The global foreign exchange market (forex) is the largest financial market in the world. While it’s a highly liquid marketplace that enables traders to trade currency pairs around the clock, it can be confusing to new participants.
Read on to find out more about how to trade forex.
How to trade forex in Australia
Sign up to a forex or CFD (contract for difference) provider.
Start learning about how forex works, write down a trading plan and, ideally, test your theory with a demo account.
Once you've got your plan, decide what you want to trade.
Place a trade.
Review your position compared to your investment plan.
What is forex trading?
Foreign exchange trading (also known as forex, FX or currency trading) refers to exchanging currency to make a profit on the exchange rate between 2 currencies.
The currency market is constantly moving, with the price of the currency pairs quickly changing. As such, it's an incredibly large and complex market and involves many different players – both institutional and individual.
A forex trader can make money by taking advantage of this rise and fall in currency rates. While there is a lot of potential in forex for making money, there is also a lot of potential for losing money.
When talking about forex trading for individual traders, most people are referring to a set of instruments that are traded on the retail forex market. These instruments allow people to profit from currency movements without actually owning or holding foreign currency at any stage of the transaction.
In Australia, forex trading is typically only available to wholesale/institutional investors. So, retail traders generally use CFD brokers when they are trading forex.
Many of these brokers offer technical analysis charts and trade bots.
Regardless of how you trade forex, it is important to know it's incredibly risky, with Australian Securities & Investments Commission (ASIC) pointing out that 3 in 4 Aussie investors lose money.
Fast-paced. Currencies are traded 24 hours a day, 5 days a week. This is because when the market closes in one country, it opens in another.
Extremely big. The forex market dwarfs the stock market in terms of the sheer value of trades being made. Figures change constantly, but the forex market typically sees trillions of dollars of trades being made every day.
Decentralised. There is no actual forex marketplace that trades run through like there is with share trading. Instead, buyers and sellers make direct over-the-counter deals with each other.
High liquidity. Liquidity refers to how easily an investment can be bought and sold without its value being affected and how easily it may be exchanged for other assets. Currency, because it is actual money, is the asset with the highest liquidity. This means that you don’t necessarily have to accept a loss if you can’t find a buyer quickly, you don’t have to worry about your trades impacting market values and, in a pinch, you can convert your assets (currency) into Australian dollars without losing as much value.
Finder survey: What type of forex pairs do Australians trade the most?
Response
Majors
60.61%
Minors
36.36%
Exotics
3.03%
Source: Finder survey by Pure Profile of 1145 Australians, December 2023
The forex market appeal
Over the last decade or so, forex has become increasingly attractive to retail investors.
In the past, only large corporate institutions and banking houses could participate in the forex market, but with more brokers coming to the market, individual investors are also trying their hand at investing.
One of the reasons it has become more appealing than other investments such as the stock market is the opportunity to gain a higher return. While currencies only move a few percentage points in a given day, since you are trading on the margins with leverage, there's an opportunity for outsized returns.
It needs to be highlighted that this opportunity comes with more risk. If your strategy backfires, you will also experience extensive losses.
The second reason it appeals to traders is because of its timing. The market is open 24 hours a day, 5 days a week, so you can trade pretty much at any time.
Finally, investors are drawn to forex markets due to the sheer size of the market. The forex market has a daily turnover of $5 trillion. Australia's ASX is worth $2.3 trillion, with a daily turnover of around $4.5 billion.
Why does the forex market matter?
The forex market is actually incredibly important to everyday life.
It is the backbone of international trade and global investing. By determining the day-to-day value of each currency, it allows businesses to trade between countries through imports and exports.
One way you might've interacted with the forex market is through travelling.
If you were in Europe, for example, and were looking to trade Australian dollars for euros at a kiosk or bank, the number of euros you could buy would be determined by the forex rate. It is the same principle when you shop online with an overseas vendor or when businesses interact with each other.
When it comes to investing, traders can use the forex market. While it is incredibly risky, investors who want international diversification benefits can trade currencies.
How does forex trading work?
Forex trades always involve 2 currencies, which are known as currency pairs. Some examples of currency pairs are set out below:
The first currency in the currency pair is the base currency. The second currency is the quote currency and indicates how much of that currency is required to buy 1 unit of the base currency. In a forex transaction, the investor is understood to be exchanging one currency for another.
