The ultimate guide to forex trading ( made simple) Learn to invest in forex with a good base to avoid many beginners mistakes; this is what you will learn by reading this article.
The foreign exchange market, called FOREX has been the fastest growing market in the past 20 years. There are nearly 4000 billion transaction volumes per day!
This is due to the fact that currency trading is becoming more and more popular thanks to several factors:
√The development of the internet allows everyone to trade from home.
√An increased willingness to take risks. The “new” traders are ready to take more risks. √The goal is to get a return on investment as quickly as possible.
The start-up costs are very low. Forex is open to everyone, even those who do not have a large starting capital.
Low fees. Trading forex costs less than stocks because brokers do not take commissions other than the “spread”.
Opening time. Unlike the markets which are only open a few hours a day, forex is open 24 hours a day, 5 days a week. You can, therefore, trade on forex anytime except weekends.
You have no doubt heard stories of young traders who became millionaires in a short time starting with small capital. This is not what you will learn in this article. even if some have succeeded in this feat, we must start by keeping our feet on the ground.
The goal of this is to learn a “reliable” method to make money on forex. This method will not allow you to get rich quickly. As a good beginner, you will inevitably make mistakes that will be more or less costly. It will be up to you to learn from it.
This article is not intended to make you rich but to teach you how Forex works. It will teach you important strategies and how to protect your capital. The purpose of this book is that you can get a head start on Forex.
Part 1: How Forex Works
Forex, as it is now, has existed since the 1970s. In the past, we used the gold standard to define the value of a currency. We fixed a gold weight which corresponded to the value. The exchange of coins and notes for gold was certified by the state.
Thanks to this system, the value of a currency was very stable. There was no fear that it would lose value since it was directly linked to the value of gold. Converting currencies was therefore also easy since the value of currencies was always the same.
In the past, the price of gold was much less volatile than it is today. It was during the 1st World War that Western countries abandoned the gold standard. The United States did the same later because of the Great Depression of 1933.
In 1944, after the Normandy landings, the allies met at Betton Woods to discuss how the world economy would be structured after the war. It was during this meeting that the IMF was founded.
The United States has reintroduced the gold standard into its monetary system, thereby pegging all other currencies to the dollar. These are connected to the gold standard via their parity with the dollar. In this way, the US dollar became the international reserve currency, which is still the case today.
However, in 1970, because of the increasing cost of the Vietnam War, the United States was forced to abandon the gold standard. This ended the agreement put in place at Bretton Woods, which ensured monetary stability by linking the most important currency to the gold standard.
Despite this, the dollar remained the reserve currency. This means that since that time, international monetary stability has been closely linked to the stability of the US dollar. It was the beginning of the era of floating currencies. The price of the currency is therefore now determined by the free market.
The term “Forex” is an acronym for “foreign exchange”, also known as the foreign exchange market. It is the biggest financial market in the world. It is a so-called over-the-counter market, which means that orders do not go through the stock market, but are made by the participants themselves.
There is no supervisory authority. As Forex is a market without a central exchange or supervisory authority, this market is open 24 hours a day, five days a week. In fact, it remains open as long as there are banks to process currency orders.
A few years ago, the main players on the foreign exchange market were banks, multinationals and governments. But in recent years, a new player with a lot of impacts has come into play: the individual trader. Initially, Forex was used primarily to ensure the proper functioning of the international monetary system.
But nowadays, 70 to 90% of the volume of orders comes from speculation. That is people who are trying to make money by exchanging currencies. This is also the case for other financial markets.
How are exchange rates determined?
In forex, the value of one currency is determined in relation to another currency. They are exchanged in pairs. For example, the euro against the dollar, whose currency pair is indicated EUR / USD (euro/dollar). When the demand for euros increases, the rate of the EUR / USD pair also increases. When demand decreases, the EUR / USD pair also decreases.
All currencies are quoted against each other. It is, therefore, possible to trade hundreds of currency pairs on the forex. The most important currency pair is EUR / USD.
