Buying Stocks 101

Investors looking for alternatives to the stock market, either because of downward trends, stagnant growth, or the pace of trading, often find themselves investigating the wild and wooly world of forex trading.  Once the realm of large banks and global corporations, the forex (foreign exchange) market is now the playground of a wide range of entities and investors; some seasoned and skilled, others new and naive.  Forex Investing is a bit of a misnomer.  It would be more appropriate to say forex trading, because unlike the stock market where you buy and sell assets which have value in dollars, on the forex market, the asset IS the dollar, or other currency you may hold.  So Forex Investing could be simplified to say investing in currency, or currencies; essentially trading forms of money.  While it doesn’t carry the complexities of buying stocks, it does have its own language, strategies, and risks, which should be understood well before the first trade is made.

The Market

When you choose to dive into the world of forex investing, you may find the market to be a bit different than you are used to.  Unlike stocks, where you have central trading locations called stock exchanges, forex trading is done mainly through electronic trading networks or by phone.  The largest market for currencies is called the “Interbank Market”, and is dominated by large financial institutions and multi-national corporations.  In contrast to buying stocks, where the market has defined trading hours, forex markets are open 24 hours a day.

Order Types

When trading foreign currencies, you have many options on what type of trade order you want to initiate.  Beyond just buy and sell, these order types allow you exercise some control over your trades and manage risk in a very volatile environment.  If you just want to buy or sell at the current market price, that is known as a Market Order.  If you would rather trade a specific price, that would be a Limit Order.  If you want to prevent catastrophic loses, you may want to initiate a Stop-Loss Order at a specific price level.  If you believe the market is going to go up or down and want to enter the market then, a Limit Entry Order is for you.  If you believe the market is going to continue in the same direction as it is currently, you might want to issue a Stop Entry Order.  The beauty of Forex investing comes in when you combine these order types and use things like OCO orders to work a strategy.  OCO Orders, or one-cancels-the-other orders, allow you to set up multiple orders and cancel one of the other is executed.  GTC, or good-til-cancelled, orders are often used in conjunction with OCO orders since these orders stay in the market until they are filled or cancelled.

Types of Trades

As in buying stocks, you have long and short trade positions.  If you are long, you are attempting the profit from an increase in the price of the currency, essentially implementing a buy-low, sell-high strategy.  If you are short, you think the price will decrease, and are attempting to sell-high.

Trading Strategies

Forex investing comes with its own unique trading strategies, where the serious forex investor might use a combination of these strategies to hedge against the inherent market risk while realizing a solid profit.  As with other markets, you have strategies based around Technical Analysis where analyzing charts and trends helps the investor predict the ebbs and flows of the market.  In contrast, Fundamental Analysis studies the macro-economic indicators that are the basis for the underlying value of the currency.  Trend trading attempts to ride waves or movements in the price of a currency.  Swing Trading deals with trading according to short to medium term trends.  Range trading attempts to find the upper and lower bounds of a currency, using a combination of analytical models, in order to trade the currency inside of the range.  News Trading bases trades on news headlines and media reports.  Scalping strategies deal with making very small gains on very short term trades, taking advantage of minute fluctuations in the market.  Day trading is similar, except the trade periods can last longer, minutes or hours.  A strategy which attempts to profit in the fluctuations of interest rates is called Carry Trading.  A style of trading that involves buying and holding a currency for a longer period of time is called Position Trading.

Training

As you can see Forex Investing goes much deeper than just exchanging one currency for another, and is a whole different animal than buying stocks or bonds.  It is vital that the investor fully understand the world of currency trading before risking even moderate sums of money in the market.  It is advisable that the novice Forex investor take a course on forex investing or at least become familiar with some of the trading strategies via an online product like Forex Rebellion. Time, practice, and patience are essential for success with Forex Investments.

One of the most significant concepts to understand when trading currencies is that, unlike other markets such as buying stocks, a currency trade consists of both a buy and a sell simultaneously.  For example, when you expect the Dollar to go higher against the Euro, you are dealing with two currencies and an exchange has to be made between them.  In this example, when you buy the Euro, you are selling the Dollar.  This makes the foreign exchange market a unique and exciting avenue for savvy traders.  In order to learn currency trading, you need to understand the terms.

Going Long, Getting Short, and Squaring Up

As in most financial markets, certain terms are used to indicate market positioning.  A long position refers to having bought a currency pair.  A short position means you have sold a currency pair, meaning you’ve sold the base currency and bought the counter-currency.  When you long, you expect prices to rise.  When short, you expect the inverse.   When neither long or short, you are referred to as being square or flat.  If you have an open position and you intend to close it, that is called squaring up.

Rollovers

Because you are trading currency, that currency will draw interest, or accrue interest in the case of a short position. Thus, if you carry over an open position from one value date to another, you are rolling over your position and will be affected by the interest rate differential, the difference between the interest rates of the two currencies you are trading.  Rollover periods vary depending on holidays or weekends, but generally you are looking at a one-to-two day rollover.  If your just beginning to learn currency trading, it would be helpful for you to stop here and make sure you understand value dates and rollovers before moving on.

Trading in the Currency Market

There are two primary ways of executing a trade in the currency market: live trades and orders.  A live trade is executed immediately, often with the click of a mouse.  This can be a bit risky if you enter the wrong amount because there is no turning back once a trade is submitted, however the up side is that you can react to moves in the market as they occur and potentially profit from those fluctuations.  On the other side, you have orders, meaning you are requesting a broker take an action at which time the market meets your conditions.  A take-profit order requests that your position be closed at a specified level, essentially locking in your gains.  Limit orders simply trigger a trade at more favorable levels that currently exist in the market.  Stop-Loss orders do essentially that, stop you from losing your shirt by closing out a failing position.  A Trailing stop-loss order is a stop-loss order that you set a fixed number of pips from your entry rate, allowing you to neutralize losing positions quickly, but let a positive position carry on.  One-Cancels-The-Other orders is a stop-loss order paired with a take profit order.  When one triggers, the other cancels, offering a great risk-management tool when trading currency.  Lastly, contingent orders are simply a combination of several order types strategically formed to cover all your goals and manage your risks.

Where to go from here

If you truly wish to learn currency trading, your best bet is to locate a Forex broker and begin to read over their policies and training documents.  Trading currencies is not like buying stocks; it is much more dynamic and returns can be realized quickly.  But be sure that trading currency is speculating at its core, so be careful to step in the waters slowly and gain experience in the market before risking large sums.