ago during the gold rush. There are expectations of enormous
returns, and marketers are happy to encourage this. As during the
gold rush, enormous profits have been made in the Forex market.
And it’s easy to see how more can be made. Without doing any real
research and simply by looking at any currency chart, a trader can
see that being on the right side of a move, while heavily leveraged,
can make a small bet pay off well.
There is no denying those charts, and we all have heard the stories
of speculators, such as George Soros, raking in $3 billion in
three days of trading. As with any market, somewhere between the
myths and facts lies the truth. Forex is no different. There is a lot of
money to be made, but the risks are real. Investors must understand
this before developing a trading strategy. Forex, even with its
wild volatility, is still tied to the general rules of returns. Just
because Forex is the largest market in the world doesn’t mean we
should suspend reality. “Risk versus reward” is still relevant. You
can’t put down $20,000, leverage it 100 to 1, and expect to retire
on your returns. Always remember that great money managers
look for 15- to 20-percent returns over the long term. Most sweat
just to beat the major indexes.
What Is My Capacity for Risk?
The Forex market reflects the global environment. Just by turning
on CNN you can see how unpredictable things really are. In
autumn 2004, two unrelated factors pulled the U.S. dollar lower—
hurricanes in Florida and a strike on the oil pipelines in Nigeria.
The price of oil soared above $53 a barrel. No analyst can forecast
what are essentially random events.
In comparison, share prices of blue-chip stocks with constant,
predictable cash flow, such as McDonalds and Coca-Cola, hardly
fluctuate on a daily basis. They can show dramatic movements over
time, and they can spike after announcements, earnings reports, or
analyst meetings. Compared to Forex, however, they are stable. For
example, a recent memo by a major Forex firm effectively said that
recent market conditions had caused “temporary illiquidity.”
Consequently, the Forex market could drop or gain 100 to 200
pips in a matter of minutes. In response, they couldn’t guarantee
execution for stop-loss, limit, and entry orders. If you had a stoploss
order at 122.00 EUR/USD and something unexpected happened
that caused the U.S. dollar to suddenly and violently
strengthen, the market might skip your order and execute at the
next available price—maybe 121.
As with any margin account, the investor is responsible for all
losses. This introduces a whole new level of risk to the average
investor, because set risk levels protected by stop-loss orders can be
nullified in extreme cases. And since a currency can’t be worth
zero, there is no bottom.
Time Investment
As we’ve discussed before, the Forex market reacts to events occurring
all over the world, and rarely do events occur in an orderly
fashion. I have often sat in front on my terminal having a silent
conversation—“OK, I’m ready to trade. Now, market, move.” Or I
might think, “If this currency breaks this resistance, I will place an
order.” Then I wait 10 hours for London to open for the event to
finally occur.
Investors must understand that just because they have set aside
a few hours to watch the market in anticipation of a trade doesn’t
mean the market will provide an opportunity.
A great example is from 2002, when President Bush was preparing
to invade Iraq. The troops were in place and the president had
publicized his intent to the world. The only real question was when.
On March 20, 2003 the U.S. launched cruise missiles into Baghdad
around 9 p.m. EST, two hours before the UN deadline. New York
was getting ready for bed, and Japan was heading to work.
Considering the huge movements that had already occurred in the
markets in anticipation of the attack, the market reaction when the
bombs finally started falling was slight. However, it illustrates the
commitment and dedication an investor needs in this market. Even
if you trade purely on technical grounds, the volatility of this market
demands attention and constant reevaluation. It is very difficult
to be a part-time trader; I advise against it.
Read More: What Are My Investment Goals, and Are They Realistic?