A currency pair is represented by the code of the two currencies separated by a “/”. As for example: EUR / USD, GBP / USD, USD / JPY,… Currency codes consist of 3 letters. The main ones are:
√USD = US Dollar
√EUR = Euro
√JPY = Japanese Yen
√GBP = British Pound
√CHF = Swiss Franc
√CAD = Canadian Dollar
√AUD = Australian Dollar
√NZD = New Zealand Dollar
The first code corresponds to the base currency and the second to the currency of “counterparty” or “quote”. The base currency is the currency you bet on when you buy. If you sell, you are betting on the counter currency.
When we buy or sell a currency, we say that we open a position. If, for example, you think the euro will rise against the dollar, you will open a buy position on the EUR / USD pair. If you think the opposite, you will open a short position on this same pair.
The difference between Forex and stocks
The main difference between stocks and currencies is that if you own stock in a company, you become one of the owners of the company. In forex, you just own money. A position in forex has no intrinsic value. In addition, if you own a stock, you will likely receive dividends.
The share price of a company that is in good financial health should normally go up in the long run. On the other hand, the price of a currency pair will tend to fluctuate rather than go up over the long term.
Forex is, therefore, a speculative market rather than an investment market. One earns money by speculating the rise or fall of a currency over a certain period.
Finally, the stock market costs more. You need more capital to buy a stock. This does not allow small investors to trade in this market. For example, with 1000 euros, it is not worth buying stocks, in addition, there are management costs and brokerage fees. By cons with the same amount, you can really profit from forex.
The peculiarities of Forex
As we mentioned earlier, with the advent of the internet, individuals can now easily invest in the Forex market. The forex offers a different lot of prices. At first, it took 1000 dollars to buy a lot on EUR / USD.
Now, brokers are offering micro-lots. So you can buy a lot for 10 cents. This means that you can start trading forex with a small capital like 200 euros.
“The markets are constantly in a state of uncertainty and flux, and money is earned by discounting the obvious and betting on the unexpected ” – George Soros
Part 2: How to Trade Forex?
Your first account
It is through practice that we learn. So if you want to succeed in making gains, you will have to get wet. Of course, you should not empty your account. As we saw above, with the batch micros, you can start with small capital.
In forex, it is possible to earn quite a bit of money. Smart and talented traders can make a lot of money in a short time starting with a modest starting capital.
But it is not by putting more than you can afford that you will imitate them. It is better to go there little by little and to grow your capital little by little, rather than trying a poker game and finding yourself with nothing.
The capital you will need will depend on your goal. If you only want to try trading a little, a small capital of 200 euros will be enough. This will allow you, with the micro-batches to hold a good time and learn from your mistakes.
If your goal is to make a living on the forex, a starting capital of 200 euros will also be enough to see if you are able to be profitable on a regular basis. On the other hand, do not expect to get rich and leave your job after 3 months with this starting capital.
Many beginners lose their initial capital. This is because it takes time before you find a trading strategy that works for you. Just as it takes time to learn to manage risk. You will also have to overcome many psychological traps, such as managing frustration when a position that you thought was winning turns out to be losing.
You will need to develop the discipline to close a position at the right time when emotionally you want to gain even more to make up for losses. You have to succeed in staying calm and rational, especially in the heat of the moment. These are the essential qualities to be a good trader.
Before you start, you should realize that learning how to trade profitably takes time, money and a lot of patience. Don’t start with capital that you don’t want to lose.
It is obviously impossible to earn a living with 200 euros. But you will be able to get an idea of how profitable you are or not and this will give you enough time to learn.
How to choose your broker
To choose a broker, you will have to look at the quality of the platform it offers to trade. It must be user-friendly because you will spend some time there to monitor your positions. It is also important to take into account the quality of service of the broker. Is it easily reachable? Is customer service friendly and available?
We must also take into account the financial regulatory authority which has approved a trading platform. A broker who is regulated by a large body inspires more confidence.
Should you start with a real or demo account?
You will not be able to learn how to make money using a demo account. The psychological aspect does not come into play sufficiently. You will be faced with situations that will not be easy to manage psychologically. In the same way that you do not learn to surf on sand, you do not learn to earn money on Forex with a fictitious account.
However, a fictitious account can be very interesting to familiarize yourself with a platform or test new strategies.
