Is Forex Trading a Zero Sum Game?
Foreign exchange trading is popular among people who want to expand their margin of profitability. Its lucrative space offers just enough positive outcomes, and the returns are frequently immediate. As much as it is viewed as a potent space for profit, however, it can also bring serious financial stagnation.
This claim is specifically valid if we look at forex using the concept of a zero-sum game, a game theory that is imperative in trading specific financial instruments. Here, we discuss the idea at length.
The Zero-Sum Game Concept Simplified
Simply put, the ratio of wins and losses in the market is just equal. For every successful trade, there is a corresponding loss tallied by another trader. As a result, the correlation between gains and losses in the market is zero, hence the name.
The concept is applicable in most of the gambling we know, with poker being the classic example. Say that two players bet $100 for a round. When one loses his bet, the other one takes it. Since the gain of one is the loss of another, there is no presence of any practical value for both players.
Foreign Exchange as a Zero-Sum Game
Now, the same can be true for forex trading. Currencies are traded in pairs, and a single trade requires another transacting party to either buy or sell the pairs. It does not necessarily have to be an individual; a counterparty may be as large as a banking institution. Regardless, trades require a buyer and a seller.
The premise is simple: a trader’s win is a loss for its counterparty. Or it could be the other way around. Whichever is the case, the transaction has not established any sense of collective gain as there is a corresponding loss for every earning.
The Relevance of the Zero-Sum Concept
Many choose to believe that forex trading works through this concept. However, it varies according to persisting purpose and conditions. Take into account the history of forex, which was only accessible by large financial institutions before the public was given all-out access.
To date, almost anyone with reliable bandwidth and a capital can share a percentage of a particular currency, which means many traders pursue profitability even at the expense of someone else’s funds.
Other Opinions About the Zero-Sum Concept
In criticism of the zero-sum concept, some traders refuse to consider it the de facto case. Some believe that trading is a positive-sum game, which forwards the idea that someone in the market does not necessarily take the negative blow of another one’s profit.
For example, a trader who buys euro today and sells it the following day for a relatively higher price has earned a percentage. The seller, who bought it at a relatively low price before selling, also earns a percentage. With that, both the buyer and the seller have benefited.
There is also the belief that forex is a negative-sum game, which means profits and losses, when added collectively, are still below zero. This perspective then creates tighter market competition as the only way to stay winning is by taking advances from another party.
This concept is gleaned from how brokerage fees charge additional fees for different transactions.
Say, for example, a broker that employs a huge workforce charges additional fees to compensate. With this, buyers and sellers utilizing the broker’s platform have more losses than they actually record during trading. Collectively, both share the same level of loss as they are charged with the same amount of transaction fees.
What’s Your Next Move?
There are multiple ways to approach financial markets if you plan on entering soon. One of the best ways to help you decide is by looking at it as a zero-sum game. For every profit made by a trader is a loss tallied by another.
The exchange might not be as immediate. But if you look at it collectively, such is the case, especially for spot trading, which involves a high level of speculation.
Whatever your move will be, take your trading with Fair Forex. We help you gain desirable outcomes through trading tools, platforms, and a wide selection of accounts. We also offer a free demo for new users. Register now to get started.
How Old Do You Need to be to Trade Forex?
Traders, both novice and experienced, know for a fact that foreign exchange trading can be a feasible way to increase your margin of profitability. This is still true even if it carries risks due to financial instruments’ levels of volatility. And with almost everyone joining the hype of forex, interested parties have the same question in mind: at what age is it legally allowed to trade?
Starting as Early as 18 Years Old
Age is one of the many factors that need to be considered when opening an account with any brokerage firm. And commonly, 18 is the generally accepted age to start trading.
The age policy varies according to brokerage firms’ jurisdictions and the law they implement. For example, in the United Kingdom, people who are 18 years old and above can personally register with a broker, while some countries require a person to be 21 years old to do so.
It is for a good reason that brokers have restrictions on age. Trading is a taxing activity that adults can better accommodate. Anyone under the legal age can incur severe financial damage if they aren’t armed with the proper knowledge, and this financial damage can be difficult to recover from. Moreover, trading demands years of expertise in charting and speculation to ensure that profits will outweigh losses.