Rather than physically exchanging the two, traders lodge a "buy" or "sell" order with a broker. Forex brokers are basically intermediaries who facilitate trade by accepting either buy or sell orders on a range of currency pairs.
If the trader lodges a "buy" order, they’re understood to be buying the base currency and simultaneously selling an equivalent amount of the quote currency. If they’re lodging a "sell" order, they’re understood to be selling the base currency and buying an equivalent amount of the quote currency.
Once the exchange rate moves, the trader ends the trade (or "closes out their position") by entering into an opposite transaction to the one they initially lodged. So if they initially lodged a "buy" order for the currency pair, they’ll now lodge a "sell" order, which reconciles the arrangement with the broker and ends the trade.
You can profit based on the differences in values compared with the currencies.
If you have a buy order, you make your money on the difference in exchange value. You need the currency you bought to go up against its pair. If you have a sell order (short-sell), you're looking for the price of the base currency to fall. Because the exchange rate has fallen, you can now buy it for less of the quote currency than you initially used to buy the base currency. Once again, you pocket the difference. If you have sold, you're looking for the price of the base currency to fall. Because the exchange rate has fallen, you can now buy it for less of the quote currency than you initially bought. Once again, you pocket the difference.
Why do investors use leverage?
In order to maximise profits in forex, investors will often trade using leverage.
This is because the movements in currency values tend to be quite small. Usually, a large initial investment is required to realise any gains from forex investments.
So in order to increase returns, traders often use leverage, also known as buying on margin. This involves opening a margin account where you contribute a fraction of the total amount of the trade and the broker contributes the rest.
Margin trading means that significant profits can be realised from relatively low up-front investments. Equally, leveraged agreements between investor and broker mean any losses are magnified too.
Example: You have $2,500 to invest in a currency pair
You're feeling good about the odds, so you decide you want to use leverage to magnify your potential earnings and get another $2,500 from your broker. Now you can invest $5,000 in total.
If your forex investment goes up in value and is now worth 10% more, a $2,500 investment (without leverage) would net you a $250 profit. A $5,000 investment (with leverage) would get you a $500 profit.
If the forex investment goes down in value, then your losses are also magnified. If your margin account drops below a certain value, your broker may require you to put more funds into it or may close it and extract the remaining funds to cover the loss.
When is the forex market open?
The forex market is open 24 hours a day, 5 days a week due to the international time zones. If you are based in Australia, you can trade from Monday 8am through to Saturday 8am (AEST).
When it comes to trading, the market is broken up into 3 main locations:
Tokyo (Asian session)
London (European session)
New York (North American session)
What are the risks of forex trading?
Forex trading is actually incredibly risky and investors should understand that even small movements in currency can see them lose a lot of money. Not only do you have the potential of losing money, but even the most experienced traders find it difficult to predict market movements.
Some of the main risks include the following:
"The only way a smart person can go broke is leverage." Paraphrasing the great Warren Buffet, the famed investor points out the risks with leverage. Trading the FX markets often comes with leverage, which both helps you on the upside and significantly punishes you on the downside.
Small movements have a large impact on your position. Because of leverage, it doesn't take a drastic change in currency to have a major impact on your portfolio.
Incredibly hard to predict. Seasoned professionals struggle to predict which way the market is going.
Volatility. Exchange markets are often incredibly volatile over a short period.
Strategies to manage risks in forex trading
While you can't completely offset the risks you will face as a trader, you can mitigate them:
Test your strategy out with a demo account. Many providers will let you start out with a demo account. You should take advantage of this to see how your strategy works prior to investing any of your money.
Have a trading plan. To help take the emotions out of trading, have a plan. The plan should help you understand what to trade, when to trade it and how much you can afford to lose. Some will use a trading diary and record what happened in the past when they traded to better inform future decisions.
Use stops and limits. To mitigate losses, you should set entry and exit positions before you enter a trade. Most brokers will have features such as normal stops, guaranteed stops, trailing stops or limit orders to help you exit your position should things go wrong.
Set realistic expectations. Trying to double your money in a month will mean you need to take excessive risks. Instead, you should have realistic and well-thought-out expectations, which should help inform your investment decisions.
When in doubt, don't trade. You don't have to trade. If you are unsure, you can simply sit out.
