forex questions

[chris]

I am new to forex.

I want to open a mini account. Forex seems to deal is large amounts of money. This scares me a little and want to know if i buy a lot and lose will i just lose what I have invested in that particular lot plus the spread cost, or can the broker take more out of my account than what I may have invested in a particular lot.

Is Forex anything like buying stock in the respect that I can buy or sell when ever i want even though the stock goes up and down, or should I say that even though the Pips go up and down?

Let's say I spend $300 dollars on a Forex investment and lose will I only lose that $300 plus spread cost, or can i lose a lot more than that particular investment, or do I just lose a portion of that investment like you do in stock if you sell it lower than what you paid for the stock?

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[DrForex]

Originally Posted by chris

I am new to forex.

I want to open a mini account. Forex seems to deal is large amounts of money. This scares me a little and want to know if i buy a lot and lose will i just lose what I have invested in that particular lot plus the spread cost, or can the broker take more out of my account than what I may have invested in a particular lot.

The point is that if you trade stocks and you open an account with $300 you can only buy $300 worth of stocks. If the stocks go down 30% you have lost $100.

You don't trade stocks on margin. As a rule people don't trade stocks on margin and my explanations below assume that you don't while in forex apart from the different characteristics of currencies to stocks the main difference is that currency trading is done on margin with very low margin requirements which allows for very high leverage.

You trade forex on margin. That means it (your $300) is a security deposit to cover your broker in case you lose money with your trades. The trades are done on credit. With a mini account you are likely to get a 'credit line' of up to 100 or 200 times the value of your account. Effectively it means you can lever or gear your account up to 100 or 200 times (I.e. trade as if you have up to 100 to 200 times more money than you really have.)

In a mini account the smallest transaction value is 10,000 units of currency (you also get a micro account where this smallest size is 1,000 units). So for instance you can buy $10,000 worth of USD vs JPY (we say you go long USDJPY).

Once you have done this and the market moves from the buy price you start to make or lose money and if you make money this is added to your margin and if you lose money it is subtracted from your margin.
One lot of 10,000 USDJPY will move at approximately $1.00 per pip. If the spread cost was $3 you can lose on that one mini lot transaction another $297 then your account is wiped out.

The broker is likely to close the account before it reaches zero.

Now it gets a bit technical. First of all you might not have an idea what you are doing (which is already evident by the fact that you open an account of $300 to trade a minimum transaction of $10,000, which means you leverage your account 33 times at the minimum. That is a bad idea if ever there was one) and decide to add to the position a 100 pips lower ("Because I have more buying power and the price is now even better").

So you push the buy button again and voila you have now $20,000 long USDJPY with your $300 account which is now down to $194 (since the 100 pips loss and the 2 x spread of three pips).

And the dollar goes down ... at $2.00 (approx.) per pip. Lets fast track to the technical part. The dollar has recovered 50 pips and you are back to almost break even (50 x $2 per each of 50 pips). You have instantly changed from a loser to a forex whizz and you buy a third lot, now you have $30,000 worth of USDJPY and every pip gives you $3.00 in profit.

It seems like this market is a bit temperamental and it turns just around and goes back 80 pips. Your loss is now $240. It is almost where it was and you want to buy a fourth lot. It dips another 5 pips between the decision and pressing the button ... ooops. You cannot execute the transaction says the broker, because you have too little funds left in "available margin".

So why is this? Well because in this example the broker requires 0.5% margin per transaction. The transaction value is $10,000 so they want in margin for transaction #1 $50, transaction #2 $50 and transaction 3 also #$50. This means at the point you wanted to open the transactions there had to be $50 for #1, a total of $100 when you added #2 and a total of #150 when you have added number #3. In each instance you had enough money. But when you wanted to add #4 your equity and available margin has dropped to below $50-00 and you are stumped. You cannot open the 4th position.

So, as you can see, you can lose more than what you "have invested in a particular lot". But there is a perspective problem that you have. You do not only invest the $50 margin. Your investment is the whole account.
You risk to lose the whole account because:

Lets go back to your stocks account. Lets say you have $300 and buy 100 stocks of a $1 priced stock. If the stock goes to zero (its a big US bank - ) you have lost $100.00 because you have invested $100 and not $300.

Forex is on margin. You "invest" $10,000 (the value of the transaction) and because it is levered 33:1 ($10,000 / $300) you can theoretically lose 33 times your money (if the usd fall off the face of the planet).
Well, this is only theoretically so because your forex broker will give you a margin call somewhere between the point where you cannot open a new position because you have too little margin left and reaching zero.