All you have to do is find a broker you like and open a demo account on it. Or if you want to get straight to the point, open a real money account and put some small capital in it.
Manage your money
The lack of fund management is one of the main reasons why traders who start out quickly lose their initial capital. Trying everything for everything by putting a capital of 2000 euros and opening positions of 200 dollars per trade will not lead you to anything.
Rule # 1: Survive
Your main mission is to stay in the race (in fact it is the 2nd, the first being to earn money Winking smile). You will necessarily have losing trades. And if you run out of money, you will not have the opportunity to compensate for these losses.
It is therefore essential that you know what is your average risk/reward ratio per transaction. That is, how much you risk to make X% profit. This will let you know how much money you can invest in a position and what is your expectation of gain in it. A rule frequently used by traders is to never stake more than 2.5% of your capital in each trade.
To go further, I created an article on How to manage your portfolio on the stock market, which will allow you to learn more to protect your capital.
Part 3: Understanding and anticipating price changes
Practising fundamental analysis involves gathering relevant information from several sources and deducing what a currency pair will do. It, therefore, consists in taking into account all the factors which can influence the economy, such as production capacities, information linked to employment, GDP, etc. This type of analysis can make it possible to understand price fluctuations in the past and perhaps anticipate those in the future.
The fundamental analyst must absolutely take into account the financial news. He will then have to draw his own conclusions in an attempt to anticipate the direction the market will take.
Since the value of currencies is directly linked to the economic context of the regions that use it, economic conditions, therefore, have a direct impact on the value of currencies.
Fundamental analysis has a flaw, however, since it does not take into account market sentiment. As a result, a trader who bases his strategy solely on fundamental analysis will often find that prices do not go in the direction suggested by economic data.
Similarly, a trader relying only on technical analysis, without worrying about financial information will have the same type of problem. The price of currency pairs can become very volatile just before and just after significant economic news. Technical indicators are unable to predict this type of variation.
The most successful traders are those who use fundamental analysis and technical analysis at the same time.
The aim of technical analysis is to anticipate future price movements by analyzing price fluctuations in the past. The most effective trading strategies are often based on technical analysis.
In addition to the graph itself, the technical analyst uses tools called “technical indicators”. These are mathematical formulas applied to the movements of the past and whose result is compared with the current price. In the past, these indicators were calculated by hand. With new technologies, they are available immediately on trading platforms.
One would think that prices fluctuate randomly, however, most of the time, these movements follow recognizable patterns.
For technical analysis, you will need to use Japanese candlesticks to read the graph.
These charts contain more information than a line or bar chart and are easier to read. These perfectly reflect all the fluctuations of a currency pair over a given period.
What was the highest and lowest price, at what level the price closed and what was the amplitude of the variation? In addition, the colour tells us at a glance whether the price has gone up or down.
One point on which fundamental analysts and technical analysts agree is that prices do not move in a completely arbitrary fashion. If that were the case, studying the news and the graphics would make no sense. Fluctuations in a currency pair are caused by human activities. Traders, banks, governments, …
These all open positions in forex. It is all of these operations that determine the direction of the course of a currency pair. Although men’s actions are ambiguous and often emotionally driven, they are not random. In the long run, these human interventions are rational, because everyone is trying to make money on the foreign exchange market.
Part 4: Forex trading strategies
It’s about trading the trend. We speak of a trend when the price moves in a well-defined direction. In an upward trend, prices are rising higher and higher.
Conversely, for a downward trend, prices continue to fall. Obviously, there are fluctuations in the opposite direction which we call “retracements” but the general direction is clearly visible.
The goal of trading the trend is simple: try to open a position when the trend starts and keep it until the trend reverses. Simple in theory but complicated in practice. Indeed, it will be necessary to open many small positions which will turn out to be losers before a trend is really declared.
In addition, you have to stay as much as possible in the trend to have sufficiently substantial gains. It is difficult trading because losing many small positions to gain a large one can be difficult to cash out psychologically.
Range trading is interesting when prices fluctuate between two clearly identified levels. It consists of opening positions to take advantage of weak market oscillations.