(You minimise losses) via a stop loss order placed in the market... Many traders refrain from using a stop loss due to a reluctance to take a small loss, but losing trades is a part of trading, as are winning trades.
After deciding to trade in the forex market, you need to open a margin account with an initial deposit. The size of the initial deposit depends on the amount of leverage that’s been agreed upon with the broker, often expressed as a ratio. For example, the leverage ratio may be 50:1, 100:1 or 200:1.
The leverage ratio indicates the percentage you must have available as cash in the account. For an account with a 100:1 leverage ratio, you need to have a cash deposit of 1% of the total invested amount. Most trades are done on 100,000 units of currency, so if you want to trade $100,000, you would need to have a $1,000 deposit.
Example: Trade EUR/AUD
Michael has AUD$1,500 to invest in the forex market. He decides to trade the currency pair EUR/AUD, which is currently trading at 1.25 (hypothetically). This means that 1 euro buys 1.25 Australian dollars. Michael does some research and believes the euro will rise even more, relative to the Australian dollar.
He opens a margin account with a forex broker offering a 1:100 leverage ratio. This means Michael can borrow up to 100 times the amount of his initial deposit of AUD$1,500. This also increases his profit potential up to 100 times. At the exchange rate of 1.25, Michael exchanges all of his AUD$150,000 and purchases EUR€120,000.
Michael is correct in his assumption. The euro strengthens against the Australian dollar. It's now trading at 1.26. He exchanges his EUR€120,000 back into AUD, except now it's worth AUD$151,200. As a result, Michael now has AUD$2,200 in his trading account after returning the loan ($149,000) to the broker. Taking into account his initial deposit of $1,500, this is a profit of $700.
Deciding your forex trading strategy: Short-term vs long-term forex trading
As with other forms of trading, there are various strategies available to forex investors when they trade. Short-term strategies involve buying and selling currencies over shorter time frames. A few different approaches are common within this strategy.
Day trading. The aim of day trading is to repeatedly buy and sell currency pairs over the course of 1 day to realise many smaller gains. This has the advantage of minimising risk, as the potential losses from any single trade are less pronounced. Also, investors who employ this strategy don't need to monitor their investments overnight, as all trades are typically closed out at the day's end.
Scalping. This is a more extreme version of short-term trading. Scalping refers to the practice of holding currencies for very short intervals to realise small incremental increases (known as "pips") in the value of those currencies.
With a long-term forex trading strategy, investors are banking on a gradual upward trend in the value of one currency against another. They hold their currency pair over a long time and ignore any intra-day or intra-week volatility. This has the advantage of necessitating fewer transactions. A level of patience is required to enable the trader to weather daily fluctuations in the value of their currency holdings.
Compare online forex brokers
Compare Australian ASIC regulated forex brokers to find one that meets your trading level and needs.
Disclaimer: General information only. All forms of investments (and in particular, trading CFDs, commodities and forex) carry significant risk, including the risk of losing more than the invested amounts, market volatility and liquidity risks. Past performance is no guarantee of future results. Such activities are not suitable for most investors.
Trading CFDs and forex on leverage is high-risk and you could lose more than your initial investment. It may not be suitable for every investor. Refer to the provider’s PDS and consider the risks before trading.
How do currency pairs work?
All forex trades involve simultaneously buying a currency and selling another. These are known as currency pairs. Think of each currency pair as a different individual product that is bought and sold. The first currency listed is known as the base currency, while the second is the quote currency.
Example: AUD/USD = 0.73
The Australian dollar (AUD) is the base currency and the US dollar (USD) is the quote currency.
When you buy a currency pair, you are buying the base currency and implicitly selling the quote currency. The opposite applies when selling a currency pair, where you are selling the base currency and implicitly buying the quote currency.
Example: AUD/USD = 0.73
If you buy this currency pair, you are buying Australian dollars at a rate of 73 US cents per Australian dollar.
If the Australian dollar goes up in value relative to the US dollar between when you buy this currency pair and when you sell it, you will have made a net profit.
The bid is the buying price. It refers to how much of the quote currency you need to buy 1 of the base currency. The ask is the selling price and it refers to how much of the base currency you will need to sell to get 1 of the quote currency.
Example: AUD/USD = 0.73
The bid would be 0.73 because you need 73 US cents to buy 1 Australian dollar.
