Anyone who has approached Forex, out of curiosity, or to try to orient themselves before deciding whether or not to participate in the trade, knows that the Forex market is a particular OTC type market (over the counter), and that is where they are traded currencies Another thing that has certainly been learned, and that is part of the Forex base, is represented by the characteristics that the forex market presents, such as high liquidity and volatility, the extreme variety of issues involved, and the fact of it is open 24 hours every day (except Saturdays and Sundays). At this point, instead, we will consider the implications linked to these peculiar aspects and understand some fundamental aspects that must be known absolutely to perform operations.
The fact that it is an extremely liquid market is very positive since the moods and statements of individual competitors cannot influence the trend of a trend (as can happen in the stock market).
Some data and decisions instead produce effects and are represented by macroeconomic data (not all are significant, and the useful ones are those indicated as market makers), and by the decisions of the Central Banks (whose institutional function is support monetary policy). These factors could be considered as “objectives”, and the distinction is important since they are not the only factors to consider.
We must not forget the psychological dimension, which undoubtedly manages to influence any type of financial market, But given the high volatility that characterizes the Forex market, only those that move large volumes of currencies have the strength to influence the trend of a trend. For this reason, for small investors, it is recommended to follow the trend and not go against the trend.
Another concept that needs to be clarified is that related to volatility, often confused concerning its real meaning. Volatility is the antithesis of stability, so a very volatile market is a market that has low levels of stability, but has continuous changes that can also follow, for some time, the same direction, but through oscillations Even almost imperceptible.
Volatility should not be confused in the sense of “amplitude of oscillations,” and the Forex market is a typical example. When considering the variation of the exchange rate between two currencies (perhaps expressed as a percentage to better understand the entity), it cannot be avoided that they are always limited to small amounts.
Even in the latter case, one usually does not have very clear ideas and is seen in an excessively negative way. On the other hand, the financial lever, if used well, is a fundamental tool to obtain interesting gains (but you have to be careful because the effects can produce “ amplified ” also from losses), precisely because the Changes generally affect a few pips, and without a tool that amplifies the effects, marginal gains would be obtained.
So, in essence, financial leverage allows you to trade with volumes that would otherwise be unattainable unless you deposit very high figures. The leverage depends heavily on the broker you will choose.
This aspect becomes much easier to understand if one takes into account the fact that 3 types of contracts can be traded in Forex:
- Standard lots that have a nominal value of about $ 100,000.
- mini lots that have a nominal value of approximately $ 10,000
- microloans that have a nominal value of approximately $ 1,000
This implies that trading a mini lot is equivalent to opening a position with 10 micro-lots, and a standard lot is equivalent to 10 mini lots and 100 micro-lots.
To operate a standard lot, I would have to have $ 100,000 in deposit, $ 10,000 for a mini lot and $ 1,000 for a micro lot, but thanks to financial leverage I can open the position with significantly lower amounts, the amount of which depends on the leverage provided by the broker (for example, for a micro lot and a leverage of 1:10, you can open positions for a micro lot, and if the leverage were $ 1: 100, $ 10 would be enough, and so on).
However, to better understand the effects of using the financial lever, it should be remembered that this allows you to open and control positions with low amounts, but once they have been opened, it does not affect earnings: two open and closed positions at the same time but with different levers, they do not lead to different gains, because the result will be the same.
Another term that creates confusion, mainly because of its link with Financial Leverage is the Margin, but these others are only the minimum amount required by the broker to cover any loss. It is the same law that requires brokers to establish a specific margin for each operator, and that must be determined by the following equation:
Margin required by operation = Current price x Units negotiated x Margin in%.
where the margin in% is in turn given by:
Margin in% = 100 / leverage ratio
Finally, to complete your knowledge of the fundamentals of Forex, you also need to learn what financial instruments can be used:
- term transactions (very speculative): the parties define a future exchange rate and the date on which they will be compared, regardless of the real exchange rate;
- futures: they are standard contracts, in which fixed amounts and maturities are exchanged at interest rates that can be freely determined;
- swap: with a single contract the parties decide the amount of foreign exchange, and the relative prices, which will be changed from A to B at expiration X, and from B to A at expiration Y;
- spot: standard contracts with futures operations but with very short maturities.
The most used instrument in Forex is the spot instrument.