There is no denying the fact that the forex market is a place to make a huge profit. Like every other trade out there, the end goal is to make a profit. This simple fact drives many traders to lose lots of money on daily basis. So as traders it is our responsibility to trade wisely. Truth be told there are so some dangers of forex trading. But once you learn to spot them and manage them, you will be alright.
Is forex trading risky?
There is a risk in everything we do in life and not just in forex trading. There is a risk of falling when climbing your staircase. There is a risk of getting stuck in an elevator due to faulty wiring. So yes there are some risks of trading on the forex. But any successful trader will tell you that the gains outweigh the risks. Below are some of the types of online transaction risks involved in forex trading.
Leverage risks
To leverage is simply borrowing money to trade in other to increase your net output. In forex trading, the leverage requires a small amount of initial investment called margin. Some fluctuations in prices can cause margin calls, where the investor must pay extra margin. When the market conditions are volatile, aggressive use of leverage can result in huge losses of an initial investment. It is always advisable that traders use not more than 1% of their own money when using leverage. This way, your losses will be minimized in cases where you lose a trade. Traders need to be patient and avoid the urge to double their initial investment within the shortest possible time.
Interest rates risks
Interest rates are one of the major factors that influence the forex market. Traders need to be watchful when it comes to the interest rate. Even though currencies with higher interest rates produce greater returns, you need to be careful as to when you will trade on a currency. A rise in the interest rate of a country will strengthen its currency due to the influx of foreign investors. Conversely, a country with low-interest rate has a weakened currency. So before you trade on a currency, know its history with regards to the interest rate.
Transaction risks
Transaction risk is one of the risks of trading that needs to be carefully considered. It is associated with the time difference between the beginning and the end of a contract. Especially when making trades that last for seconds. Forex exchange rates can change before traders settle because trading is done on a 24-hour basis. Because of this, the currency can be traded at different prices at different times during trading hours. The greater the time difference between entering and settling a trade the higher the chances of transaction risk occurring.
Counterparty Risk
The company that provides an asset to an investor is the counterparty in a financial transaction. Counterparty risk is the risk from the broker in any particular transaction. No guarantee is given by an online brokerage when making spot and forward contracts on currencies. When market conditions become volatile, the counterparty may refuse to honor the contract. Always choose a reliable broker and avoid dealing with companies whose reputation is mired in misconduct and unfavourable criticism
Fundamental Risk
Before trading on currencies, you need assess the country issuing that currency. Many developing countries have their exchange rates fixed to the currencies of the developed countries like the US dollar. As such, to maintain a fixed exchange rate, central banks must maintain enough reserves. Currency prices will be affected in case of any currency prices. When investors suspect that a currency will decrease in value they quickly withdraw their assets to avoid running into a cataclysmic loss. So it is important to know the economic state of the country issuing the currency you want to trade on. This is most important when you are trading on a currency for the first time. Increase your awareness of fundamental background of traded currencies in our guide to economic indicators.
Conclusion
There are so many risks involved in trading in the forex market. It is your responsibility to know about them and do your best to manage them properly so you do not lose your hard earned money.