You can rest assured that you broker does not want to come after you to get money if you begin to owe their money (i.e. your account goes to zero). Its to expensive to chase after a few dollars like on a mini account.
So you can lose your whole account not only the % required as margin for each transaction.

You can thus lose more than the aggregate (total) margin required for your positions. In the example you had $150 required margin for three positions but you can lose close to $300 before they automatically close the positions.

Keep in mind that this may differ from broker to broker and may be influenced by regulations in different countries. Some brokers may require you to always maintain the minimum requirement once a position is opened in which case you will receive a margin call once the account equity drop below the minimum level to maintain $50 for respectively 1, 2 or 3 positions. In these cases you will then find that only 1 position is closed usually the "first in" position. I think the majority of retail brokers do not use this "requried maintenance margin" but rather just the initial margin at point of opening the position.

Originally Posted by chris

Is Forex anything like buying stock in the respect that I can buy or sell when ever i want even though the stock goes up and down, or should I say that even though the Pips go up and down?

Yes, forex is even more so because there are some stock market rules governing short selling. For instance currently on many stock markets you cannot short sell financials.

Forex is however vastly different from stocks in that a stock in the US is priced relative to the USD and a stock in the UK relative to the GBP.

I.e. the stocks of Citi bank listed on the NYSE is today maybe $2.00 and tomorrow $3.00, so it is always relative to the USD. Same for a stock of BP listed in London. Today GBP 100, tomorrow GBP 99 relative to the GBP.
Currencies are always expressed relative to each other and there is no fixed bench mark. (Long ago the gold price was fixed and currencies fluctuated relatively to that).

Thus in EURUSD you have two currencies involved and you can buy euro or sell euro vs the USD. If you buy euro vs usd you actually, if you think about it, simultaneously sell usd vs euro. Thus we say you go long euro, but you could also have said "I went short usd". it is six of the one and half a dozen of the other.

At any time you can decide to go long or short any of the two.

However in terms of quoting conventions to know that everbody does the same currencies are quoted in a very specific sequence and that means something. It measn for instacne for eurusd at your spot forex broker you will always either go long or short the euro.

EURUSD is always quoted euro first, usd last (on the spot market) (On futures markets this is different) thus you go long or short euro. You will go long (buy) euro if you expect it to increase in value (need more usd to buy the same amount later) and sell euro if you expect it to decrease in value vs the usd.
In your trading account the difference is just expressed by pressing the BUY or SELL button.

USDJPY is traded in terms of JPY thus you buy or sell the USD vs JPY (other than EURUSD where you buy or sell EUR in terms of USD. (i.e. 1 euro = x usd)

Originally Posted by chris

Let's say I spend $300 dollars on a Forex investment and lose will I only lose that $300 plus spread cost, or can i lose a lot more than that particular investment, or do I just lose a portion of that investment like you do in stock if you sell it lower than what you paid for the stock?

I have basically answered this above, but just to summarise.

It all depends on the value of the transactions you do. Note, not the amoutn of margin required!

If your transaction value is more than $300 (which in a mini account and micro account it will definitely be) you can lose up to the $300 but your broker will automatically close out the positions before it hit -$1.00 to protect themselves from having to chase you for a small amount of money.

If you read that 30 page forex trading agreement you have signed you will see that contractually they can chase you down because theoretically you can go below zero.

For it to happen a few things must work together:

1. You must probably already have lost money close to your account bottom.
2. You must have a big position, i.e. the pip value relative to your net account value must be very high.
3. There must be some event that spook the market to spike instantaneously against your position.
4. The spike must be such that all quotes evaporate and reappear at a much different level. The above doesn't happen often, so let me give you a realistic example using your $300 and your 3 position entered in the example above. The reason the price moved so quickly when you tried to enter the 4th position was some serious surprise to the market and at that moment the prices jumped 5 pips for a few seconds it hovers there, up down a bit like a disco light and then it drops 50 pips and your broker's system hit that price and that is the new price available to you ...
So you had left $51 ($300 - ($9 + $240), at 5 pips lower you had $36 left and couldn't get #.4 done (for reasons of too little margin) and then that price falls away and the next price is 50 pips lower.
Your equity drops from $36 - $150 ($3 per pip). Your positions are closed. You owe the broker $114.

