Yes, trading forex is a risky activity. Harbour no doubts about this.
The first risk is leverage. Many retail accounts lose over time because of the overly high leverage. Minute, random price movements decimate accounts equity quickly if traders are caught on the wrong side. Small losses can easily pile up and risk the account being terminated early.
The second risk comes from sudden price moves.
For example, when the Swiss National Bank suddenly removed its cap in 2015 without prior warnings, it literally blew unrecoverable holes in many broker accounts because few traders expected the event. They were positioned in the wrong way – i.e., the cap stays – and the removal of the cap led to huge moves in the opposite direction. Brexit was another such event.
Volatile price moves can lead to a dry-up in liquidity. Traders will experience in a huge increase in bid-ask spreads during these volatile periods, especially when brokers themselves are under stress.
Top tip: Check the forex market opening times for peak liquidity to reduce volatility
The third risk comes from forex trading brokers. Choose your broker well. Inferior ones lead to higher spreads and commissions, which encroach returns and add transaction costs.
Occasionally, forex brokers can go bust, leaving customer accounts in limbo. It’s well worth checking if your broker is regulated and if their customers funds are segregated.
Another risk comes from inappropriate trading strategies for the market.
For example, trend-following strategies may be suited for some forex pairs; while reversionary strategies for better in other pairs. You will need to back-test strategies and conduct some dummy trading to ensure that the strategy you choose is viable for that particular forex market.
Other classic trading mistakes include:
- Overtrading the account,
- Undercapitalised funding,
- A lack of basic risk control,
- Inability to shift strategies over time
Alternatives To Trading Forex
Trading forex is hard and many new traders are lured into the world for currency speculation by social media influencers who are selling a lifestyle rather than any decent forex trading strategies.
If you’ve tried forex trading and not had much luck, here are a few alternatives that can help you scratch that trading itch, but come with the added benefit of being what I would call easier than betting on the price of currencies.
- Index trading – a bit easier because it’s based on the fundamental values of the companies it consists of. Also slightly less volatile.
- Commodities trading – pegged to a single commodity like Gold or Oil. Still good news flow, but very volatile
- Stock Trading – basically taking a bet on a single company – loads to choose from and with a huge amount of research available. The stocks in the top indices are the less volatile with the best liquidity.
- Fixed income investing for income – buying bonds and gilts to receive income from coupons – low risk and relatively low reward. Unless you buy junk bonds well below par in which case the risk and reward increase significantly.
- Dividend investing – buying shares with high dividend yields to receive income from the dividends. A bit riskier than bond investing, but there is capital upside (and downside) to consider.
- Options trading – you can trade options on almost anything. If you are buying you pay your premium and that is your max loss on the option (can be more if you are delivered on). If you are selling loses are unlimited so watch out.
- Cryptocurrency trading – the highest risk of trading as cryptocurrencies are about as volatile as they come with a price purely dependent on investor demand.
With over 35 years of finance experience, Darren is a highly respected and knowledgeable industry expert. With an extensive career covering trading, sales, analytics and research, he has a vast knowledge covering every aspect of the financial markets.
During his career, Darren has acted for and advised major hedge funds and investment banks such as GLG, Thames River, Ruby Capital and CQS, Dresdner Kleinwort and HSBC.
In addition to the financial analysis and commentary he provides as an editor at GoodMoneyGuide.com, his work has been featured in publications including Fool.co.uk.
As well as extensive experience of writing financial commentary, he previously worked as a Market Research & Client Relationships Manager at Admiral Markets UK Ltd, before providing expert insights as a market analyst at Pepperstone.
Darren is an expert in areas like currency, CFDs, equities and derivatives and has authored over 260 guides on GoodMoneyGuide.com.
He has an aptitude for explaining trading concepts in a way that newcomers can understand, such as this guide to day trading Forex at Pepperstone.com
Darren has done interviews and analysis for companies like Queso, including an interview on technical trading levels.
A well known authority in the industry, he has provided interviews on Bloomberg (UK), CNBC (UK) Reuters (UK), Tiptv (UK), BNN (Canada) and Asharq Bloomberg Arabia.
You can contact Darren at darren@goodmoneyguide.com
