Typical attractive features of the market:liquidity:
the market operates the enormous money supply and gives absolute freedom in opening or closing a position in the current market quotation. High liquidity is a powerful magnet for any investor, because it gives him or her the freedom to open or to close a position of any size whatever.
promptness:
with a 24-hour work schedule, participants in the FOREX market need not wait to respond to any given event, as is the case in many markets.
availability:
a possibility to trade round-the-clock; a market participant need not wait to respond to any given event;
flexible regulation of the trade arrangement system:
a position may be opened for a pre-determined period of time in the FOREX market, at the investor’s discretion, which enables to plan the timing of one’s future activity in advance;
value:
the Forex market has traditionally incurred no service charges, except for the natural bid/ask market spread between the supply and the demand price;
one-valued quotations:
with high market liquidity, most sales may be carried out at the uniform market price, thus enabling to avoid the instability problem existing with futures and other forex investments where limited quantities of currency only can be sold concurrently and at a specified price;
market trend:
currency moves in a quite specific direction that can be tracked for rather a long period of time. Each particular currency demonstrates its own typical temporary changes, which presents investment managers with the opportunities to manipulate in the FOREX market;
margin:
the credit “leverage” (margin) in the FOREX market is only determined by an agreement between a customer and the bank or the brokerage house that pushes it to the market and is normally equal to 1:100. That means that, upon making a $1,000 pledge, a customer can enter into transactions for an amount equivalent to $100,000. It is such extensive credit “leverages”, in conjunction with highly variable currency quotations, which makes this market highly profitable but also highly risky.
Margin Trading System
A typical transaction amounts to $10 million in inter-bank trade. However, it is quite clear that such transaction values are not affordable for a private investor – well, at least to the overwhelming majority of them.
Involvement of small and medium investors in the Forex market was facilitated by intermediacy of dealing or brokerage companies. Medium and small investors have access to the global forex market in many nations, using the sums of money starting from $2,000 in their transactions. A dealing company provides its customers with a credit line – a so-called dealing leverage, or a credit leverage, that is several times as big as the deposit. Brokers providing margin trading services require that a pledge deposit should be contributed, and provide a customer with an opportunity of entering into forex sales and purchase transactions for amounts that are 50, 100 and sometimes even 200 times as large as the deposit made. The risk of losses is borne by the customer; the deposit serves as security hedging a broker. The system of operations through a dealing (brokerage) house, with a credit leverage, was called margin trading.
To put it simply, the essence of margin trading can be reduced to the following: by placing pledged capital, an investor becomes able to manage target loans provided against this pledge and to guarantee indemnification against any potential losses on open forex positions with the deposit.
As mentioned above, unlike with forex transactions with actual delivery or actual currency exchange, FOREX participants, especially those with little funds, make use of trading with an insurance deposit - margin trade, or leverage trade. In case of marginal trade, each transaction must consist of the two stages – purchase/sales of foreign exchange at one price, and then its compulsory sales/purchase at another (or at the same) price. The first action is called the opening of a position; the second is the closing of a position. Opening of a position is not accompanied with actual delivery of foreign exchange, and a participant that opened the position contributes an insurance deposit that serves as guarantee of indemnification against any possible losses. Upon closing of a position, the insurance deposit is returned, and profit or losses are calculated.
Any margin trading transaction must comprise two parts: opening of a position and closing of a position. For instance, when forecasting the euro goes up (looks up) vs the dollar, we want to buy a cheaper euro with dollars now and to sell it back when it rises in price. In this case, the transaction will look as follows: opening of a position – euro purchase; closing of a position – its sale. All the time until the position has been closed we have an “open euro position.” Just the same, when we believe that the euro will cheapen (look down) vs the dollar, our transaction will consist of the following steps: opening a position – sales of a more expensive euro; closing a position – purchase of a cheapened euro. Therefore, we are able to generate profit whether the exchange rate goes up or down.
You can enter FOREX through an intermediary only. A dealing center may act as such intermediary. This agency provides you with a (computer or telephone) communications channel with a broker who makes available forex quotations to you and through whom you can enter into transactions. You can also operate directly from your home PC through the Internet. The last option has been becoming increasingly more common recently. The prices you can see on your computer’s screen are prices of actual transactions at FOREX.
A customer concludes a contract with the company whereby the latter undertakes, at the customer’s order and in its own name, to enter into transactions. In this case, the company runs the risk of losses from entering into such transactions, so the customer deposits a certain sum of money with the bank as pledge. The amount of this deposit is determined based on the amount of transactions entered into by the bank and on the credit lever provided to the customer. If a dealing company makes losses from a concluded transaction, the investor becomes liable to it in the amount of this loss, and these liabilities are covered from the pledge deposit; if the company generates profit from a concluded transaction, it becomes liable to the investor in the amount of this profit. Generated profit is remitted to the customer’s pledge deposit. The customer’s order to the company to close an open position is a must; yet the company jobs with its own money. Otherwise the bank may close a long position with a short one, and the customer may sustain losses. The situations when cross rates change by more than two percentage points hardly ever happen in the global market, and losing his or her pledge is next to impossible if a customer jobs reasonably. If the bank’s dealer understands that potential losses, if the rate changes for the worse, might exceed the pledge deposit amount, the dealer can close a position independently, without waiting for the customer’s instructions, with losses not exceeding the pledge amount.
Margin trading appeals by its affordability. Investing funds into securities of the most developed foreign countries to generate any fixed income would hardly be interesting for our compatriots. U.S. Treasury bonds are surely the most reliable and stable, but, being very expensive, they have low yield (approx. 6% p.a.) and are the object of long-term investments. Shares generate higher yield; however, dividend amount is directly dependent on successful operations of any particular enterprise and its shareholders’ preferences. Share purchase for bull transactions seems more attractive but requires greater investments. Margin trading is free from the said limitations – you can sell and buy depending on your expectations, and 1%-3% of a transaction value will do to enter into the transaction.
Making profit in forex
Making profit on Forex market. Examples.
Example 1. GBP/USD
Zoom
Let your deposit equal 3000 USD. Leverage 1:100 on Forex Market allows to operate the sum equal 300 000 units of base currency.
You expect increasing of US currency cost against general world currencies on Forex Market. And decide to sell GBP against USD on September, 22, 2005. At the same time you realize the risk of trading the maximum sum, and sell only 30 000 GBP against USD at 1.8000.
12 days later, on October, 3, 2005 you decide to close your short position and buy GBP at 1.7540.
Thus, your operation profit on Forex Market equal:
(1.8000-1.7540)*30 000 = $1380
Accordingly, the trading yield equal:
($1380/$3000)*100 = 46% of the initial deposit.
Example 2. USD/JPY
Zoom
Let your deposit equal 2000 USD. Leverage 1:100 on Forex Market allows to operate the sum equal 200 000 units of base currency.
You expect decreasing of US currency cost against general world currencies on Forex Market. And decide to sell 50 000 USD against JPY at 111.10 on August, 31, 2005.
A week later you decide to close your short position USD/JPY and buy USD against JPY at 109.15.
Thus, the financial result of this trade on Forex Market equal:
(111.10-109.15)*50 000 = 97 500 JPY (or 97 500/109.15 = $893.26)
Accordingly, the trading yield equal:
($893.26/$2000)*100 = 44.7%
Evidently, that trader's main task is to forecast the trade of developments on currency market correctly. So if we had acted conversely in the above-listed operations, loss would be the result of trades.