Getting Familiar with Trading Early On
If you happen to be underage, you can resort to using demo accounts for practice. Almost all brokers offer this type of account for anyone who wants to test a trading platform’s interface, usability, and functionality.
This is available for people under 18 as it is only loaded with a mock balance that anyone can use for trial trading. For most brokers, opening one is free and does not require the rigorous Know-Your-Customer (KYC) verification process.
Correlating Demo Accounts with Live Accounts
One of the advantages of having a demo account is getting an overview of the platform and the markets. But it is a known fact that the results rendered by a demo account do not usually come parallel with the results generated by live accounts.
Traders must learn to make realistic assumptions to offset the noticeable changes when they switch to a live account. In addition to this, it is best for demo account owners to make room for possible slippage as volatile shares have larger slippage compared to high-volume shares in an actual account.
More importantly, mindset will quickly get you on the right trading track. Even if demo account earnings cannot be withdrawn, traders must treat it as if they are trading using a live account. Doing so will indicate your emotional tolerance and your openness to the margin of losses and risk appetite.
Getting Started with Forex at a Young Age
With the help of demo accounts, aspiring traders can familiarize the technicalities of placing a trade, riding trends, and observing chart patterns. Having enough knowledge will then serve as an advantage for a trader, so you might as well engage in enriching your trading background before opening a live account.
Traders who start early also have a unique rapport and enthusiasm. Younger people usually appear more energetic, which means they can maximize each trading opportunity better than more experienced traders who religiously follow their established trading strategies and timeframe.
What Do More Experienced Traders Have Over Younger Ones?
Simply put, young traders tend to be impressionable, most especially when losses pile up more frequently than profits. This is something that expert traders have managed to surpass as they have a higher level of understanding that anything can go wrong in trading.
Another thing is the intimidating space of forex, which younger people may find challenging to navigate. This then goes back to the need to start at an early age to offset the difficulty of learning the industry at an older age.
Lastly, a small amount of capital may give young traders a sense of hesitation when placing positions. In contrast, expert traders who manage to save enough finances can confidently go about any position.
What’s the Next Best Step for Young Traders?
You can wait until you turn 18 before legally owning a live trading account, but you do not have to wait that long to learn the ins and outs of forex trading. The point is that younger people have enough room for knowledge acquisition, and opening a demo account is just the beginning.
Can Anyone Become a Forex Trader?
The past couple of decades has introduced the world to one economic downturn after the next. Even before the pandemic, the world has seen several financial crises since the start of the 21st century alone. And although everyone hopes they have seen the last of these problems, it will likely not be the case.
Since no one can predict the nature of the next economic struggle, the best step to take is to bolster one’s income and financial security. The forex market is one avenue people can take advantage of for this very purpose.
But can anyone become a forex trader? The answer is a resounding yes. And this article will discuss how to do just that.
Forex Trading in a Nutshell
Foreign exchange or forex is simply trading currencies with the speculation that their values rise or fall in reference to each other. Buying $100 worth’ of Euros today and selling it for $105 next week, for example, means that the trader has profited an amount of $5 in the week that saw an increase of value in the Euro against the US dollar.
Depending on the trade volume or frequency, currency pairs are regarded as major or minor. Major pairs include USD/EUR and USD/JPY. Minor pairs include CAD/USD. Some pairs are also called exotic pairs because of how seldom they are traded. An example is the USD/THB pair.
How to Become a Forex Trader
Technically, anyone with a little capital can begin trading in the forex market. However, for newbies, it is recommended to keep a learning attitude to equip yourself with the right tools and knowledge to increase your chances of doing well.
Here are the steps to take to become a profitable forex trader.
Find the Right Broker
In terms of volume, the forex market is the largest financial market in the world. Because of this, you will likely encounter a slew of brokers, many of them promising unlimited profits, among other things. And while that kind of offer does sound tempting, you should know from the outset that profits are not guaranteed.
Instead, look for a trustworthy broker that offers a secure platform. Look for a broker that provides resources for you to understand the market further and build trading strategies. Find a broker that offers helpful features like expert support, multiple deposit and withdrawal methods, and an insightful demo environment.
