Calculating Your Profits Correctly…- A Daily Forex Trader Exercise

In examining your data this morning, you come to believe that the Euro might appreciate in value against the US Dollar in the near future and the current exchange rate is EUR/USD = 1.4210. As such, you decide to exchange US$ 100,000 to purchase Euros.

US$ 1.00 = EUR 1.4210
US$ 100,000/1.4210
You will receive EUR 70,373

Profit Realization
Later on, as expected, the Euro appreciates by 75 pips to EUR/USD = 1.4285. You then decide to sell your Euros and exchange them back into US Dollars to earn a profit by selling at this higher rate after buying at the lower rate.

US$ 1.00 = EUR 1.4285
EUR 70,373 x 1.4285
You will receive US$ 100,528
Your profit = US$ 528

Note: Your $100,000 purchase of Euros was leveraged, relatively risk-free to you, as you executed this transaction with only $1,000 of your money invested upon which you received a $528 return. Remember that you can only lose a portion of the money you have actually invested in margin, not the amount of the transaction.

Welcome to the world of Forex investment!

For insight, see "Currency Pair Exchange Rate/Trading Value" and "Concepts and Terms of Forex - Beginning with the Basics".

Concepts and Terms of Forex- Beginning with the Basics

The process of Forex currency trading is very straight forward however the beginner will require some study to be able to trade successfully. We hope to give the novice a basic idea of how things work and how to navigate through the learning cycle with ease.

Here are the basic concepts and terms you will encounter in your Forex travels. It may seem a little confusing at first but it's really quite simple. The more familiar you are with the ForEx basics the easier it is for you to get started well in ForEx currency trading. We might repeat what is listed elsewhere on this site which should serve to simply reinforce these concepts and terms.

Quotes
Every currency has a three letter abbreviation. The currency rates are always quoted in pairs and expressed as a five digit number. The first currency in the pair is the base currency and it is always equal to 1. For example, if EUR/USD = 1.4100 then every 1 Euro is worth US $1.41.

Pips
Currencies are traded on a price interest point (pip) system. The last digit in the currency pair represents one pip. For example if the GBP/USD rate moved from 1.6374 to 1.6375 this represents one pip movement. It also means that the GBP has appreciated by one point and the USD has depreciated by one point. Each currency has its own pip value. Similarly if the USD/JPY rate moved from 130.45 to 130.46 it has appreciated by one pip.

Pip Value
In any currency pair the base currency has a pip value of $1 per every 10,000 currency units. Therefore in a standard 100k account the base currency has a pip value of $10 for every 100,000 currency units.

Bid/Ask Price
The 'bid' price is shown at the left side of the quotation and is the price at which the trader can sell the base currency. The 'ask' price is shown at the right side of the quotation and is the price at which the trader can buy the base currency.

Bid/Ask Spread
The Bid/Ask spread is the difference between the bid and ask price for every currency pair. Forex traders are subject to spreads when opening or closing trades in the buying position. In other words, you are always subject to a spread when you buy, regardless of whether you are opening or closing the trade. The lower the spread the lower the broker's fees. The narrowest spreads are quoted on the most liquid currency pairs which are also known as “the majors”.

Margin
The beginner needs to understand that Forex currency trading is conducted on margin. This means that you only need to use a small cash deposit to trade a much larger amount of currency. The margin deposit is required as collateral to cover any losses that might be incurred. A broker might require only $1,000 in your trading account in order to trade from a $100,000 margin trading position. In effect the broker loans you $99,000 for $1,000 in security. You cannot lose more than your margin deposit amount.

Lot Sizes
Trading is done in lots, either standard lots or mini lots. A standard lot size is equivalent to 100,000 units of currency. With 100:1 leverage you will need $1,000 to trade one standard lot. A mini lot size is 10,000 units of currency, with 200:1 leverage you will need $50 to trade one lot.

Rollover
When a trader has an open position at 5.00 pm EST it will automatically be rolled over to the next day resulting in your trading account to either earn daily interest or pay daily interest. This is determined by the 'interest rate differential' which is the difference between the short-term interest rates of the two economies comprised in the currency pair.

For example, with GBP/USD, if Britain’s interest rates are 5.0% and U.S. interest rates are 2.0%, the interest rate differential is 3.0% (5% - 2%). Therefore if you were to buy GBP/USD you would receive interest at 3.0% per year. If you initially sell GBP/USD you would have to pay interest at 3.0% per year.

Carry Trade
The purpose is to earn extra income from the daily interest payments when you hold or retain a currency pair. Selection of the right currency pair is essential for this to work. You will need to buy the currency with the higher interest rate and sell the currency with the lower interest rate.

