Foreign exchange is a risky venture. Know the dangers of this market to assure and maximize your trading success.
Forex is a marketplace that facilitates the exchange of different currencies. In a nutshell, foreign exchange is the world’s largest financial market. According to the records, the volume of forex can reach from $ 1.5 trillion to $5 trillion a day.
Various media and online platforms keep on promoting forex as a means of earning money. It is one of the reasons why forex became famous over the past few years. Honestly, forex is not the easiest way to earn cash. It is quite risky, particularly for beginners. If you are planning to delve into this industry, determine and clarify your goals. Do not set unrealistic expectations, such as using forex as a scheme to gain wealth.
Trading neophytes need to understand the risk of foreign exchange. You will learn on these forex podcasts that trading currencies are not easy. Fluctuations constantly happen in this market, thereby making it more challenging and difficult to avoid losses. The best way to limit these risks is to familiarize them.
#1 Fluctuations of Currency Value
Currency value tends to change every minute. The cause behind these fluctuations is either due to political and economic reasons. The most popular occurrence that created a big change in the financial market is Great Britain’s proposed exit from the European Union. Consequently, both internal and external events influence currency value and foreign exchange.
These currency fluctuations are not entirely bad. The trader cannot forecast the changes and effectively use it which creates the risk. Thus, it is paramount that a trader knows how to predict currency fluctuations based on current events.
#2 Losses due to Leverage Risks
When trading, margin (a small initial investment) is a requirement for leverage and to gain access to currency trading.
Fluctuations in the price result in margin calls, which force the investor to add additional investment. This may result in the aggressive use of leverage and the consequence of substantial losses.
#3 Exchange Rate Risks
Exchange rate risks also called transaction risks occur due to differences between the beginning of a contract and its settlement. Take note that the foreign exchange market is open 24/7. Hence, fluctuations may occur before the trades are closed. The difference in trading hours increases transaction risks.
#4 Interest Rate Risk
It is the profit and loss generated due to market volatility. Fluctuations in the forward spread and mismatches of forwarding amount and maturity gaps increase the risk. Interest rate risk is common to currency swaps. A trader can minimize the risk by limiting the total size of mismatches by separating them by maturity dates.
#5 Counter-party Risk
A counter-party risk happens when there is a default from the broker in a transaction. Take note that counterparty is a company that provides an asset to the investor. In forex, forward and spot contracts are not guaranteed. Counterparty can refuse contracts during market fluctuations.
#6 Country Risk
A trader must always assess the stability of their country’s exchange rate. When a currency crisis occurs, it can have a substantial effect on currency value and forex trading.