Learn By Experience
Once you’ve found such a broker, you can start trading right away. Many brokers require only minimal capital for you to access the market. However, it would be best if you first experience trading firsthand. You can do this without the risk of losing any capital by using a demo account.
In a demo environment, you can test your trading skills and strategies without running the risk of losing money when the trades do not go your way. It will help you not only learn the fundamentals of the market in a more interactive and retainable way, but you will also build confidence for when you start trading for real. Even seasoned traders use demo accounts to practise newly learned strategies.
Stay Up to Date
Like the equities market, the forex market is susceptible to influence from current events and economic changes. Everything worthy of becoming global news can impact the forex market. Staying up to date with these events will get you a step closer to making successful trades.
Of course, it is equally essential to understand how each of these changes can affect the market. A government scandal, for instance, can diminish business confidence in that state, affecting the value of their money.
Staying on top of the news and anticipating its effect on the market will help you profit.
It is never a bad idea to increase one’s means of making money. The forex market opens the door for anyone to become a trader and profit from shifts in the exchange rates of currencies.
To become a successful trader, one should begin by finding a reliable broker, practicing trading in a demo environment, and understanding how world events impact the market.
For more information about starting a forex trading career, visit our other resources. You can also speak with our team of forex experts. Chat with us using the button below or send us a query at firstname.lastname@example.org. Better yet, sign up for a live account and use our demo environment.
Fair Forex offers traders, new or otherwise, a secure platform and some of the best resources available to help them learn forex trading.
How Are Forex Gains Taxed?
Whether it’s the high liquidity or the low transaction costs, plenty of benefits convince people to jump into forex trading. However, many aspiring traders forget to consider how taxation works when buying or selling forex.
In today’s article, let’s go over the basics of forex taxes and how gains are taxed.
The Basics of Forex Taxes
When it comes to forex trading, traders need to pay tax on capital gains every time they can sell a given security at a higher price than the original purchase cost. Capital gains is the term used to refer to the increase in value of an asset when it’s sold.
When a forex trader makes a capital gain, they are considered taxable. Meanwhile, traders are not expected to pay any taxes for trades that have earned payouts or capital gains.
The specific capital gains tax rate largely depends on the country the trader is trading. The following are the maximum capital gains tax rate for some countries:
- United States (37%)
- Sweden (30%)
- Japan (20.315%)
- China (20%)
- United Kingdom (20%)
- Germany (25%)
- Spain (23%)
- Greece (15%)
- Russia (13%)
- Switzerland (0%)
It’s worth noting that some countries like Russia don’t have a separate tax rate for capital gains earnings. Some countries have effective tax rates that are significantly lower. However, they typically depend on the total annual income of the individual (trader) and other country-specific circumstances.
Section 1256 Tax Law
The Internal Revenue Service (IRS) essentially has two primary types (sections) of taxes applied to forex traders. That’s section 1256 and section 988.
Section 1256 is a 60/40 capital gains tax treatment and is generally considered by most traders as the most common way to file forex profits. Under section 1256, 60% of the total gains are taxed at 15%.
The 40% is taxed based on the trader’s current income bracket. In the case of an American trader, the 40% can be taxed for as high as 37%.
Many profitable traders prefer to report under section 1256 because it’s the option that offers a more significant tax break. The 60/40 tax treatment is also highly favourable for traders within the high-income tax brackets.
Section 1256 does have one major drawback. The total amount of losses that a trader can claim is capped at around $3,000 per year. When a trader suffers a net loss of $10,000 per year, they can only reduce their taxable income by $3,000.
Section 988 Tax Law
Section 988 is an alternative to section 1256, where most gains from forex transactions are treated as ordinary income. Regardless of whether an individual trader or a corporation earns the capital gains.
