FOREX trading can be profitable but it also involves taking risks. It’s imperative that beginners understand this before starting out, because miscalculating risks could cut their Forex trading career short.
The Forex market is highly competitive with large institutions, hedge funds and professional traders all battling it out to make a profit.
This is why as a beginner you must learn to survive long enough to gain the necessary knowledge to become a profitable trader. It takes time to learn, create and refine your forex trading strategy into one that makes money and suits your personality, skills and time. Safety is the number one priority for beginner traders. Any substantial losses will damage your confidence and could even lead to you quitting altogether. Look to play the long-term game and become an expert rather than just trying to make a quick buck.
In this beginner’s survival guide, we will outline everything required to help ensure you’re around long enough to have a chance of reaching consistent profitability.
Rule 1 – Cut your losses
Many professional traders will tell you that trading is a process of cutting the losers and feeding the winners. It’s therefore important that you do not add to a losing position. If the trade does not go in the direction you hoped then this means your analysis was wrong and the trade should be closed. As the legendary Ed Seykota says:
“If you can’t take a small loss, then eventually you will take the mother of all losses”
It’s important not to get to emotionally attached to a trade, losers happen it’s just part of the game and that needs to be accepted. Most professional traders have a win rate of somewhere between 40-60%, which means they are wrong 60-40% of the time. Trading is just about making money, and to make money you don’t need to be right all the time. However, you do need to make sure you cut the losing trades quickly and avoid taking large losses that hit your confidence and wallet.
Rule 2 – Don’t take excessive risks
As we are now aware, forex trading involves accepting you will have losing trades. If you risk half of your account on a single trade, then it only takes two losing trades in a row and you’re out the game.
You want to know exactly how much you are prepared to lose on a single trade before you go ahead with it. A recommended amount would be 1% of your account per trade, this way your account is always 100 trades away from going bust. This means if your account size is €5000 then you will risk €50 on each trade.
Using a percentage amount of your account is much better than a fixed currency amount, no matter what currency you choose to focus on. This way when you go through a losing streak your position sizes will automatically get smaller and during a winning streak, your position sizes will get bigger.
Rule 3 – Use stop losses
As a beginner, you want to be placing stop losses with your forex broker on each trade. This way when price moves to a certain point the trade will be automatically closed and prevent the temptation creeping in of holding onto losers.
Stop losses also allow you to position size correctly and make sure you have a defined exit point before making a trade. All professional traders know their criteria of where they will enter and exit a trade. Having an initial stop loss is part of every successful trading strategy.
Rule 4 – Beware of margin and leverage
Forex brokers offer their customers leverage and margin to allow them to gain more exposure in the markets. Currency pairs in the forex market generally only move by incremental amounts each day (between 0.1 – 1.5%) although at times can see increased volatility. Traders use leverage to take bigger positions so they can make more profit out of these small moves.
There is a flip side to having this leverage. You now also have the potential to increase the size of your losses. In fact, the margin offered can allow you to take positions that far exceed the size of your account. Discipline is required so you don’t risk any more than you can afford to lose when Forex trading. It’s possible to lose more money than what’s in your account and if you do you will be issued a margin call. A margin call is when your forex broker contacts you to request a deposit that brings your account out of its negative balance.
Rule 5 – Have a trading plan
This covers all the topics mentioned above. Having a trading plan ensures you know before every trade how much you are prepared to lose, what your entry point will be, where your stop loss will be and what the profit target is.
You want to find a trading style that appeals to you and fits around your lifestyle. This could be day trading, swing trading (intermediate term) or longer-term position trading. There are also many different ways the markets can be analysed, including different forms of fundamental and technical analysis. You might choose to use exclusively technical analysis, either way; this should be outlined in your trading plan.
Survival guide summary
If you follow the rules outlined in this guide you will avoid the risk of disaster. You will gain real experience trading with real money which is a necessary step to becoming a profitable trader. Not following these rules would be more akin to gambling, choose to use your brains instead when trading rather than just following a gut feeling. This is what 90% of losing traders do and whilst it is possible to get lucky, it’s more likely you won’t be and will end up frustrated with trading. A large majority of beginner forex traders give up, don’t let this be you.
Forex trading is an amazing skill and when you become competent the rewards can be incredible. Forex trading can be a great way to build wealth and can be done from anywhere in the world. All you need is a connection to the internet. Some of the world’s richest people are professional investors in the financial markets; this proves the potential on offer.