The ask would be 1.36 because you need to sell $1.36 Australian dollars to get 1 US dollar.
There are as many currency pairs as there are currencies. Just because you’re in Australia doesn’t mean you have to trade Australian currencies. For example, you might buy the currency pair of euros and Japanese yen (EUR/JPY = 129.49). But remember, the key to actually making money with forex trading is to have an understanding of how currency values are likely to change.
If you aren’t following shifts in both the euro and the Japanese yen, then that particular trade may not be a good idea.
Tips for getting started
Start with 1 currency pair. You can trade in any currency pair. However, tracking the movements of multiple currencies can be difficult. It's usually best to focus on 1 currency pair to start with.
Choose your broker wisely. Consider which type of broker is appropriate for your situation. Many consumer banks and investment banks offer a forex brokerage service. Recently, more discount online brokers have started to appear, many of which are based overseas. Look closely at your options and the pros and cons of each.
Have a strategy. Decide on your trading strategy. Make sure you have an appetite for conducting the analysis you need to confidently manage your trades.
Try a demo account. Take advantage of a demo account. Many online forex traders offer demo or practice accounts to provide you with the experience of making trades without needing to invest actual cash.
Benefits of forex trading compared to other asset classes
Forex presents some distinct advantages over other asset classes:
24-hour trade. Unlike most global exchanges, forex markets are open 24 hours a day, 5 days a week. This makes them an attractive option for part-time traders.
Safety in numbers. The highly leveraged nature of forex trades arguably makes them a risky proposition. However, some argue that the market is a safer trading environment than others. The sheer size of the market makes it harder for single players to have undue influence, so it’s less prone to manipulation.
Liquidity. The forex market is the most liquid of all financial markets. Because millions of transactions occur within the market each day, it’s generally easy to buy and sell currency as you wish.
The key to making smart trades is to understand the market. With forex, that means understanding the international currency market and foreign exchange rates. It’s important to keep up with the news and keep an eye out for factors that may affect currency values, like strong economic growth, natural disasters or political strife.
The 2 currencies involved in a forex transaction. When you trade forex, you are understood to be exchanging one currency for another.
Base currency
The first currency quoted in a currency pair.
Quote currency
The second currency in a currency pair. The quote currency is always shown in the amount required to buy 1 unit of the base currency.
Pip
A “point in percentage”, or a fraction of a single unit of currency. It’s usually 0.0001 of a single unit, though this varies from currency to currency.
Bid
The amount the forex market is prepared to pay for your currency pair. If you purchased a particular currency pair, this would be the price to be mindful of.
Ask
The amount at which the forex market is ready to sell a particular currency pair.
Spread
The difference between the bid and the ask price of a particular currency.
Stop order
A price point you can set, which needs to be exceeded before any trades are executed. Essentially, it’s a directive you can issue to start buying or selling a particular currency pair once it reaches a certain price.
Limit order
An order that sets the maximum or minimum price at which you are prepared to buy or sell a particular currency pair.
Important information: Powered by Finder.com.au. This information is general in nature and is no substitute for professional advice. It does not take into account your personal situation. This information should not be interpreted as an endorsement of futures, stocks, ETFs, CFDs, options or any specific provider, service or offering. It should not be relied upon as investment advice or construed as providing recommendations of any kind. Futures, stocks, ETFs and options trading involves substantial risk of loss and therefore are not appropriate for most investors. You do not own or have any interest in the underlying asset. Capital is at risk, including the risk of losing more than the amount originally put in, market volatility and liquidity risks. Past performance is no guarantee of future results. Tax on profits may apply. Consider the Product Disclosure Statement and Target Market Determination for the product on the provider's website. Consider your own circumstances, including whether you can afford to take the high risk of losing your money and possess the relevant experience and knowledge. We recommend that you obtain independent advice from a suitably licensed financial advisor before making any trades.
Gabi Byrnes is the Group Publisher for Banking & Wealth. She's a veteran of the digital media marketing industry, having worked within Ericsson's Broadcast and Media Services portfolio, and most recently at Mumbrella. She loves linking people to the right products and services to suit their financial goals. Gabi holds a Diploma in Financial Planning, and is RG146-accredited to provide advice in general insurance and basic deposit products.
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