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How Forex works - this is NOT a guide to successful investing in the foreign exchange market
Today, for a change, I present my personal column on the perception of the Forex currency market. To better encourage you to read the publication, I abandon the traditional introduction, which usually summarizes the entire article. I invite you to read!
Forex, or what really?
Let's start with what the Forex market really is. It's certainly not a machine for easy money making, as you might conclude from the flashy ads of many investment platforms. On the other hand, it is not a monster just waiting to take all your savings and "leave you in your socks". However, you should realize that currency is simply a commodity, just like any other. Therefore, just like any other commodity (potatoes, real estate, or used cars) it is traded. That's what the Forex market is, a place (albeit non-physical) where buying and selling of commodities such as currencies takes place. As long as there are national economies with their own currencies, there will be a Forex market. It allows banks, financial institutions, government entities and companies to trade with partners from all over the world. The foreign exchange market is also used by individuals who, for example, through foreign exchange offices buy and sell currencies in connection with work abroad or foreign vacations.
So why did the Forex market get such a bad name? It has to do with speculative transactions, in which small investors can bet with brokers on which way the exchange rate of a given currency will go. The specificity of this type of investing has created a phenomenon called leverage. Thanks to it, a person who has, for example, 1000 PLN can open positions worth 100,000 PLN. It is not difficult to guess that the temptation of easy profits with a small commitment of capital has led to many situations in which small investors quickly lost their entire wealth. In today's entry I will slightly warm up the image of the Forex market. However, this will be about the real - the foreign exchange market, used to exchange currencies, rather than seeing it as a place to make easy money without much effort. I hope that by now you have realized that it is not Forex that is bad. The bad thing is the people who use it recklessly, taking uncontrolled risks and driven by greed and the desire to make easy profits without proper preparation.
The advantages of the Forex market, which are its disadvantages
The Forex market is the essence of economic freedom. The Forex market is the essence of economic freedom. Of course, this is the case when the exchange rate of a currency is not regulated by state institutions (as in the case of fixed or pegged exchange rates). This is the essence of economic freedom, of course, when a currency exchange rate is not regulated by a government agency (such as fixed or pegged rates). Forex definitely stands out in terms of liquidity compared to other financial markets. It is said that the Forex market is almost perfectly liquid. This means that rates are formed in an efficient manner and individual transactions do not have the effect of artificially shaping the prices of currency pairs. To understand this phenomenon, compare the Forex market, for example, to the stock market of small companies in Poland. Infrequent transactions mean that share prices do not fully reflect the true value of companies. Listed companies may be undervalued or overvalued. Dishonest investors can easily influence share prices, which is detrimental to the interests of small market participants. Nowadays, price manipulation is very difficult on the currency market, because the daily turnover on this market is counted in trillions of dollars. So, even billion dollar investments do not change the exchange rate of a currency as in the case of small company stocks (in percentage terms). This makes the Forex market extremely absorbent. Thanks to the enormous liquidity, transactions are executed in the blink of an eye (there is almost always someone on the other side who has issued opposite orders). The liquidity of the market means that spreads (differences between buying and selling prices) and transaction costs are minimal.
Another advantage of the Forex market is that it is open 24 hours a day. Forex is decentralized, it has no specific headquarters or regulator. According to the time zones, the markets in Australia, Asia, Europe and then the Americas open one after the other. This allows you to invest around the clock, with a slight respite on weekends.
Despite the various turbulences, currency rates are quite stable. For many years the US dollar has been trading between 2 and 4 zlotys and the euro between 3 and 5 zlotys. So you say "investing in currencies, you can die of boredom, a few percent changes over a fairly long period of time are pointless". Nothing more misleading. The Forex market (from the perspective of the individual client) is inseparably associated with the phenomenon of financial leverage, also known as leveraging. It allows you to trade amounts much larger than your capital. For example, the use of leverage of 1:100 means that you can open a position of 1,000 PLN with an amount of 100,000 PLN. What effect does it have in practice? Suppose you buy a foreign currency on the spot market for the amount of 1000 PLN. A 1% change in the exchange rate will make or break you by PLN 10. If you use leverage of 1:100, the difference is calculated on the amount of 100,000 PLN. So a change of 1% will make you gain or lose £1,000. Yes, exactly, the market movement of 1% makes you increase your original capital by 100% (from PLN 1000 to PLN 2000). The only cost is the so-called swap points, i.e. the interest charged by the broker. The use of financial leverage is in a way granting a loan. Its interest rate results from the difference in interest rates of the currency pair and the broker's margin. Swap points are calculated after each day of holding an open currency position.