Since this section treats forex trading as an ordinary taxable income, traders will only pay for their payouts depending on their tax bracket. Here’s the US 2020 tax bracket:
|TAX RATE||SINGLE FILERS / MARRIED FILING SEPARATELY ($)||MARRIED FILING JOINTLY ($)||HEAD OF HOUSEHOLD ($)|
|10%||0 – 9,875||0 – 19,750||0 – 14,100|
|12%||9,876 – 40,125||19,751 – 80,250||14,101 – 53,700|
|22%||40,126 – 85,525||80,251 – 171,050||53,701 – 85,500|
|24%||85,526 – 163,300||171,051 – 326,600||85,501 – 163,300|
|32%||163,301 – 207,350||326,601 – 414,700||163,301 – 207,350|
|35%||207,351 – 518,400||414,701 – 622,050||207,351 – 518,400|
|37%||518,401 and above||622,051 and above||518,401 and above|
It’s important to keep in mind the standard deduction rate for single and married individuals. Individual filing is $12,400, while married filing (joint filing) is $24,800. A single trader with an annual income of $50,000 will need to have it deducted by $12,400, making it $37,600. That means the trader falls within the 12% bracket.
One major benefit of being taxed according to section 988 is that traders can use the total of their net losses to reduce their taxable income. Unlike section 1256, reducing taxable income isn’t capped at $3,000 per year.
That’s why losing traders and most spot traders prefer section 988. There are no capital-loss limitations. That will help any trader take advantage of trading losses to reduce the taxable income.
Familiarize Yourself with the Taxes
Whether you’re simply trying out Forex trading or fully committed to making it a career, it’s in your best interest to familiarize yourself with how taxation works. Doing so will help you better understand how trading works and help you deal with potential tax issues easier.
Understanding how taxation works can help you file them correctly and save you thousands of dollars in taxes.
When you’re ready to jump into Forex trading, consider joining Fair Forex. Our company is owned and operated by honest traders like you. Experience no manipulation or restrictions and lightning-fast execution under 50ms.
Visit our website to learn more about our company and sign up for a free demo.
Why is Forex So Popular?
With millions of active traders, the forex market is the world’s largest financial market. And developments in technology saw many of them taking their trade to cyberspace. The situation led to an increasing number of social media posts and online ads inviting people to trade on forex platforms.
Despite this, many of them forget to define what forex is, how it works, and why forex is a popular investment opportunity. A BIS Triennial Survey in 2019 showed that trading in the global foreign exchange market reached more than $6 trillion a day.
This blog will provide an overview of the forex market, including popular currencies, and why forex is popular among traders.
What is Forex?
Forex, or foreign exchange, is the trading of currencies from different countries. It’s one of the most popular ways to make money online because it offers high potential profits and allows traders to take advantage of price fluctuations between currencies.
The foreign exchange marketplace is where traders buy and sell currencies worldwide. It’s open 24 hours a day on weekdays. The forex market is incredibly liquid, so there are always buyers and sellers for every currency. This liquidity makes it possible for traders to get in and out of trades quickly and easily.
Forex pairs are the currencies that are being traded. To trade forex, you need to know which currencies are being sold and the exchange rate. The exchange rate is the price of one currency in terms of another currency.
When you trade forex, you’re buying one currency and selling another. The first currency listed is the base currency, and the second is the quote currency. When you see a currency pair like EUR/USD, it shows how many U.S. dollars are needed to buy one euro.
Several factors influence the exchange rate of currencies, including:
- Interest rates: When interest rates are high, investors are more likely to buy a currency because they can get a higher return on their investment. When interest rates are low, investors are less likely to buy a currency because they can’t make as much money.
- Economic conditions: The economic conditions of a country also influence the exchange rate of its currency. When a country’s economy is doing well, its currency tends to be strong. When a country’s economy is doing poorly, its currency tends to be weaker.
- Political conditions: For example, a country amid a political crisis will see a devaluation of its currency since investors are likely to pull their money out of the country.
- Geopolitical conditions: Geopolitical conditions, such as wars or natural disasters, can also impact a currency’s exchange rate.
Why Are Investors and Companies Engaged in Forex Trading?
The people and groups participating in forex trading include individual traders, hedge funds, banks, and other financial institutions. Most forex traders use a forex broker to trade currencies.
A forex broker is a company that provides access to the foreign exchange market. Brokers offer various services, including trading platforms, research tools, and education. They also give access to a wide range of currency pairs.
