It can be challenging for beginners to trade forex. There is generally an unrealistic expectation among newcomers to this market, but this is true in general. We find many of the basic principles overlapping whether we are discussing Forex trading or share trading for beginners. Here, we will concentrate on Forex trading for beginners. The same terms, strategies, and principles also apply to share trading.

After completing this tutorial, you will be familiar with all of the most important Forex terms, so you won't be confused at any point during the learning process. 

Ready? Let's begin!

What Is Forex Trading?

The concept of forex trading is similar to the process of exchanging currency while traveling overseas: A trader will buy one currency and sell another, and the exchange rate will fluctuate constantly based on supply and demand.

Currency exchange takes place on the foreign exchange market, an international marketplace opens 24 hours a day, seven days a week. Since forex transactions are made over the counter ( OTC ), there is no physical market for currency exchange (like there is for stocks), and the market is regulated by a global network of banks and financial institutions (instead of central exchange, like New York Stock Exchange).

Traders who work for banks, fund managers, and multinational companies make up the vast majority of the forex market's trade activity. They may be simply speculating upon future exchange rates or hedging against them. These traders do not necessarily intend to take physical possession of the currencies themselves.

For instance, Forex traders may be inclined to buy US dollars (and sell euros) if they believe the dollar will gain in value, allowing them to buy more euros in the future. Meanwhile, a US company with European operations could use the forex market as a hedge against the weakening euro, which would result in lower-income .

Buying and Selling Currencies

The three-letter code assigned to every currency is much like the ticker symbol assigned to a stock. While there are over 170 currencies in the world, the US dollar is involved in the majority of forex trades, so you should be familiar with its code: USD . Euro, accepted by 19 countries in the European Union (code: EUR ), is the second most popular currency on the forex market.

Following the Japanese yen, the pound, the Canadian dollar, the Swiss franc, and the New Zealand dollar are the other major currencies.

The forex market is based on the combination of the two exchanged currencies. Around 75% of the forex market's trading is carried out on the following currency pairs, referred to as the majors:

  • EUR / USD
  • USD / JPY
  • GBP / USD
  • AUD / USD
  • USD / CAD
  • USD / CHF
  • NZD / USD

How Forex Trades Are Quoted?

Current exchange rates for both currencies are represented by each currency pair. In an example, we will use EUR / USD, or the euro-to-dollar exchange rate, to illustrate how that information should be interpreted:

  • It is the euro (the base currency) on the left.
  • The US dollar, on the right, is the quote currency.
  • The exchange rate indicates how many units of the quote currency must be exchanged for 1 unit of the base currency. Accordingly, the base currency is always expressed as 1 unit, while the quote currency varies according to market conditions and how much is needed to buy 1 unit of the base currency.
  • With a EUR / USD exchange rate of 1.2, € 1 would buy $ 1.20 (or, to put it another way, $ 1.20 would acquire € 1).
  • A rising exchange rate implies that the base currency is worth more compared to the quoted currency (since € 1 can buy more US dollars), and a falling exchange rate indicates the base currency is worthless.

A quick note: There is a historic convention for how some currency pairs are expressed, but typically the base currency comes first followed by the quote currency. In the case of USD to EUR conversions, they're listed as EUR / USD, rather than USD / EUR.

What drives the Forex market?

Currency prices are determined by the supply and demand of buyers and sellers such as any other market. This market can also be influenced by other macro factors. A country's political environment, interest rates, central bank policy, economic growth speeds, and the pace of economic growth may influence the demand for particular currencies.

Since the forex market is open 24/7, forex traders have the opportunity to react to the news that may not impact the stock market for several days. Currency traders need to be aware of the dynamics that could cause sharp spikes in currencies because so much of currency trading is based on speculation or hedging.

Three Ways to Trade Forex

Forex traders aren't designed to exchange currencies (as you might at a currency exchange while you're traveling) but to speculate on price changes, similar to stock traders. Currency traders, like stock traders, aim to purchase currencies that they believe will rise in value in relation to other currencies or to sell currencies that they believe will fall in value.

In order to accommodate traders with varying goals, there are three ways to trade forex:

  • The spot market. There are major currency pairs that are traded on this forex market, and the rate of exchange is determined in real-time based on supply and demand.
  • The forward market. Forex traders have the option of entering into binding contracts with another trader and locking in an exchange rate for an agreed-upon amount of currency in the future instead of executing a trade now.
  • The futures market. The traders can also opt for a standardized contract that stipulates the amount of a currency they are willing to buy or sell at a predetermined rate at a future date. A market like this is exchange-based rather than privately held, like the forward market.