It would seem that the Forex market is the best place to make money. The market is efficient, liquid, cheap and does not require much capital. You can quit your job, open an account with a broker and start making money. So where do the advantages in the middle title come from as disadvantages? What disadvantages can it be about? At this point we come to the heart of the matter. Forex is just a tool, not a golden mean to certain success. Like any tool, it can be used for both good purposes and bad. For example, if you have an elegant pen you can both write beautiful poetry with it and take someone's eye out... It's the same with Forex. It is not the currency market that is bad. It is the people who use this tool incorrectly that have given "Forex" such a bad name. This includes greedy traders acting without proper training, as well as the other side of the transaction, which is dishonest brokers using fraudulent practices. And how does this translate into the previously mentioned advantages? High market liquidity is used by marketers to "pull" investors operating in relatively safe cash markets (for example, the bond market) into leveraged markets. Liquidity and efficiency is the pretext for Forex's advantage over other markets. However, it should be remembered that large players (investment banks) take advantage of any symptoms of currency exchange rate fluctuations much faster than small investors.
Thus, the mentioned advantages of Forex work but rather only for large investors. The openness of the markets 24 hours a day can mean that important events taking place while you are sleeping can definitely affect your transactions. If you don't properly hedge your investments, you could wake up as a bankrupt. You can, of course, try to follow the market around the clock. Unfortunately, the human body is constructed in such a way that it cannot withstand such activity for several days in a row. This is where addictions to Forex and stimulants (drugs, legal highs, etc.) come from. (drugs, legal highs, psychotropic drugs). From this it's just a step to decline in health - heart disease, constant exhaustion, depression.
Finally, the icing on the cake. Financial leverage - the mother of many human misfortunes. Deliberately listing the advantages, I stated that the market movement of 1% can make you double your capital. Now I will pour a bucket of cold water on you and clearly inform you that a 1% change in the exchange rate of the currency (for example a change in the EUR exchange rate from PLN 4.00 to PLN 3.96) will make you lose all your invested capital. The example applies to leverage of 1:100. Interestingly, there are also foreign brokers who will offer leverage of 1:500. Lack of risk control, skills and experience can quickly throw you into financial hell.
How it looks from my perspective
I will not hide, I have never actively invested in Forex. Only for educational purposes, and basically out of sheer curiosity I tested demo platforms based on virtual money. Slightly more real money came from the "no deposit required" startup bonus. In this case, the broker allows you to withdraw the profit generated by investing the funds received as a welcome, for example 100 euros. Of course, the bonus itself cannot be withdrawn, and the profit withdrawal was subject to additional conditions. I must admit that at first I was attracted by this fun with Forex. The platform allowed me to use various investment solutions, which I tested meticulously, although I must admit that there was an excess of them. Eventually I gave up. Two steps forward, one step back, then the other way around. I approached the matter very cautiously (at least I think so). I decided that trading on Forex with high leverage is a very time-consuming activity. In fact, I think it is more than a full-time job. I did not have this time, and since I do not recognize half-measures, I decided not to pay real money to the broker's account. I concluded that casual investing in my free time is a bad solution that will do more harm than good.
However, I do not completely demonize the Forex market. If someone has enough time, knowledge gained from books and trainings, as well as experience resulting from the demo platform and then from investing small amounts - OK, I have nothing against this form of earning. However, one should approach it with 100% common sense. This means that you need to build an appropriate strategy and plan B in a situation where the reality would turn out to be quite different from your expectations. It's also worth assessing your emotional state, confront it with the demands of the Forex market.
In my opinion a big disadvantage of investing in Forex are technical issues. Many times I've heard of cases when the demo platform "worked just fine". However, after switching to real money it was not so colorful, especially when traders were doing "too well". Execution of orders at not the expected prices and platform crashes at the worst possible moments - this is what traders who gave up on Forex mainly complain about. Another technical issue that quite discourages me from Forex is where the platform operators are registered. There is no denying that the best conditions can be offered by brokers operating in countries with fairly liberal legal regulations. Cyprus may be an example. Although this country is a member of the European Union, personally I would be wary of depositing funds to a broker whose location is so distant. Should the broker make a slip-up, any individual action would be severely hampered. When it comes to investing, however, I prefer to work with institutions that are subject to Polish supervision. Of course, the latter is not without blemish either (the Amber Gold affair or the collapses of SKOKs), but as they say "the shirt is closer to the body". There are also brokers in Poland that allow you to invest in Forex. They are licensed by the Polish Financial Supervision Authority (KNF) and they issue PIT which has to be settled with the Tax Office. However, it must be admitted that the Polish regulator does not like the Forex market too much. The KNF quite often cites statistics in which it informs that investing in the foreign exchange market ends in a loss for more than 80% of market users. The Polish Financial Supervision Authority would like to civilize the Forex market, which of course involves imposing new regulations. This and several other reasons have led to the resignation from offering access services to the Forex market by Brokerage Houses of PKO BP, BZ WBK, or ING Bank Slaski.
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