The most popular currencies being traded are the U.S. dollar, the euro, the British pound, the Japanese yen, and the Swiss franc. The U.S. dollar is popular because it’s the world’s reserve currency. Due to this, it’s the currency that most other countries use to trade. The U.S. dollar is also solid and stable, making it a desirable currency to trade.
Forex is more popular than other trading instruments because it offers high potential profits and liquidity. It also allows traders to take advantage of price fluctuations between different currencies.
Despite its volatility, short-term traders prefer forex trading to stock trading since it’s sometimes possible to get a quick profit. The market also allows them to trade 24 hours a day from 5:00 PM EST on Sunday until 5:00 PM EST on Friday.
Forex trading is popular because it offers traders the opportunity to make a profit in any market condition. And basic knowledge of forex and having enough capital can get anyone started on forex trading.
But it’s still important to consider the volatility of the market and the risks involved in forex trading. If you find the forex market an appealing option, you should work with a reliable forex broker to learn the ropes and improve your trading strategies. Contact us today.
The Six Best Forex Strategies for 2022
To make money trading forex, you need a reliable strategy. While many strategies can be successful, not all will work for every trader. That’s because each person has different goals, risk tolerance levels, and investment amounts.
That’s why it’s essential to find a strategy that suits your individual needs. Here are six of the best forex strategies for 2022. Each one has been proven successful for many traders, so you can be confident in using them yourself.
6 Strategies Experts Recommend
We’ve compiled a list of the six best forex strategies for 2022. These strategies have been tested and proven to work in today’s market.
Fibonacci Forex Strategy
The Fibonacci forex strategy is based on the Fibonacci sequence. This strategy uses mathematical ratios to predict future price movements. You can identify support and resistance areas using the Fibonacci retracement levels by drawing horizontal lines at the points where you can find these crucial levels.
Forex traders can use the Fibonacci indicator to determine where to place their entry and exit orders. The key is to put your stop-loss at or above the prior swing low (uptrend) or below the prior swing high (downtrend).
Bollinger Band Forex Strategy
A Bollinger band strategy can identify potential support and resistance levels in the market. The simple moving average (SMA) on the central line is set to 20 days, while the upper and lower lines measure market volatility.
The bands will widen when the forex market becomes highly volatile and get closer together when it’s calm. When the price reaches the outer bands, it often triggers the market to rebound back towards the central 20-period moving average.
The Bollinger band strategy helps identify potential support and resistance levels. It also helps traders determine when the market is becoming more or less volatile and when the price reaches its extreme levels.
EMA Crossover Strategy
The Exponential Moving Average, or EMA, guides traders to know the market’s direction using two EMAs of different values. EMA crossover methods use the intersection of two EMAs to enter the market.
EMA crossover strategies are simple strategies that traders of all experience levels can use. It also provides a good indication of the direction of the trend once it starts. The strategy can also be used on any time frame chart and is not limited to daily or weekly charts.
Momentum Indicator Forex Strategy
The momentum indicator forex strategy takes the most recent closing price and compares it to the previous closing price. It is displayed as a single line, usually on a separate chart below the main price chart.
The indicator oscillates to and from a centreline of 100. How far the indicator line is above or below 100 indicates how quickly the price is moving.
Momentum indicators can help in identifying overbought and oversold signals. Forex traders can use it to determine the market’s strength and whether the price is rising or falling. It’s critical to make sure the market has heeded the momentum indicator in the past and identify those variables that appear to be effective.
Keltner Channel Forex Strategy
The Keltner Channel is a volatility-based trading indicator that traders can determine when the currency pair moves too far from the moving average.
The Keltner Channel has two boundary bands constructed from two ten-day moving averages on either side of an exponential moving average. Traders can compare the price relationship to each side of the channel to determine whether a currency is oversold or overbought.
Gann Trend Following Strategy
The Gann Trend Following Strategy determines the next possible direction of the market using an indicator based on the angles of William Delbert Gann.
The Gann Trend Following Strategy uses a technical indicator to decide the market’s next possible direction.
