Forex is a highly decentralised market where global currencies are traded 24 hours a day. For some, it is simply an avenue or mechanism to change one currency into another.
Multinational corporations undertaking businesses in various countries, people travelling from one country to another for work or pleasure, etc. are some of the people who use forex for currency conversion. However, traders who bet on movements of currencies in relation to one another also occupy the forex market.
So, forex market is a place where individuals are represented by brokers, deals happen between brokers and banks as well as between banks. It is one of the most liquid and is a highly volatile market. Although it means a higher degree of risk, more and more people are looking to investing in forex trading.
If you are willing to take some risk and have funds that you can spare, it might be a good idea to invest in currencies. Here are some ways you can participate in forex trading as a retail investor.
Key Points To Note
- Currency trading is exceptionally popular because of its liquidity.
- There is no imposition of any margin limits or constraints on currency traders like the ones imposed by the Securities and Exchange Commission (SEC) on security traders. It means forex traders are free to make heavily leveraged trades.
- The most common way to invest in currencies is trading currencies in the forex. However, investors can use other options such as investment in ETFs, corporations, and so on.
- Investing in currencies carry a high risk, mainly due to the volatile nature of the global economy.
Once you understand these key points, you can proceed to the first step of investing in currencies – opening a forex trading account.
5 Ways to Start Investing in Currencies:
Forex Trading Account
You must open a forex trading account before you can trade in currencies. For this, you open an account with a forex broker. There are different kinds of accounts. You can choose one that suits your need. A standard forex trading account is preferable if you are intending to invest in currencies for a long time. A standard account will allow you to trade in large and small quantities as required.
One important point to remember is that the forex market operates in an entirely different fashion compared to the stock market. Some key points to bear in mind are:
- Currencies are always traded in pairs—you are speculating one will go up (long) and the other will go down (short).
- There are no regulated currency exchanges or central clearing house for currency trades
- There aren’t any uptick rules for taking short positions
- There is no upper limit to the size of your position
- Currency dealers usually make money on the bid-ask spread, and rarely by charging commissions
CDs & Savings Accounts
Banks offer a certificate of deposit (CD) that pays interest at local rates in particular countries, as well as a basket CD that comprises a mix of various currencies. They also offer a foreign currency account that operates like a money market account that permits the transfer of money between various major currencies.
Although the CDs are subject to exchange rate fluctuations, they offer a higher interest rate than the dollar-denominated CDs. At the time of maturation, a CD will earn you fewer dollars than your actual investment in the event of the dollar strengthening against the foreign currency. In the US, agencies like FDIC insurance will protect you against bank insolvency, but not against currency risks.
Foreign bond funds
Another way to invest in currencies is through foreign bond funds. Several mutual funds invest in foreign government bonds that earn specified interest in foreign currency. If the value of the foreign currency goes up relative to your home currency, the interest earned increases when you convert the investment back to your home currency.
This is yet another path you can choose for investing in currencies. Most stockholders indirectly become a part of the foreign currency markets through their ownership in companies engaged in significant foreign business. For example, some of the popular American companies with considerable overseas business are Coca-Cola, McDonald's, IBM, and Walmart, among others.
The incomes and gains obtained from overseas operations increase if the foreign currency appreciates versus your home currency. This is because the revenues are converted back into your home currency for financial reporting, and a stronger foreign currency will yield more returns in exchange.
ETFs and ETNs
This is one of the five ways to invest in currencies if you are a retail investor. It is possible to trade Exchange-traded funds (ETFs) and exchange-traded notes (ETNs) like stocks. This makes them an excellent choice to invest in currencies without requiring trading in the forex market. Most brokerages will allow you to buy currency ETFs if you open a standard investing account with them.
ETNs are more like corporate bonds than a collection of stocks, and they tend to enjoy a similar exposure to the currency market as the ETFs. You can trade the ETFs and common currency ETNs on the same exchange.
Although there are several risks associated with currency trade, one definite advantage is the fact that the forex market is essentially a level playing field.
The volatility of the global economy makes currency trading a bit risky. But the fact that the forex market works round the clock and the internet and other modern communication technologies offer information on fingertips to mitigate the risk to some extent.
As this information is available even to small investors, it offers no undue advantage to anyone. Furthermore, currencies offer some sort of diversification for those who invest mainly in securities.
All said and done, only a fool would get into forex trading blindfold. The best ways to go about is testing the waters and then launch your vessel. For this, you can open a trading account with any of the reliable forex brokers and familiarise yourself with the tricks of the trade.
Most service providers offer a demo account that can be used to learn the trade by taking baby steps.
It is possible to learn at your own pace with small amounts and step-by-step learning. Demo accounts are excellent means to understand forex trading performance, the process, the platform, and the practices at no extra cost or risk. As one of the most critical rules of investing in forex says - never invest money you cannot afford to lose.
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