How Does Currency Trading Really Work?

The following is a guest blog post:

The currency market is the world’s most actively traded market. Daily estimates peg the value of currency trading at $5.2 trillion, and most of it takes place in 3 countries: the UK, the US and Japan. The Triennial Central Bank Survey from 2010 established that 6% of all currency trading took place in Japan, 18% in the US, and 37% in the UK.

Other popular destinations for currency trading include Switzerland, Singapore, and Hong Kong at approximately 5% of global trade each. At these levels, currency trading activity dwarfs equities trading by a long margin.

Do you have what it takes to be a successful currency trader?

What does it take to be a successful currency trader? That’s what folks want to know. Most everyone handles money every day at some level or another, so it makes sense that we would want to make our transactions (payments, transfers, receipts, etc.) as profitable as possible.

The currency markets are extremely liquid and subject to high levels of volatility. For starters, major economic announcements like GDP, CPI, NFP data, interest-rate announcements and inflation data have a dramatic effect on currency pairs trading. Trade-24 forex expert, Hamish Cornwallis has been advising clients for several years.

‘In my experience, traders who adopt their strategies to market conditions invariably enjoy higher levels of success than those who trade haphazardly. If you know of an imminent economic data release, it behooves you to evaluate the impact of that data on the currencies you are trading. Quantitative tightening is bullish, while quantitative easing is bearish. A caveat is in order however – many economic variables have a nonlinear effect on currency markets…’

A practical example of what can drive a currency higher or lower

As a newbie trader, you want to be able to anticipate the directional movements of currencies against one another. Firstly, it is important to understand that currencies are traded in pairs. With the cable (GBP/USD), you’re buying one currency and selling the other. If you are bullish on the GBP, you would purchase sterling and sell dollars. By contrast, if you are bearish on the cable you would sell GBP and purchase USD. Currencies are always quoted in pairs.

Too many folks only consider the economic data releases of one currency when trading a pair. However, it is important to evaluate the effect of UK and US economic indicators on the GBP/USD pair. Recently, the GBP was boosted somewhat by improved retail sales data. This tends to result in an appreciation of the sterling. However, declining real wages and falling inflation came into play. The Bank of England assesses this differently. Declining inflation means that the economy is not ready for a rate hike just yet.

This pushed back expectations of an increase to the bank rate, which depressed the GBP.

Across the Atlantic, the US dollar index has been declining. It is approximately 7% down for the year to date, and this has negatively impacted the value of the USD. Since both the GBP and the USD are subject to negative economic variables, the overall impact is a slight appreciation of the GBP/USD pair.

Tips and tricks to help you succeed in Forex trading

There is no one-size-fits-all strategy to succeeding in currency trading. The most important lesson to learn right off the bat is the following: Establish a trading strategy. Think of this as a blueprint for your trading activity. Without a road map to get you from point A to point B, your trading will flounder. Consider a trading strategy in the same way as a budget. It clearly establishes a functional plan for your trading success.

Read as much as possible. Try to gather as much relevant information as needed for your trading activity. No more than 1% or 2% of your available capital should be invested in any individual trade. This is a risk mitigation strategy that can really help you. When you diversify your risk across multiple trades, you have greater safety in the currency trading arena. Finally, don’t let emotion get the better of you while you’re trading. It’s important to trade with your head, and not with your heart. Your pockets will thank you in the long term!

2 thoughts on “How Does Currency Trading Really Work?

  1. Interesting post. I’ve always had a fascination with currency trading. In fact, years ago, I dabbled in currency trading. Mainly virtual accounts though. Fundamental analysis was never my thing. I focused on technical analysis. I tried this indicator or that indicator that promised to make me hundreds of pips in minutes. Clearly, I didn’t know what I was doing. I went from one strategy to the next. I never actually used real money because, I could never find a strategy that made me money paper trading.

    Forex is hard, but if you can get it, it can be profitable. I know a friend of mine who makes money with this part time. But, he developed his own algorithm which he doesn’t share. I used to dream about sitting on the beach with my laptop, taking less than 5 minutes, and placing a successful trade earning enough money where I didn’t have to work again for the whole day. Now, I dream about sitting on the beach relaxing knowing that without any effort, I’m earning dividends with my dividend portfolio – making enough money so I don’t have to work a JOB unless I want to.
    Dividend Portfolio recently posted…Great NewsMy Profile

    • Hi DP,

      I have never dabbled in any currency trading but like you I have a buddy that swears by it. Of course, he is glued to his screen as currency trading can be extremely volatile and on a 24 hour schedule. I have found that you can’t have a passive approach towards this type of investing. Of course, we all dream about working for five minutes on the beach and then enjoy our day after a successful trade. How practical that dream is, is another story. Thank you for commenting.

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