. Such brokers, unlike STP brokers, allow viewing the ‘Depth of Market’ that shows the buy and sell orders of other traders or market participants and earn only through a commission.

As a beginner, you can consider STP + ECN brokers such as EXNESS and FXOpen. But this does not mean that you cannot try out the other types. To know which type of broker is suitable for you, it is vital for you to know what you want from trading (goals). Therefore, you need to answer some questions:

Which currency pairs will I trade?

What kind of spreads will be suitable (variable or fixed)?

What will be my minimum investment (account size) in case of real account?

How will I pay a commission for trading Forex?

What leverage is ideal for me?

Which charts and indicators I need for trading?

Do I wish to hedge?

Do I need a trailing stop?

Do I need to have the mobile phone trading feature and alerts?

How DD brokers differ from NDD brokers? (Try mapping the features to your goals.) The answers to these questions can make you select the right type of broker. Whichever type you choose, it is essential for you to be proactive and do some quick research online before you finalize on a particular online broker. Here are some major factors to consider while choosing an online broker:

Reputation: Fortunately, verifying the genuineness or credit of a broker is not that hard. There are regulatory agencies that help separate the reliable from the corrupt ones. Apart from that, you can always use Google to explore some Forex forums and Forex message boards to know what the existing clients are saying about the potential broker. Remember, this is an important relationship and so spending some good amount of hours is not going to be wasteful. Never ever believe all that is written on the broker’s site.

Seriousness: To check out how seriously the broker is willing to serve, try interrogating him: Ask to show demos, inquire about the commissions, ask about the availability, ask for some testimonials of his other traders along with their contact details for cross-verification, and ask him to take you through his site. Ask as if you are totally new and know nothing about the market (although you know the basics).

Customer Service and Support: A good test of the satisfactory customer service is to contact the support desk and ask some questions through phone. During the call, be vigilant on how responsive the broker or his dedicated employee is to your questions and what is the attitude while answering. Remember, in near future, you will be opening a real account with your broker by investing your money. So, you must feel absolutely satisfactory and comfortable once all your needs are addressed! Check out with some existing clients about how satisfactory is the after-sale service.

Trading Platform: Because most trading activities happen through the broker’s trading platform online, it is a good idea to ensure that this platform is user-friendly, highly responsive, and stable. You can do so by checking out what the selected broker’s online platform has to offer, how it works, and how it predicts. In terms of speed, you must check that the online platform immediately fills the order as soon as you click; otherwise, an immediate change in pip can bring you unexpected results. Some questions to check out are: Does it offer free news? Are there simple charting tools? Is it easy

http://www.earnforex.com/forex-brokers/EXNESS

http://www.earnforex.com/forex-brokers/FXOpen

http://forex-trading4you.blogspot.com/2009/05/forex-market-regulation.html



to use? A main indicator of a sound Forex broker is availability of free demo account that operates the same way as the real account.

Trading Portfolio: This should be vast with several currency pairs on offer so that you can trade with different pairs. A broker trading in several products such as Futures, Options, and Commodities and having several years of experience, say 5-10 years; is a reliable broker because such a broker is running a big business, has diverse experiences, and has more responsibilities.

Deposits and Withdrawals: You should look for a broker that allows a low initial deposit. It is truly questionable if a broker needs many thousands just for opening a real account. The ideal deposit requirements should be between $300 and $500. Good brokers also allow depositing and withdrawing funds in a hassle-free manner.

Spreads and Leverage: The spread is the cost of trading in Forex, and so, the brokers should offer a sensibly low spread. In case of a variable spread, the market conditions will tend to vary it. A good broker will also offer you the facility to change the leverage as needed. Any broker who forces you to go for a high leverage is just trying to make you lose your money.

Lot Size: As a beginner, trading smaller lots is feasible, as it allows tighter risk management. Therefore, a broker that can facilitate trading in small lots is a good choice.

