If you’ve chosen to make your move in the $6.6 trillion global forex market, you’re clearly joining a busy and bustling international marketplace.
However, the journey from rank amateur to a skilled forex trader is a complex and challenging one, with this borne out by the fact that around 70% of traders in this space lose money overall.
Of course, you can improve your chances of success by following a series of practical steps, from selecting and operating a licensed trading platform to utilising visual charts and indicators that can help to inform your real-time decisions.
It’s also important that you maintain a keen sense of determinism and understand the relationship between risk and reward as a forex trader. We’ll explore this below, while asking whether the practice is right for you.
What are the Risks of Forex Trading?
Perhaps the single biggest risk facing forex traders is ‘exchange rate risk’, which refers to the challenges caused by changes in the value of specific currency pairs.
This is based on the impact of continued and often volatile shifts in the global supply and demand balance in the marketplace, which can affect all open currency positions and trigger disproportionate gains or losses (depending on the size of your leverage).
Another key risk factor is created by changing interest rates, which have a direct impact on real-time exchange rates and the sentiment in the marketplace.
Usually, currency values decline when countries choose to slash their base interest rate, while capital inflows from overseas also decline. Conversely, they rise in line with increasing base rates, which are typically set during times of growth and prosperity.
On a fundamental level, forex traders also face a so-called “credit risk”, which refers to the possibility that outstanding currency positions may not be repaid as agreed in the event of a loss.
How to Manage Such Risks
Of course, these risks are at least partially offset by the benefits of forex trading, with this highly leveraged and liquid market capable of generating huge returns in a short period of time.
Similarly, forex trades have relatively low transaction costs and are executed within a robust regulatory framework, creating increased profits and higher levels of security as a result.
So, the key is to utilise strategies that actively minimise and control your risk, creating a far greater balance between risk and reward and potentially keeping this to a ratio of around 1:3.
One such strategy is to deploy a stop loss (or loss limit) measure, which can be applied to open positions and automatically close them once they’ve incurred a predetermined level of loss.
This ensures that you can cap losses before they begin to escalate, safeguarding your capital without overly compromising your ability to pursue large returns.
You can also minimise your risk by starting out small and scaling your investments over time and in line with profitability while establishing a proactive position limit and restricting the amount of capital that you commit to any single trade or order.