When the Gann indicator shows a yellow ribbon, it means that the market has potentially entered a downtrend. On the other hand, an uptrend comes when the indicator shows a blue ribbon. Ideally, you should enter a position just after the close of the candle that shows the ribbon change.
The benefit of drawing a Gann angle is that it moves uniformly. This makes it easier for the analyst to forecast the price on a particular date.
Consult with Forex Trading Experts
While no strategy is perfect, using these methods should give you a good starting point for your trading career.
If you are unsure about which strategy to use, you should contact an experienced forex trader to help you. Get started with Fair Forex today.
When Did the Forex Market Start?
You may know the foreign exchange market as one of the largest and most profitable markets today, but did you know that people have been trading currencies since ancient times? In fact, the forex market that we know today was shaped by several global events starting from the Babylonian period.
The Gold Standard
Before paper money, people exchanged goods and services through the barter system. The system then evolved in the 6th century BC when the first gold coins were produced. Because of its durability and limited supply, it didn’t take long for gold to become widely accepted as a medium of exchange.
However, carrying gold became impractical because of their weight. In the 1800s, countries began adopting the gold standard, in which governments agreed to freely convert paper money into fixed amounts of gold.
The gold standard proved to be an effective system of exchange until the world wars, which forced European nations to print more money to pay for war damages.
The Bretton Woods System
The transition of the global monetary system from the gold standard to the modern forex market started with the Bretton Woods System introduced at the end of World War II.
The famous Bretton Woods Agreement was signed in 1944. Under the new agreement, the dollar replaced gold as the standard for international transactions. At the time, the dollar was worth $35 or 1/35th of an ounce of gold.
Participating countries decided to go with a fixed peg against the U.S. dollar and the only diversions permitted were 1%.
Countries were also required to constantly oversee and preserve their currency pegs, which they did by using their currency to purchase or sell U.S. dollars.
Over time, the Bretton Woods Agreement failed to peg gold to the dollar simply because there was not enough gold. In 1971, President Richard M. Nixon scrapped the Bretton Woods System and it was eventually replaced by the free-floating currency system.
The Free-Floating System
The collapse of the Bretton Woods System forced the forex markets to close from 1972 to March 1973.
In an effort to reduce its dependency on the US Dollar, European countries introduced the European Joint Float. Unfortunately, the system also collapsed in 1973.
As a result, the world started to transition to a free-floating system. Under this system, participating currencies had floating exchange rates that varied from day to day. The system put an end to state control of foreign exchange and paved the way for relatively free market conditions.
The Modern Forex Market
Today’s forex market is open 24 hours, 5.5 days a week, with an average daily trading volume of $5 trillion. Thanks to the internet, people can quickly trade currencies from any location and at any time of the day. Forex traders also have access to valuable economic data and price warnings.
For traders in an evolving forex market, they need to stay ahead of the curve. Fair Forex can help you make smart trading decisions and maximize profits.
Contact us at 1-844-600-FAIR to book a consultation.
How Do Interest Rates Affect Forex Trading?
To succeed in forex trading, you need a working understanding of how various factors impact the market in different ways. Based on this information, you can formulate and apply the strategies you deem will be most effective in gaining the upper hand and earning profits.
One of the most important and impactful factors to consider in forex trading is interest rates. Understanding these will ensure that you thrive in this fluctuating market. If you are wondering how exactly interest rates affect forex trading, this article is here to help.
How Interest Rates Affect Forex Trading
Interest rates are set by central banks to determine how banks borrow and lend money to each other. Day traders pay close attention because these rates directly affect their potential profits. The higher the rate of the return, the more interest is accrued on investments in currencies.
Interest rates are also important because they inform the sentiment towards currencies. Forex trading is all about predicting how the market is going to shift from one moment to the next. Traders can study the past patterns, the current rates, and the possible rates in the future to get a more comprehensive picture and make investments based on that.
Any news about interest rates should be viewed with a lens of anticipation, looking into what the news means for the immediate and long-term future.
A country’s central bank is responsible for controlling monetary policy, which affects the currency. These banks can hike interest rates to curb inflation. They can keep the rates where they are. They can also cut interest rates when they want to encourage lending or inject currency into the economy.