Cross Currencies
Currency pairs that do not involve the U.S. Dollar.

Long Position
Long Position occurs when a trader initially buys currency with the expectation that the currency will increase in price thereby selling it later at a higher price.

Short Position
Short Position occurs when a trader initially sells currency with the expectation that the currency will decrease in price thereby buying it back later at a cheaper price.

By the way, as reminder, you should probably know how to calculate profits well since you should be doing that often!

Three Personal Trading Styles Defined - "Fierce, Focused or Frugal"

The Aggressive “Got Your Webitos” Trader - Ferociously Fierce!
You think conservative trading is dull, lifeless and boring. You have plenty of time and money but still want more of both. You enjoy the action. You are an adrenaline junky. You are the kind of person that jumps out of perfectly good airplanes just to freefall for 45 seconds and pull the rip cord. You and your PC can surf a multi-trillion dollar tidal wave, the Billabong of all time, pick a pair that is totally Richter, catch an A-frame, drop in, maybe even get barreled. It’s part of the adventure to experience periodic hard hits at this level but to you it's the thrill that enhances the game. How hard a hit depends totally on you, your board and your skills. You catch a monster and ride it into the beach. Life is played on your terms. Oh yeah, you probably own the sand too.

Suggested start point for you is 25,000 “Demo Dollars”- minimum. It’s only money and you have plenty. Blow this and it’s zero impact. An aggressive trader “lives” in front of their PC with the ultimate rush - the confidence, power and ability to master the market. You use risk and money management so your gains are secured and your losses are expected and sustainable.

The Optimal “All Pistons Firing” Trader - Fascinatingly Focused
You appreciate the perspective of both aggressive and conservative traders. You have a zest for life and certainly want more out of it so you have long term goals that do not allow for you to be wasteful. You may go to Vegas for a good time, but that does not mean you spend all your cash playing roulette. You’ll take in a show and bring only what you can afford to lose. You do sink some into the Megabucks slot machine hoping for those millions. You’re doing pretty well, life is on course with several irons in the fire. Your life is about balance. You know that risk and success are relative and are willing to put something on the line for opportunities with promise and reason. There is a hunger for thrill but within some self-determined variable boundary of security. You can experience the pounding waves in confident strength but with a more controlled, less volatile environment with higher protection.

Suggested start point for you is 25,000 “Demo Dollars” - minimum. You have it. You don’t want to lose it. You’re willing to venture out of a comfort zone to experience better returns and can take a hit if necessary. As an optimal trader you have a busy life and can’t just “live” on your PC like the aggressive trader. Nor are you likely to pull out a calculator and spreadsheet to learn the nuances of the Fibonacci sequence of integers for detailed analysis like the conservative trader before you make your move. You get the basics, learn as you go, check and adjust as needed but not too often, grow your capital steadily and take it from there. You want the whole package, mitigated risk with higher return options.

The Conservative “Inquiring Minds” Trader - Fastidiously Frugal
You are analytical and make your investments based on detailed research. You consider the volatility of values in general and are a student of cause and effect. Values should be evaluated in a "prudent" and objective rather than an "optimistic" and subjective way. You maintain a pessimistic disposition as it has served you in life to better represent any potential liabilities and limit the possibility of eventual disappointments. Risk is for the insane. As such when it comes to investing and obtaining increased returns which you would enjoy, you prefer to err on the cautious and seek low-risk, relatively safe, slow and steady growth rather than the optimistic more unpredictable side.

Suggested start point for you is 10,000 “Demo Dollars”- maximum. To risk any more under any circumstance in a new venture is beyond your comprehension. A conservative trader in most cases has set the parameters so data supports your conclusions. You have already made allowances for gains and losses. This is a long-term play and watching the market will only serve to confirm your analysis. You are prepared to make any necessary adjustments as conditions change.

Enjoy the waters!

Twelve Celebrations of ForEx Trading

Foreign currency trading is a marvelous way to make our money work harder for us and grow more quickly. We can make money from the Foreign Currency Exchange Market (ForEx) if we learn the rules and play the game properly.

Foreign currency trading is a fascinating pursuit that now can be used by anyone. There are twelve factors, unique to the ForEx market, which make it a very exciting, fast-paced alternative to traditional investing. It will prove to be most beneficial to those who take time to learn the basics; proceed through trial investment practice using a free demo; develop relationships with other ForEx investors for support, strategy sharing and encouragement; and finally employ the services of an expert advisor, a computer program that assists with analysis to operate in your favor, with time-tested charting of positive results. For anyone researching ForEx as an investment option, the following points make for great inducement.


