ADVANTAGES OF FOREX TRADING
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The foreign exchange market possesses many positive characteristics that make it very different from all other trading markets:
- Complete Market Access – Since the forex market is open and available for access 24 hours per day, there are no limitations on the time frames when trades can be placed. For most forex brokers, the only exceptions occur during the weekend periods and on major holidays.
- Low Fees/Commissions – The forex market is unregulated so brokerage commissions and fees will vary. The vast majority of the market’s forex brokers will make their money on the mark-up spread placed on each currency pair made available for trading. However, the high level of broker competition in the market helps keep these fees/commissions relatively low.
- Limited Rule Restrictions – The forex market is not subject to most of the strict regulations that characterize stock, options or futures markets. This means there are no governmental bodies controlling the daily activities in the global forex market and no restrictions are placed on short-selling activities in the same way that might be seen in stock markets.
- Attractive Leverage Opportunities – Leverage levels in the forex market are generally far greater than the allowances made in global stock markets. Some countries allow leverage levels of up to 500:1, which means traders can command a position size that is 500x larger than the original cash outlay.
FOREX MARKET CHARACTERISTICS
For investors, the forex market contains additional features that distinctly enhance its potential for trading profitability (when compared to other asset classes):
- Forex traders can profit from changes in the underlying market value of spot exchange rates (which occur almost constantly).
- Forex traders can profit from interest rate differentials that exist between various world currencies (which compound as long as positions are held).
Unlike stock trades, positions that are taken in the forex market have the potential to benefit from interest rate differentials. Specifically, this means traders can sell currencies with low interest rates as a way of funding purchases in currencies with high interest rates. These interest rate payments compound daily (at the close of each market session) and are guaranteed for as long as the interest rate differential remains constant. This forex strategy is widely known as the “carry trade.”
As an example, one carry trading strategy (which was even more popular before the global financial crisis of 2008) involved funding long trades in the British pound or Australian dollar using a short position in the Japanese yen. At the time, the GBP and AUD currencies were both characterized by high interest rate levels while the Bank of Japan was busy enforcing interest rate policy at near-zero levels for several decades.
Establishing long trades in currency pairs like GBP/JPY or AUD/JPY meant capturing high-yielding interest rollover at the close of every market session. Carry trades are still very popular in the forex markets, given their unique ability to guarantee returns outside of the base fluctuations seen in spot prices. For these reasons, most expert forex traders recommend factoring carry value into a long-term strategic approach to the currency market......
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