You can only be certain that a market is in range once this range has lasted for a certain time. There are, however, a few tips that can help locate a range faster:
√After a period of high volatility, currency pairs often fall back into range.
√Range phases are more common on currency pairs with similar interest rates set by their central banks.
√The more interdependent the savings linked to a pair’s currencies, the more likely the pair will experience range phases. Like for example the euro and the Swiss franc.
√Using a graph, locate range periods in the past. Identify durations and amplitudes. This may allow you to see if a new range is being built.
Scalping consists of opening positions over very small periods. The goal is to raise many small sums. Positions do not remain open for more than two minutes.
It is a strategy that is not suitable for beginners. Indeed, this method is relatively stressful because it only takes one bad trade to cancel a full day of profits.
The breakout strategy consists in opening a position when the prices “breakthrough” a significant level. It is a popular strategy for beginners because it is easy to understand and implement. You just have to enter the market when the price leaves its “channel”.
There are two types of breakouts:
√The continuation breakout: the market continues its trend after a consolidation phase.
√The reversal breakout: the market undergoes a reversal and the price leaves in the opposite direction.
Reversal breakouts are rarer than continuation breakouts, simply because trend reversals are rarer than trend pursuits.
Trade economic news
Certain economic news, such as the publication of American employment figures, can have a significant impact on the markets. The most important currency pairs are often very volatile shortly before and after these announcements. Developing a trading strategy based on economic news can be exciting and potentially very profitable.
Normally, the greater the difference between the figures announced and the forecasts, the greater the impact on the market. The direction the market will take is not predictable and does not matter. We must wait for the first impulses and position ourselves in this direction.
“It takes 20 years to build a reputation and five minutes to ruin it. If you think about it, you will do things differently. – Warren Buffett
Part 5: How to Become a Good Trader
Trading in the markets is like playing a psychological game against yourself. To succeed in the forex market, you need good preparation, the will to work hard, perseverance, discipline, self-knowledge and luck (a little bit).
Find the type of trading that works best for you
We must first define its objective. This must be realistic, you must keep your feet on the ground. To define this objective, you must take into account several parameters:
√Time: How much time can you spend in forex?
Time to study forex: You will also need time to improve your knowledge of the foreign exchange market. The more time you have to devote to learning, the faster you will improve.
√Money: Last but not least, how much can you invest to trade?
Most traders lose money. Trading in a market like a forex can be very emotional.
Succeeding requires much more than a good strategy. Everyone has their strengths and weaknesses. Knowing them will be an advantage in choosing which market you will trade-in and which type of trading to choose.
Among traders losing on forex, we can identify two categories:
√Players: They trade as if they were playing at the casino. They hope to get rich overnight. They open positions without too much thought, they put too much money in a position, buy greedily and sell in panic.
The unstructured: These traders think, but lack structure, more precisely, they do not follow a system. They understand how the market works but trade as they see fit. They learn very little because they have no system to learn from their mistakes.
√Schizos: They know how forex works and have a good trading system. The problem is that they don’t use it. They’re a bit like the nice, calm people who get aggressive madmen behind the wheel.
A good trading system is not just a simple strategy. It is also personal choices and a tailor-made method. To create a system that is well suited to you, you need to know yourself well: your strengths, your weaknesses, your preferences. You should see your trading system as a business of which you are the boss.
An important part of trading is knowing when to open a position. This is where technical analysis and fundamental analysis can prove very useful. Set-up is made up of several technical and fundamental criteria which must be fulfilled in order to open a position.
Most novice traders lose money not because trading currency pairs is difficult, but because it sounds too easy. Many amateurs are tricked into thinking that they will quickly get rich without spending too much time studying or investing a lot of money. Because of this, they do not seek to find out what the tactics of successful traders are and are unable to learn from their mistakes.
To put it more simply, most traders do not make enough effort. They found set-up videos on youtube and some information on the net and think they understood everything to win! In reality, a good set-up, although important, represents only 10% of the baggage it takes to win on the markets.
A good set-up is important for the following reasons:
√It forces you to think about the best entry points.