Most forex traders use the forward and futures markets in order to speculate or hedge against changes in currency prices in the future. During these markets, exchange rates are determined by what happens in the spot market, the largest forex market, where the majority of forex trades take place.

Forex Terms to Know

There is a language-specific to each market. Before engaging in forex trading, be aware of these words:

  • Currency pair. A currency pair is at the heart of every forex trade. Other than the majors and exotics (which are currencies of developing countries) there are also less common trades.
  • Bid-ask spread. Exchange rates are determined as with other assets (such as stocks) by the maximum level at which buyers are willing to pay for a currency (the bid) and the minimal level at which sellers are willing to sell (the ask). The point where these two amounts differ from the value at which the trade will ultimately be executed is the bid-ask spread.
  • Pip. The smallest possible price change inside a currency pair is known as a pip, which stands for percentage in points. The value of one pip in forex is equal to 0.00001 since forex prices are quoted to at least four decimal places.
  • Lot. There is a standardized unit of currency used to trade forex, called a lot. There are also micro (1,001) and mini (10,001) lots available for trading. The typical lot size is 100,000 pieces of currency, however, there are also micro and mini lots.
  • Leverage. Many traders are unwilling to risk such a large amount of money to execute trades because of the large lot sizes. The forex market uses leverage to enable traders to participate without having to use as much money as they would normally need.
  • Margin. Leverage is not free. Traders need to deposit some money upfront as a deposit - or margin.

What are the risks of Forex Trading?

The risks of forex trading are higher than those of trading other assets since it requires leverage and traders use margin. To earn money, traders must execute large trades (using leverage) because currency prices fluctuate constantly, but in very small amounts.

A trader can magnify profits when they win a bet with this leverage. Nevertheless, it may also magnify losses, causing them to exceed the sum borrowed initially. In addition, leverage users who use borrowed funds are vulnerable to margin calls if the value of the currency falls too much, forcing them to sell their securities at a loss. The cost of a transaction can also eat away at a profitable trade in addition to possible losses.

In addition to all that, keep in mind that currency traders are relatively small fish in a pond full of skilled and experienced professionals, and the Securities and Exchange Commission warns about possible fraud or information that might confuse new traders.

Individual investors may be unaccustomed to forex trading, so perhaps that's a good thing. Several major online brokers don't even offer forex trading, according to DailyForex data . Retail trading represents just 5.5% of the total global market, the website shows. More to the point, there are relatively few retailers who participate in forex trading, and most of them struggle to earn a profit. Almost seven out of ten retail FX traders lose money, according to CompareForexBrokers . This is why it is best to leave forex trading to professionals.

Why Forex Trading Matters for Average Consumers?

The forex market may not be a place for the average investor to dabble, but it does affect us all. Our travel abroad costs and export payments will be affected by real-time activity on the spot market.

When the US dollar strengthens against the euro, for example, it will be cheaper to travel abroad (your US dollars will purchase more euros) and to buy imported goods (things like cars and clothes). When the dollar weakens, foreign travel and imports become more expensive (but there will be a benefit for firms that export products abroad).

You should keep an eye on the forex rates that are set by the forex market when you are planning to buy an imported item or travel outside the US

In Conclusion: Is Forex good for beginners? 

Well, it could be good for you as a beginner if you have all the knowledge stored and also are okay with a little loss and small failures. As we mentioned earlier, trading Forex entails a variety of risks. So, here are some tips for beginners:

  1. Leverage Risk. It is possible to use leverage in your trading in both a positive and a negative way. The more leverage you use, the bigger your gains or losses will be.
  2. Interest Rate Risk. An increase in the interest rate of a country can boost its currency. Due to a stronger currency, investors made more money in that country's money markets, contributing to the currency's strength. If interest rates fall, however, the currency may weaken, so investors may pull their money out of the market.
  3. Transaction Risk. There is a risk associated with exchange rate changes that can be attributed to the differences in time zones. Exchange rate fluctuations can occur anywhere between the beginning and end of the contract. While trade is settling, there is a possibility of exchange rates changing during the 24-hour period. The longer the time gap between entering into a contract and settling it, the greater the transaction risk.