Most of the traders who are exposed to foreign exchange markets find them more lucrative than the regular trading at stock markets. The main reason for it is the foreign exchange market is the most liquid market in the world since the trade itself is in currency. The second reason is it is the largest market when the transaction volume is taken into account. Some of the traders enjoy trading foreign exchange markets because of the sheer adventure they experience because of the high volatility in trading while others operar con divisas para vivir.
The key reasons that attract traders to foreign exchange market:
- Any trader with a foreign exchange trading account with a registered broker can trade in the market. There is no central regulating authority for this market and this market is carried on by traders, large financial institutions and central banks of different countries through computers and internet.
- It is the largest trading market in the world, when we consider the daily transaction volume. A large market makes it impossible for traders and financial institutions to cause sharp fluctuations through price manipulation. This makes foreign exchange market a safe place to trade.
- It is the most liquid market. The traders can easily change their positions because of the high liquidity. They can also easily enter or exit positions on various currencies depending on the market conditions. The high liquidity also reduces the transaction costs as the foreign exchange brokers’ offer trading accounts at very less spreads. There are no commissions for trading in these markets. The brokers earn their money by the small difference in ask and bid prices of currencies. The high liquidity combined with high volume of transactions result in less price manipulations in asset prices, this in a way protects the traders from price volatility.
- The foreign currency markets are open 24 hours a day because of the varying time zones in different countries. They function 24 hours a day and five and half days a week. This feature enables the traders to choose a convenient time to trade. They can choose to trade part time after finishing their work day or they can choose to operar con divisas para vivir, following the markets closely throughout the day.
- The registered brokers offer greater leverage for trading in foreign currencies. The traders can operate with minimum margins that vary depending on the currency being traded. This leverage makes it possible for the traders to earn higher returns by investing a small amount. Smaller margins also mean the traders are also protected from huge losses because of sudden fluctuations in currency prices.
- The markets are highly volatile because of hourly fluctuations in exchange rates. This volatility helps the traders to earn more returns if they trade in the markets carefully by using scientific methods.
- Traders can easily enter the foreign exchange market through the free demo accounts offered by most of the brokers. They can learn the tricks of the trade by participating in trading without any risk. Once they gain confidence and the skills required to study the market, they can start a regular account with minimum margin and start earning returns on the trade.
All these factors make trading in foreign exchange lucrative even for the new entrants to trading. But no matter how attractive they may seem there are some inherent risks associated with trading in currencies which the investors should consider before entering into these markets.
Risks associated with foreign exchange trading:
- The first and major risk in these markets is the leverage risk. The high leverage which might seem as an advantage is also a major risk factor when used irresponsibly. The leverage leads to accumulation of losses during highly volatile market conditions. Every small change in the price of a currency results in extra margin call which raises the investment of the trader. If the trader exits his positions at a loss, he loses the initial investments along with the extra margin money.
- The traders have to study the currencies they trade very clearly and they should also be up to date with the political and economic factors of the countries issuing the currency. The exchange rates of currency fluctuate depending on a lot of factors, the major one being the interest rates announced by the central bank of the country. If the interest rates are increased, the country attracts more foreign investment which in turn raises the exchange rate of the currency and if the interest rate falls, the foreign investors withdraw their investments which results in a decline in the exchange rate. This risk is known as the interest rate risk.
- The 24 hour functioning of the markets gives rise to the transaction risks. The transaction risk is the fluctuation in the exchange rate between the starting and ending of a contract. The higher the time difference, the higher the risk of fluctuation in currency prices.
- Another risk is the country risk. This risk is more when you trade in the currencies of third world and developing countries whose currency exchange rates are fixed to a stronger currency like US dollar or the Euro. The central banks of these countries have to maintain adequate reserves for a strong exchange rate. Any fall in these reserves results in devaluation of the currencies and huge fluctuations in their exchange rates.
- The counter party risk is another type of risk associated with trading in forex markets. This risk arises if the broker or the dealer defaults on a particular transaction and fails to honor his commitment. The broker might become insolvent due to huge losses and fail to fulfill the trade orders. There are laws in many countries to protect the traders from this risk.
Now that we have an idea about the risks and benefits of trading in foreign exchange markets, the traders can take an informed decision. They have to weigh in both the pros and cons involved with trading in these highly volatile markets and deal with the markets responsibly. There are a number of online tutorials that explain the tricks of the trade and various strategies of picking the right currency to trade like technical analysis, fundamental analysis and trend trading. There are also a lot of software systems available to predict the profit making currencies. But the traders have to exercise caution and select a professional and experienced broker to start trading in currency market. Foreign exchange markets are a great way to earn substantial returns when they are traded with care and caution.