To come up with the interest rates, the central banks look into a range of factors, such as the following:
- Housing market
- Subprime market
- Consumer spending
- Employment levels
- Consumer Price Index or CPI
With these indicators in mind, traders can estimate whether a central bank will issue a change in the interest rates. Central banks in economies that are performing well may need to hike up the rates or keep them where they are, depending on the degrees of improvement.
If an economy performs poorly, the indicators above will see drops, which means that the central banks may need to cut their rates in response.
Anticipation and Reaction
For traders to earn profits, their ability to anticipate rate changes and the effect on the forex market is always on high alert. Anticipating these shifts informs them of whether they should buy or sell. Traders usually have many resources they can rely on to provide this information.
Even with all the resources, some rate movements cannot be anticipated. Now and again, central banks will decide on a surprising cut or hike. During these changes, traders must react quickly and decisively. When done right, and ahead of the crowd, trading during these moments can yield significant profits.
Given the significant influence that interest rates have over the forex market, it is imperative that traders not only keep track but also use the resources available to them to analyze and anticipate changes. Staying on top of the economic events and the central bank policies should also be a priority.
If you want more information about how interest rates impact the foreign exchange or any other subject related to the forex market, send us an email at email@example.com. You can also visit our Help Center to find answers to your queries.
What Does 'Spread' Mean in Forex Trading?
The forex market is one of the most volatile markets globally, where even issues like the Omicron variant entering a country for the first time could affect the currency exchange rate. For many traders, a good way to interpret if a trade is good is to calculate the spread of two currencies.
The forex spread is the difference between a forex trader or broker’s sell rate and buy rate when trading a pair of currencies. In this article, we will tackle how the spread affects the forex market and how traders can calculate it to create a strategy.
Factors that Affect ‘Spread’
Spread is also the gain or loss on the transaction, making it essential to learn to prevent spread manipulation. The manipulation is when the platform control spreads to get more profit without the consent of the traders.
To prevent manipulation and misinformation in trades, traders must learn what affects the spread. Keep yourself updated on economic and geopolitical events that drive it to widen or narrow down.
For instance, if the unemployment rate in the U.S. turns out higher than expected, the dollar would most likely weaken or lose value against most currencies. These events make it difficult for a broker to determine the actual exchange rate, leading them to charge a wider spread for a trade to ease the risks of loss.
The time of day can also have critical effects on the spread. For instance, European trading opens during the early hours in the U.S. and the late hours in Asia. If you book a euro trade in while in Asia, the spread will be wider and more costly than trading during European hours.
Simply put, trading a currency during hours outside its ordinary time zone will not have many traders involved, causing a lack of liquidity. If the market is not liquid, it makes the currency difficult to buy and sell. Brokers would again widen their spread to ease the risk if they could not get out of the position.
Remember that it will have a big difference between the two currencies with a wider spread, marking low liquidity and high volatility. Meanwhile, narrow spreads show low volatility and high liquidity, leading to smaller spread costs.
How to Calculate ‘Spread’
Now that you know the factors that could cause the spread to widen or narrow down, it is crucial to learn how to calculate it. First, you need to find out how currencies are quoted.
They always quote currencies in pairs, with the first one being the base currency and the second being the counter or quote currency. Thus, the quotation formula will quote currency/base currency. For instance, with U.S. dollars (USD) and Canadian dollars (CAD), it takes 1.25 CAD to buy 1USD, which will show as 1.25/1 and thus, the quote is 1.25.
Now, since we know how to find the quote of the currencies, you need to determine the bid, which is the price a broker will buy or sell the base currency in exchange for the quote currency. For instance, a U.S. trader plans to buy euros and the bid is $1.12/1.125. The trader will be charged the asking price of $1.125 to book the trade.
If the trader immediately sold the euros to the broker, they would get the bid price of $1.12 per euro, which would cost the investor about $0.005 based on the exchange rate’s bid-ask spread with the broker.
How to Use Spread in Trading Strategies
Since spread helps determine the gain or loss in trading, here are some ways you can adapt your trading strategy based on the spread of the currencies.
