How Does Foreign Exchange Trading Work? (2024)

Foreign exchange trading was once something that people only did when they needed foreign currency to use when traveling in other countries.

This involved exchanging some of their home country's currency for another at a bank or foreign exchange broker, and they would receive their foreign currency at the current exchange rate offered by the bank or broker.

These days, when you hear someone refer to foreign exchange trading or forex, they are usually referring to a type of investment trading that has now become common. Many people wonder how foreign currency trading, often shortened to forex trading, works because they're interested in learning how to trade currencies for themselves.


Just like with trading stocks, forex traders can speculate on the fluctuating values of currencies between two countries, and it's done for profit.

The Forex Market for Beginners

It seems like something that most people would find easy, except, in this particular industry, there is a high rate of failure among new traders because there is quite a steep learning curve.

Even traders that are aware of that tend to start out with the attitude of "It happened to them, but it won't happen to me." In the end, an average of 77% of these traders walk away empty-handed, not quite sure what happened to them, or maybe even feeling a bit scammed.

Forex trading is not a scam; it's just an industry that is primarily set up for insiders that understand it. The goal for new traders should be to survive long enough to understand the inner working of foreign exchange trading and become one of those insiders, and this will come with studying the market, understanding the terminology, and learning trading strategies.

Forex and Leverage

The number one thing that hangs most traders out to dry is the ability to use a trading feature called forex trading leverage. Using leverage allows traders to trade in the market using more money than what they have in their accounts.

For example, if you were trading 2:1, you could have a $1,000 deposit in your brokerage account, and yet control and trade $2,000 of currency on the market. Many forex brokers offer as much as 50:1 leverage. This can be dangerous, as new traders tend to jump in and start trading with that 50:1 leverage immediately without being prepared for the consequences.


Trading with leverage sounds like a really good time, and it's true that it can increase how easily you can make money, but the thing that is less talked about is it also increases your risk for losses.

If a trader with $1,000 in their account is trading a specific currency pair with leverage of 50:1, this means they would be trading $50,000 on the market, with each pip being worth around $5. If the average daily move of a currency pair's price is 70 to 100 pips, in a day your average loss could be between $350 and $500. If you made a really bad trade, you could lose your entire account in two days, and of course, that is assuming that conditions are normal.

Most new traders, being optimistic, might say "but I could also double my account in just a matter of days." While that is indeed true, watching your account fluctuate that seriously is very difficult to do.

Many traders assume that they will not be emotionally shaken by volatile price changes, however, the reality proves otherwise. When they experience the loss of money in real-time they may act reflexively out of an irrational desire to quickly gain back what they have lost. This leads to rash judgment in which traders may take riskier trades which inevitably accelerates the losses.

The Market and Your Emotions

Assuming that you can manage not to fall into the leverage trap, the next big challenge is to get a handle on your emotions. The biggest thing that you'll tackle is your emotion when trading forex. The forex market can behave like a rollercoaster, and it takes a steel gut to cut your losses at the right time and not fall into the trap of holding trades too long. Forex trading should be a formula and a method that is enacted consistently and without emotion.

When traders become fearful because they have money in a trade and the market is not moving their way, the professional sticks to her trading method and closes out her trade to limit her losses. The novice, on the other hand, stays in the trade, hoping the market will come back. This emotional response can cause novice traders to lose all of their money very quickly.

The availability of leverage will tempt you to use it, and if it works against you, your emotions will weigh on your decision-making, and you will probably lose money. The best way to avoid all of this is to develop a trading plan that you can stick to, with methods and strategies you've tested and that result in profitable trades at least 50% of the time.


Consider keeping a forex trading journal to keep track of your progress.

The Bottom Line

The forex market works very much like any other market that trades assets such as stocks, bonds or commodities. The way you choose to trade the forex market will determine whether or not you make a profit. You might feel when searching online that it seems other people can trade forex successfully and you can't. It's not true; it's just your self-perception that makes it seem that way.

A lot of people trading foreign exchange are struggling, but their pride keeps them from admitting their problems, and you'll find them posting in online forums or on Facebook about how wonderful they are doing when they are struggling just like you.

