Just over 10 years ago, few investors were even aware of the forex market due to the fact that the only players allowed were large hedge funds, banks, and very wealthy investors. At that time, the minimum contract size a trader could hold was usually $1,000,000, so small, private investors were not able to trade the FX Market. The advance of technology and the internet, however, has changed that. Case in point, if you think back to how you heard about the forex market, and how you learned about it at first, chances are it was on the internet!
The advance of technology throughout the 1990’s allowed retail brokers to begin opening up shop in the late 90’s, and these retail shops began allowing clients to trade in the FX Market with positions as small as $100,000, and eventually many brokers began allowing clients to trade positions as small as $10,000.
Therefore, the FX Market has literally exploded over the last 10 years. Today, average daily turnover in the FX Market is around $4 trillion, and this figure is expected to double in the next 10 years. The FX Market is not only the biggest financial marketplace in the world, but it also has one of the greatest and most aggressive growth prospects. However, the unfortunate truth is that most traders who decide to trade the FX Market fail and lose money, and most traders actually lose everything they deposit. Industry legend tells us that nearly 95% of traders lose money. That is a daunting statistic. The reasons for failure are many, but if you boil it down to the most basic element, the forex market is a high risk investment vehicle, and most traders do not adequately consider these risks. Let’s examine a few of the primary risks of foreign exchange trading.
Leverage
This is one of the leading reasons that traders are attracted to the forex market. Leverage has been as high as 400:1 in the FX Market. Recently, the NFA limited regulated brokers in the United States to 50:1 leverage, but that is still far more leverage than other financial markets offer traders. 50:1 leverage means a trader can control a $50,000 position with only $1,000 deposit in his account. The trader then gets to keep the profit his position accrues, but high leverage can also blow up an account very fast. In this example, if a trader were to take a $50,000 position in the FX Market, that would cause each 1 pip (minimum price movement) to be $5. That means that if the market moved 200 pips against the trader, the trader would lose his entire $1,000 investment. Furthermore, a currency pair can easily move 200 pips in just a few hours during times of heightened volatility, so that means a novice trader, or even an experienced one who does not respect risk, can lose his entire account in a matter of hours.
Strong Volatility
Prices in the FX Market move extremely fast, and this poses a significant risk for new traders and experienced traders alike. The degree and swiftness of price moves in the FX Market can literally destroy an account in a matter of minutes during a key news release, and new traders rarely have the education, money management skills, or trading psychology to effectively deal with this fast-moving marketplace in an efficient manner. Good forex software, however, can help traders analyze the market more effectively.
The forex market undoubtedly offers traders the potential for huge gains, but the potential for huge loss is just as real, and the unfortunate truth is that the great majority of traders experience the latter.