Unlimited Profit Potential
You can make money when the value of a currency is going up or down. For example, if you think the USD is rising in value you would simply buy USD and if you think the USD is falling in value you would simply sell USD. There is potential for gain in either direction.

No Transaction Fees or Costs
There are no brokerage fees and no commissions. The broker makes a profit from the difference between the bid-ask price of a currency pair known as the spread.

Round the Clock Trading Hours
The ForEx market runs continuously 24 hours a day from 5:00 pm Sunday afternoon to 4:00 pm Friday afternoon. Unlike the stock market you do not have to wait for opening times.

Anyone Can Do It Anywhere
Foreign currency trading can be done by anyone from anywhere in the world no matter where you are residing as long as you have an internet connection.

Increase Income on a Regular Basis
Foreign currency trading enables you to make money from the comfort of your own home computer working at your convenience or leisure if only for a few hours a day or week.

Affordable Start-up Costs
There are generally no minimum contract sizes to trade and you can open a ForEx account with as little as $250 to commence foreign currency trading. Proficiency tools can be purchased at a later date or may assist in the learning process from the beginning.

Liquidity
The ForEx market is the largest and most liquid in the world. Trading with consistent volume is routine. Traders can more easily enter or exit a position at a fair price with relative regularity.

Leverage
Forex brokers can provide you with 100:1 leverage which is more than the leverage provided anywhere else. Your small deposit can control a much larger amount. For example a $500 margin deposit would enable you to trade $50,000 of currency. A word of caution, although leverage can increase your profits in successful trades, it can increase your losses in unsuccessful trades. It is considered most wise to avoid high leverage when trading currencies.

Protection Against Significant Loss
Stop loss orders can be placed with your ForEx broker at a specific price that guarantees the point at which you will exit your trade. Trading foreign currencies enables greater control of potential loss.

Free Practice Demonstration Account
You can learn how to trade foreign currencies in real-time manner using live charting, strategies and trends analysis without risking any real money. This practice account enables you to gain understanding, experience and confidence before depositing your funds for real life trading.

Trade Selection
You can focus your analysis on just a few currency pairs compared to the stock market where there are thousands of commodities from which to choose. The mastery and study of several currencies could be gained relatively quickly.

Diversification
Foreign currency trading provides investors with an alternative to investing in the stock market and can be used to supplement their portfolio investments or offer greater direct control of their capital.

Currency Pair Exchange Rate/Trading Value

In this example USD/EUR, the currency listed first (USD) is the base currency. The value of the base currency is always 1.

A quote of USD/EUR 0.7953 means that one U.S. dollar is equal to 0.7953 euros. When this currency quote goes up, it means the dollar has appreciated in value and the other currency has weakened. If the USD/EUR quote increases from 0.7953 to 0.8027, it indicates the dollar is stronger because it will now buy more euros than before.

For insight, see "Calculating Your Profits Correctly" on this blog.

Understanding Forex Currency Pair Quotes

Reading a FOREX quote may seem a bit confusing at first but it's actually quite simple. Forex quotes are presented as two numbers. The first number is called the bid and the second is the offer/ask.

If we use the USD/JPY (U.S. Dollar/Japanese Yen) as an example 115.37/115.40, the first number 115.37 is the bid price and is the price traders are prepared to buy USD against the JPY.

The second number 115.40 is the offer price and is the price traders are prepared to sell the USD against the JPY.

Foreign Currency Exchange Fundamentals- The Mechanics of Increased Earnings

The Foreign Currency Exchange Market is rather simple as is anything once a person has had enough exposure and education. Currencies are traded in pairs, meaning that you are trading or exchanging one currency for another. A simple way to understand this is to consider what you do when you go on a foreign vacation.

Let's say you are an American citizen planning to travel to Canada. You decide to take $10,000 United States dollars (USD) to the bank for exchange into Canadian dollars (CAD). The exchange rate is 1.4000 when you arrive at the bank, meaning for your $10,000 USD, the bank gives you $14,000 CAD.

Now let’s say you do not use cash at all during your vacation and upon returning home you decide to exchange it back to USD currency. The exchange rate is now 1.3700 (a change of 300 pips during the week). Your $14,000 CAD would convert back to $10,218.97 USD.

You are pleasantly surprised that you just made $218.97, a 2.19% increase in cash flow and worth in one week. Congratulations on becoming an expert Foreign Currency Exchange Trader!