As you can see from this example this is possible but you are responsible because you are irresponsible to have such a large position while having almost no capital left. At the $36 point your leverage was $30,000 / $36 = 833:1. (Meaning for each $1 you had you had debt of $833.)

(You see it is a credit line until you use it, then it turns into debt.)

So, finally since you only have $300 and you trade a mini account your transaction values are relatively high to your capital even at 1 mini lot at a time.

For the purposes of this explanation I haven't referred to risk management tools like the much over-rated stop loss transaction. You can lose your account due to not using stop losses and the market go in one sweep 10, 20, 30 or 100 or 200 or 300 points against you (depending on your position sizes) or you can lose you account due to the number of stop losses adds up to more than your capital (plus a profits).

I will end by predicting that you will lose your $300 like most other $300 mini account holders in fairly quick time depending on how actively you trade.

And it will not be because your broker is after you or whatever, it will simply be because each and every trade you do is at 33:1. That is almost double the Wall Street leverage before they began to lose humongous amounts of capital.

You can update us here with your progress ...

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	Leverage Leverage is the ability to gear your account into a position greater than your total account margin. For instance, if a trader has $1,000 of margin in his account and he opens a $100,000 position, he leverages his account by 100 times, or 100:1. If he opens a $200,000 position with $1,000 of margin in his account, his leverage is 200 times, or 200:1. Increasing your leverage magnifies both gains and losses.<p>To calculate the leverage used, divide the total value of your open positions by the total margin balance in your account. For example, if you have $10,000 of margin in your account and you open one standard lot of USD/JPY (100,000 units of the base currency) for $100,000, your leverage ratio is 10:1 ($100,000 / $10,000). If you open one standard lot of EUR/USD for $150,000 (100,000 x EURUSD 1.5000) your leverage ratio is 15:1 ($150,000 / $10,000). For more on leverage, visit the following links: http://www.goforex.net/forex-leverage.htm http://www.goforex.net/forex-leverage-2.htm

	Margin The deposit required to open or maintain a position. Margin can be either "free" or "used". Used margin is that amount which is being used to maintain an open position, whereas free margin is the amount available to open new positions. With a $1,000 margin balance in your account and a 1% margin requirement to open a position, you can buy or sell a position worth up to a notional $100,000. This allows a trader to leverage his account by up to 100 times or a leverage ratio of 100:1. If a trader's account falls below the minimum amount required to maintain an open position, he will receive a "margin call" requiring him to either add more money into his or her account or to close the open position. Most brokers will automatically close a trade when the margin balance falls below the amount required to keep it open. The amount required to maintain an open position is dependent on the broker and could be 50% of the original margin required to open the trade.

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[chris]

Thanks for your very imformed reply.

Let's say I deposit 5,000 to a forex account, and I make a forex investment of 2,000 of that 5,000. For that particular $2000 investment can I lose the other 3,000 on that 2,000 investment, or can I have that investment closed out as soon as the 2,000 is gone?

And can I buy long and hold until the trade makes a profit like you do when buying stock. Is there a time limit on how long you can hold a forex investments. Don't the pips go up and down like stock and consequently the value.

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[DrForex]

Originally Posted by chris

Thanks for your very imformed reply.

Let's say I deposit 5,000 to a forex account, and I make a forex investment of 2,000 of that 5,000. For that particular $2000 investment can I lose the other 3,000 on that 2,000 investment, or can I have that investment closed out as soon as the 2,000 is gone?

And can I buy long and hold until the trade makes a profit like you do when buying stock. Is there a time limit on how long you can hold a forex investments. Don't the pips go up and down like stock and consequently the value.

Hi There

1. You will have to calculate, based on the size of your positions, the point at which you will be down $2,000 and place stop loss orders at that point or simple reverse the transaction in order at that point to ensure that you do not lose more than the $2,000.

Technically, if you just leave it the position can lose more than $2,000 but if you do a trade on a micro account of say 2,000 eurusd where the value per pip is exactly $1.00 per 10,000 euro, thus $0.20 will be lost per pip, then you won't lose more than $2,000 even if you buy it and put it in the bottom drawer until the euro drops to 0 per dollar.

You have $5,000, which technically mean if you do a 2,000 eurusd trade at say 1.3000 eurusd, buying euro, you will win / lose $20.00 per 100 pips. At 1.0000 eurusd you have lost $20 X 30 = $600. At 0.6500 you would have lost $20X 65 = $1,3000. At eurusd 0 you would be down $2,000 and still have your $3,000.