4.3 From Demo Account to Real Account When you have completed gaining enough trading experience through the demo platform as well as have obtained confidence to implement the key strategies, it is now time for you to switch to the ‘real’ or ‘live’ account. This is the account that you open with investment although it may be limited to minimize the risk as the beginner for a live trade. This account gives you much more experience as compared to a demo account, irrespective of how seriously you might have considered your demo account for virtual trading. While starting to trade through a real account although with minimum funds, you start to feel the association between the currency movements and your profit. This experience is really vital to gain if you want to move towards the next level of trading. It is vital for you to know that you can continue to use your demo account for developing your trading skills further while using a real account. You can start trading through your real account with a strategy that has worked successfully on your demo account, and then analyze your bad as well as good trades. While trading live, beware of real emotional reactions being triggered, as they only end up inviting losses if you become susceptible to them. To get rid of these emotions and act rationally, it is advisable to take help of the automated tools given by your broker or trading platform. For opening a real Forex account, your online broker will ask some typical information such as name, address, e-mail, phone number, account currency type, date of birth, country of citizenship, annual income, trading experience, trading objectives, employment status, and Social Security Number or Tax ID. It is true that some of the answers are quite private and confidential, but they are mostly required by the regulatory agencies to find out who is trading and why. There is nothing to get scared, as the only goal of this inquiry is to de-motivate the traders from losses and unaffordable trading. Once you provide this information that is a bit more than what you had provided while registering for the Demo account, you will be given a risk disclosure document that reminds you of the risk factor in Forex trading followed by presenting some more documents such as terms and conditions. There will also be a verification process required for cross-checking your identity and address, which involves submitting a bill of your name or a photo ID. As and when the Forex trading gets more strictly regulated, these formalities are likely to get longer.



4.4 Money Management While trading in the Forex market, you must give top priority to the possibility of downside, which means analyzing as to how much money you can lose per trade. In reality, you must focus on how long can you stay in the play and gain consistent profits, instead of how much can you earn. Downside planning becomes essential if you go wrong while trading or the market moves against you. However, most traders fail to consider their downside, as they never put stop loss in their trades. Such traders are bound to suffer from a big loss or even lose their entire earnings or capital sooner or later. Putting stop loss is one of the vital money management strategies. As a rule of thumb, a successful trader must always set three vital prices for every trade: Entry, stop loss, and take profit prices if he wishes to manage his money smartly and effectively. Money management is all about deciding the number of lots to trade per trade, the amount of money to be risked, and the point from where to exit a trade, be it hitting stop loss or taking profits. The most important thing to remember here is that the decision should never be taken according to the emotions or instincts. Forex money management has different stages but must be implemented right from the very initial stage of opening your live Forex trading business. A very simple rule exists to minimize the losses: “Never risk over 2-3% of your money in any trade.” Let’s now see at which major stages this money management rule needs to be considered! When You Wish to Open a Real Account Let’s assume that you are confident enough after practicing on the demo account and now wish to open a real account. You only have a budget of $30,000 for investment. So, will you invest the entire sum for opening the trading account? What if you lose the entire money if unfortunately the broker becomes bankrupt or the market moves against you to wipe your account due to no stop loss set? This will be a big blow and you won’t be able to start again in near future! So, instead of investing $30,000 straightaway, you should open the account for $600 (2% of the money), especially if it is your first real account. Maximum, you can invest $900 if you are really confident about your practice! While Choosing the Account Leverage For the beginners, a leverage of 1:500 is really high and risky one to trade. For example, when you have a $600 account with a leverage of 1:500 and in case you buy 100,000 USD against JPY after which its movement goes against you for 60 pips only, you will lose all the money (60 x $10). However, if the leverage is 1:100, you can buy maximum $20,000. So, let’s assume that you trade $20,000 and put a stop loss at 60 pips. Now, if the movement hits your stop loss, you lose $120 but a 60-pip stop loss with a position of $100,000 is equivalent to $600. In order to risk $600, you need a $20,000 account instead of $400 account, as only 2% of our capital needs to be put at risk at any time. In Deciding Where to Take the Position (Position Sizing) The third stage that demands money management is when you decide to take a position. This is the most vital stage of money management but is really easy to understand and follow. Herein, you decide how to trade by not risking over 2% of the account balance (money in your account). This is done by calculating the position size, for example, the total money to buy while initiating a position. Let’s assume that you have a $10,000 account. Irrespective of how big the stop loss is and what position you take, your position size should be such that if your stop loss gets triggered, you only lose 2% of your account (rule). For instance, if you set up a trade on a EUR/USD daily chart with a 150-pip stop loss, these 150



pips should be equivalent to $200 (2% of account balance). Similarly, a 20-pip stop loss on a 5-min chart should also be equal to $200. Let’s now calculate position size. Assume that you have a $10,000 account and have set up a trade with EUR/USD, which should have a 100-pip stop loss. Now, this loss needs to be equal to $200 as per the rule. If 100 pips equals to $200, then the value of each pip is $2 ($200/100). Therefore, to risk only 2% of the account balance, your position size should be such that each pip equals $2. Now the question is how much EUR/USD should you trade if each pip has to be equal to $2? This is where you have to use the pip value of each currency pair. One mini lot is 10,000 units of a currency and when you trade it, each pip equals to $1. Therefore, you should trade 20,000 units if each pip of your position needs to be equal to $2 [($2 x 10k units / $1 per pip)]. Let’s take another scenario. Assuming you have $5,000 account and are about to trade EUR/USD at a risk of 1%, you need to be prepared to lose $50. Implementing the strategy of setting the entry, stop loss, and take profit prices beforehand; if the entry price to the stop loss price is 200 pips, the value per pip after dividing the risk by stop loss in pips is $50/200 pips = $0.25 per pip. Assuming a mini lot size of 10,000 units:

Therefore, Number of Lots to Trade Safely = Found value per pip * ((10k units/$1 per pip)) = 0.25 * 10,000 =2,500 units of EUR/USD should be traded

Continuing with the same account, if you are in the euro zone and decide to trade with a local broker after depositing EUR 5,000; the calculation will be a bit different. So, trading EUR/USD with a 200 pip stop, the position size would be:

Prepared to Lose: EUR 5,000 * 1% = EUR 50 Converting EUR 50 into USD as the value of a currency pair is determined by the counter currency (assuming the exchange rate for 1 EUR is $1.5000): ($1.5000/EUR 1.0000) * EUR 50 = USD 75.00 Dividing your risk in USD by your stop loss in pips: $75/200 pips = $0.375 per pip Position size: $0.375 per pip * (10k units of EUR/USD)/$1 per pip) = 3,750 units of EUR/USD

Now that you know how to calculate your position size, it is vital for you to know that the online brokers provide position size calculator to save your time. It is equally important to set a proper stop loss and take profit for each trade. Some traders consider a constant number of pips for placing stop loss positions but it is simply not the right way. In reality, stop loss value can differ from time to time, trade opportunity to another trade opportunity, and from one currency pair to another current pair. Although the online tools provided by your broker can calculate the stop loss and take profit values, here is an example of how to calculate them manually.



Assume AUD/USD is 1.02600 and the trend shall be upward presuming that the market will reach at a minimum of 1.02700 Therefore, the target price = 1.02700 - 1.02600 = 100 pips away from the present price Assume the risk reward ratio to be 3:1 (Is a risk management parameter that determines how much a trader is risking against the potential profit or reward on a trade). Calculating the value of risk factor in pips based on a 3:1 risk reward ratio: 100 (pips) / 3 (reward) = 33.33 pips per risk Now, we can determine stop loss and take profit values in terms of price: 1.02600 – 0.00033 = 1.02567 = Stop Loss 1.02600 + 0.00100 = 1.02700 = Take Profit

Note: During calculation, keep the values in the same format as that of the spread.

The Risk/Reward Ratio must be greater than 1:1 for staying long in the market, generally 1:2 is a good idea (risk is $50 and reward is $100). This is a golden rule. In common, risk is the gap between the stop-loss and the entry price, while reward refers to the gap between the entry price and the target. For example in a bullish trade, let’s assume the ideal location to put a stop loss happens to be 0.9000 for some reason and the initial target is set at 0.9060. If your strategy is that risk reward ratio needs to be at least 1:2, then your entry point cannot be above 0.9020. (0.9061-0.9000 = 60 pip difference converted into the ratio of 1:2 (20:40). So, risk = 0.9020 - 0.9000 and reward = 0.9060 - 0.9020.

4.4.1 5 10 Secrets to Successful Money/Risk Management

Trade with only that much money that you can afford to lose.

Trade with a clear and concise method/strategy.

Start with demo trade before facing the real risks and do practice position sizing even there.

Work more as a risk manager than a trader.

Never trade without setting stop loss.

Start with small lot sizes.

Consistently follow and apply a particular method or strategy of trading (this is being in discipline).

Do not look upon Forex opportunities as quick-rich schemes.

Don’t be greedy (let the goal in the first year be only to avoid losses).

Be patient and then think of what to do next in case you face a loss. Remember, slowly, patiently, and steadily wins the race!



Conclusion The Forex market is extremely huge. Trading successfully on a consistent basis is not an easy job; it demands ample of patience, education, and discipline. It is essential to be honest to yourself as well as smart when it comes to taking decisions, making choices, and predicting the results to be obtained at every stage, and that there will be times when you will feel the need of an expert guidance. It is not at all wise to hesitate taking such guidance or ignore it in over-confidence. It is not necessary to obtain this guidance face-to-face. In fact, you can take the advantage of the free information online offered by several resources such as EarnForex. This is the site where you can search for the required information through books, articles, reviews, and news before taking any decision. Apart from these, you can even ask questions to the online expert advisors on this site. A lot of learning can happen on this site, as it is a comprehensive resource of Forex information and tools. Not only do you get to learn from a single source, but you also get to get in touch with other traders through its forum and follow vital Forex updates through its Facebook page. Remember, it is vital to stay in touch with other traders, updates, and new tools if you want to stay for a long time in this market. The final ‘mantra’ to earn in this highly liquid market is: Trade Emotionlessly and Predict Knowledgeably!


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