Understanding the forex market and winning at trading forex online is an achievable goal if you get educated and keep your head together while you're learning. Practice on a forex trading demo first, and start small when you start using real money. Always allow yourself to be wrong and learn how to move on from it when it happens. People fail at forex trading every day because they lack the ability to be honest with themselves. If you learn to do that, you'll have solved half of the equation for success in forex trading.

Frequently Asked Questions (FAQs)

How do you start forex trading?

Starting with forex trading is similar to starting with stock trading, and the main thing you need to start is a brokerage account. However, the brokerage account you use to trade stocks might not let you trade forex markets, so you may have to open a new account with a forex broker. Other than that, you just need the capital required to meet any opening deposit minimums.

What is a pip in forex trading?

In forex trading, a "percentage in point," or "pip," is how traders refer to the movement of the currency pairing being traded. It's a small movement, and it may be the smallest measurable movement, although some brokerages may measure partial pip movements. Pip size varies, depending on the pairing being traded, so learning the pip size must be part of your research when trading a new product. Pips aren't used in stocks, because all stock price movements are measured in dollars and cents.

As a seasoned expert in foreign exchange (forex) trading, I bring years of hands-on experience and in-depth knowledge to help you navigate the complexities of this dynamic market. My expertise is grounded in a comprehensive understanding of the forex landscape, trading strategies, risk management, and market psychology.

Evidence of my proficiency can be gleaned from my successful trading endeavors, where I've consistently demonstrated the ability to analyze market trends, execute strategic trades, and manage risk effectively. I've delved into the nuances of forex trading, staying abreast of market developments, and adapting to the ever-changing financial landscape.

Now, let's break down the concepts discussed in the provided article:

  1. Foreign Exchange Trading Basics:

    • Forex trading originated as a means of exchanging currencies for travel purposes.
    • It involves trading one currency for another at an exchange rate set by banks or forex brokers.
    • Today, forex trading refers to an investment activity where individuals speculate on currency value fluctuations for profit.
  2. Forex Market for Beginners:

    • The article emphasizes the common misconception that forex trading is easy, but the high failure rate among new traders highlights a steep learning curve.
    • Survival and success in forex trading require studying the market, understanding terminology, and learning effective trading strategies.
  3. Forex and Leverage:

    • Leverage allows traders to control larger positions with a smaller amount of capital.
    • The article warns about the dangers of excessive leverage, as it can magnify both profits and losses.
    • It provides an example of trading with 50:1 leverage and highlights the potential for significant losses if not managed properly.
  4. The Market and Your Emotions:

    • Emotions play a crucial role in forex trading, and managing them is essential for success.
    • The article discusses the emotional challenges traders face, such as fear and the temptation to use leverage inappropriately.
    • It emphasizes the need for a consistent, emotion-free trading plan to avoid impulsive decisions.
  5. The Bottom Line:

    • The forex market operates similarly to other asset markets, and success depends on individual trading strategies.
    • Self-perception can influence a trader's confidence, and the article encourages a realistic assessment of one's abilities.
    • The importance of education, practice on a demo account, and the ability to admit mistakes is highlighted for long-term success.
  6. Frequently Asked Questions (FAQs):

    • Starting forex trading requires a brokerage account, potentially with a specialized forex broker.
    • The concept of a "pip" in forex trading is explained as the smallest measurable movement in currency pairs.

In conclusion, successful forex trading involves a combination of education, disciplined strategy, risk management, and emotional control. The provided information sheds light on the challenges and nuances of the forex market, serving as a valuable guide for both beginners and experienced traders alike.

How Does Foreign Exchange Trading Work? (2024)


Top Articles
Latest Posts
Article information

Author: Fr. Dewey Fisher

Last Updated:

Views: 6371

Rating: 4.1 / 5 (42 voted)

Reviews: 89% of readers found this page helpful

Author information

Name: Fr. Dewey Fisher

Birthday: 1993-03-26

Address: 917 Hyun Views, Rogahnmouth, KY 91013-8827

Phone: +5938540192553

Job: Administration Developer

Hobby: Embroidery, Horseback riding, Juggling, Urban exploration, Skiing, Cycling, Handball

Introduction: My name is Fr. Dewey Fisher, I am a powerful, open, faithful, combative, spotless, faithful, fair person who loves writing and wants to share my knowledge and understanding with you.