Obviously currencies go up and down, they are pretty volatile but in reasonably narrow ranges. With the credit crunch volatility has increased tremendously. About a year ago the euro hit highs of $1.60 per euro. Today it stands at $1.30. So if you did the EUR2,000 trade mentioned above, buying eurusd (thinking to follow the eurusd uptrend at that time you would have lost $20 x 30 (30 times 100 pips) (From 1.6000 --> 1.5900 ---> 1.5800 etc is 100 pips) = $600.

It is not the way to trade currencies (buy and hold) but if you would like to diversify some of your money out of the USD or whatever home currency you have by holding other currencies I suppose a retail forex trading account can work, but there are better ways to do it. Just ask your bank or if you are in the US then you can use www.everbank.com

This type of holding currencies is however not only dependent on price moves but also what is called carry interest. I am not going to go into any detail about that (just search on Google for many explanations) but carry interest will play a role in a long term position. Carry interest comes with the territory. Depending on the overnight (central bank) interest rate in each of the countries of the currencies in the pair you trade their is an interest rate effect that influences the value.

If you are long euro short usd (i.e. you have bought euro) then at this time, while the ECB has a higher interest rate (1.25%) for overnight funds than the Fed (basically 0%) you will receive 1.25% interest if you hold this position for one year. (There are costs, so technically it will be less because your broker skim off something for himself). This will only be true if the interest rates don't change.

Potential changes in interest rates is a big contributor to supply and demand and thus price fluctuation in currencies.
The shorter term your view in currencies is the less you will concern about the carry interest. For instance holding a position that pays 2% a year (for holding it 365 days, for say a week will pay only 2% X 7/365 interest. It is really negligible considering that in that week, with some leverage and some volatility you can make 2, 3,4 5% due to the price fluctuations. That is what lies behind short term currency trading.

People believe they can exploit the volatility by buying low and selling high or selling high and buying low (relative highs and lows in a short period of time) and with applying some of the available leverage make good money.

Let me explain it like this:
If you take the $5,000 and over a three month period you do several trades each worth 10,000 eurusd (thus you have levered your account on every trade 2:1.) and let's say you were pretty lucky and had a few profitable trades of 200 pips each and a few of 100 pips each and one or two 50 pippers, no losers. The total pips you have made over the month say is 800. This is 800 x $1.00 (the value of a pip if your transaction size is 10,000 eurusd.)

In this three months you have made $800 on your $5,000 for a return on investment of 16%. Now, imagine you increase the risk somewhat by in stead of doing 10,000 unit trades you did 20,000 unit trades. You simply double the return to 32%. This will and can only happen if you do not have to change the risk or money management parameters. In other words at what point if a position moves against you, you decide to cut it for a loss.

While it is hardly likely that a major currency will even halve its value in a short period of time we have seen rather big moves during the high of the credit crunch. 10 - 20% moves in a few weeks or months. With levered positions the impact on your account can be too big to just hold them until they turn around. (The market can stay irrational longer than you can stay solvent).

So just buying and holding over the very long term is generally a bad idea because a currency can return to where it came from rather quickly and then later go up again. Shorter term juggling with some leverage but not too much seems to be the wisest approach to trade currencies as I explain in my book.

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	Leverage Leverage is the ability to gear your account into a position greater than your total account margin. For instance, if a trader has $1,000 of margin in his account and he opens a $100,000 position, he leverages his account by 100 times, or 100:1. If he opens a $200,000 position with $1,000 of margin in his account, his leverage is 200 times, or 200:1. Increasing your leverage magnifies both gains and losses.<p>To calculate the leverage used, divide the total value of your open positions by the total margin balance in your account. For example, if you have $10,000 of margin in your account and you open one standard lot of USD/JPY (100,000 units of the base currency) for $100,000, your leverage ratio is 10:1 ($100,000 / $10,000). If you open one standard lot of EUR/USD for $150,000 (100,000 x EURUSD 1.5000) your leverage ratio is 15:1 ($150,000 / $10,000). For more on leverage, visit the following links: http://www.goforex.net/forex-leverage.htm http://www.goforex.net/forex-leverage-2.htm

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[hf1337]

it's good to know that you are not going to invest blindly and loose everything - therefore learn on your mistakes, when it could be deadly in forex. it's more than welcome that you are very cautious person! forex is not the place where instincts only could make a deal! =)

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