√It prevents you from opening a position when you don’t know how to interpret price movements. (Although this rule is often bypassed)
√A set-up provides a frame of reference for the situations you are looking for. You have to find the set-up that suits you, it can come from another trader, but it is a system in which YOU must trust.
Knowing when to get out of a position is at least as important as knowing when to get in. We can find on the net, lots of information to know when to open a position, buy an asset, … but there is very little information to know when to stop a position:
The stop loss to limit losses. Limiting losses is just as important as optimizing profits. All traders lose trades and each euro saved in a losing trader has as much value as one euro earned in a winning trade. It is therefore important, before opening a position, to think about the reasons which push to open it and to place a stop loss consequently.
Go out to guarantee and maximize the gains. Since not all trades are winners, it is necessary to ensure that successful traders are profitable as much as possible. It often happens that beginners cut their profit too early, for fear of losing the gains already acquired.
A simple way to avoid this problem is to set a profitability target in advance. One can choose, for example, to close the position after a certain period: an hour, a day, a week.
Goals over time have limits, of course, but for some, it is the best solution. Another possibility is to gradually build up the stop loss to ensure a certain number of gains already acquired.
Stepped exit points. Some traders do not immediately open a full position. They only put apart (for example 30%) and wait to see if the price goes well in the direction they hope. If the price continues to move in the right direction, they open a second position, then a third.
In any effective trading system, special attention must be paid to money management. Even if you’re very good at trading, if you don’t follow financial management rules, sooner or later you will end up emptying your account.
When defining the size of a position, the most important objectives are:
√Protect your trading capital
√Allow you to determine your expected gain
√Help you modify your trading system to optimize the expectation of gains and minimize the risks.
If you lose your trading capital, you are out of the game. You must, therefore, protect it. To do this, you need to know what is your percentage of winning trades, what is the profit/loss ratio of a position. As your capital increases or decreases, you must adapt the size of your positions.
Evaluate your system
Even if your trading system looks efficient, you can still improve it. At first, it is even very likely that your system will not work as you would like. Evaluating your system allows you to criticize it and improve its performance. You shouldn’t just watch if your capital increases or decreases.
Performance per trade is the most important information you can get from your trading system. To have a concrete idea of performance, several figures are to be looked at. Among them, the expected gain expressed in position size, the increase or decrease in your capital and the percentage of successful trades.
The expected gain expressed in terms of position is the most important information to know about your trading system. The more trades, the more precise this figure. The expected gain is calculated by dividing the total net profit by the number of positions.
The increase/decrease in your trading capital is obvious to see since it is the amount remaining in your trading account. You have to follow it from time to time to get an idea of how it is evolving.
To do well, it would be necessary to evaluate both all the elements of his system but also his system as a whole. Your system, if you trade regularly, should be checked once a month. To be able to analyze it in a simple way, it may be wise to keep a trading log. In this log, you will note each position and its result.
The psychology of trading
The difference between losing and winning is often very small. You will necessarily lose trades. The difference between failed traders and successful traders is sometimes very little. To build a good system, you have to start by accepting the risk.
You also have to take into account that you shouldn’t trade at certain times: when you don’t have time to make good decisions, when you are tired or drunk when you don’t feel it when you have suffered a big loss and you are worried when you are not focused, or for any other reason like that.
Sometimes you will have to stop trading for a while: when you have just started a new job, when you have had a baby, when you have just separated, when you are not feeling well and when you have problems ‘money.
You need to consider the worst-case scenario in advance and ask yourself if you will be able to cash it out. If it happens and you are not mentally prepared for it, it will affect you much more.
Conclusion on The ultimate guide to forex trading
We often think of stocks and real estate but Forex can also be an effective and fun way to invest.
It was the first trading book I read, and it gave me a good start. It tackles in a simple and rather well-explained way many things to know to hope to be profitable in trading.
The methods of reading charts explained are also useful for investing in areas other than Forex. However, I have not addressed in this summary the different specific and technical methods that it offers. This being, in my opinion, perhaps a little pompous for a reader that the subject does not interest more than that.
Finally, if you want to invest in Forex but it scares you, I invite you to read this article: 5 false beliefs on the stock market to reassure you