Using the Spread Indicator
A trading indicator can strengthen strategies based on the spread. The forex spread indicator displays a curve on the graph to show the direction of the spread related to bid and ask price. It visualizes the spread between the pair over time, with the most liquid pairs having tighter spreads and the rest having wider ones.
You can use the indicator to determine lower spreads in currencies traded in high volumes and avoid wider spreads that will lead you to costly losses.
Receive Margin Calls
A margin call will help you stay aware if a spread widens suddenly and drastically. It will notify you when your account value drops below 100% of your margin level, signalling that you are at risk of no longer covering the trading requirement. All your positions will be liquidated if you go below the 50% level.
Trade with a Trusted Forex Broker
Forex trading can be volatile, and spread can become less costly with the guidance of a trusted broker by your side.
How Does Inflation Affect Forex Trading?
According to Jonas Goltermann, a senior markets economist at Capital Economics, the return of higher and unstable inflation across economies would cause a spike in exchange rate volatility and the eventual depreciation of currencies in countries with the highest inflation prints.
Forex traders must consider the effects of inflation on their trading strategies and the exchange rates since it could lead to a lower return on investment (ROI). This article will show you the effects of inflation on the forex market and strategies to work around it.
Impact of Inflation on Foreign Exchange
Inflation is usually the sign that the value of money is declining, making it more difficult to buy goods in the market. It has always been a concern for many consumers and the world’s central banks, who adjust monetary policies to prevent high inflation rates.
To illustrate, a country with consistently low inflation rates shows a rise in its currency value, making its purchasing power stronger compared to others. In contrast, countries with high inflation rates exhibit depreciation in currency value and are usually accompanied by higher interest rates.
It is one of the most important economic indicators for central banks and forex traders in determining foreign exchange rates. For instance, trading with a currency that has a 5% inflation rate will have a 3% higher real exchange rate when traded with a different one with a 2% inflation rate.
Correlation of Inflation, Interest Rates, and Exchange Rates
Interest rates, inflation, and exchange rates are highly correlated. Central banks manipulate interest rates to influence the other two factors, impacting their currency value. Higher interest rates offer lenders a higher ROI, attracting more foreign investments that raise the exchange rates.
Meanwhile, lower interest rates can decrease exchange rates, but they can also drive consumer spending and economic growth. It usually gives positive outcomes in the currency value and makes money easier to borrow. However, a decrease in inflation can lead to downward pressure on the currency since interests would be lower.
The biggest determiner of the currency’s value and exchange rate is what the monetary system wants to get out of it, like attracting more investors or driving economic growth. Investors should consider these factors to determine how safe their cash holdings are in the currency before measuring profit.
Actions to Take as a Forex Trader
As a forex trader, you must invest in a currency that will generate the greatest ROI possible, strengthening its value. Since you will need to consider inflation in your trading strategies, you can take these actions to create a solid plan.
If Inflation Will Not Rise
Inflation rates can settle even if trends show an upward direction. For instance, the US central bank believes the current rise in prices is only transitory due to supply chain restrictions from COVID-19. Thus, they will not increase interest rates in the immediate future.
If that is the case, you do not have to worry about inflation and may have to consider other factors like economic performance, debt, and account deficits that can also influence forex prices. It will help you determine the next steps of your trading strategies.
If Interest Rates Rise Without Affecting the Economy
If you think interest rates may rise, then consider investing in currencies with higher interest rates. A country with a higher interest rate can have a stronger currency than others, which can yield a greater ROI. Since it will not affect the economy, you will not have to worry much about other determiners affecting the currency.
If Economies will be Affected by Increased Interest Rates
If you think economies will be affected, consider creating a hedging strategy. To start, look for two forex currencies with a positive correlation, then open one long investment and one short one.
You do not have to stick with currencies since you can pair one with a commodity like gold. While it is a more grounded strategy, it can protect you from any fluctuations in your investment and help diversify your portfolio.
Trade Forex with Trusted Brokers
Forex trading can be a challenging investment to take, especially with factors like inflation and interest rates that affect it. At Fair Forex, we provide a platform for all traders to learn about forex and make the best trading strategies. Visit our home page to learn more about our services or email us at firstname.lastname@example.org.