What is a Forex account?
You can apply to open a Forex account with many different brokers. Accounts can be denominated in different currencies. It would be normal to have your account in the same currency as you use day to day. Once your account has been opened, you deposit your trading funds into this account. This video follows “What is Forex” and uses terminology introduced by that video. A link to “What is Forex”.
Having deposited funds into your account, you’ll buy and sell currencies to profit from the movement in exchange rates. The account currency is not significant in this process. As an example, my trading funds are held in British pounds. But I can trade any currency pair offered by my broker and I don’t have to do anything special. Currency is purchased in lots. One lot is 100,000 units of the base currency, which is the first named currency. For example, buying 1 lot of Eurodollar means buying 100,000 Euros, as Euros are the base currency.
As you’ve already seen in “What is Forex”, leverage determines the deposit. Leverage of 100:1, means you’d need a deposit of €1 for every €100 you purchase. Forex accounts are given names. A standard account trades with a minimum trade of 1 lot, or 100,000 of the base currency. Mini accounts are where many traders start. The minimum trade size is a tenth of a lot, or 10,000 units of the base currency.
With leverage, this means trading smaller amounts with correspondingly smaller deposits. The trade size increment is often 1,000 of the base currency. So you could trade 10, 11, or 12 thousand units of the base currency. Micro accounts are great for traders with limited trading funds. The smallest trade size on a micro account is a hundredth of a lot, or 1,000 units of the base currency with increments of 1,000. In practice, with leverage as high as 500:1, a £1,000 trade can be taken with a £2 deposit. Let’s work through an example. I’ve deposited £10,000 into a Forex Mini account. Suppose I’m trading Eurodollar and I believe the exchange rate is going to rise. The broker shows me the prices at which I can buy and sell this currency, buy at 1.2520 and sell at 1.2518. The price has just moved, which normally happens when you are preparing to trade. I’m going long on Eurodollar, which means buying the currency. The amount you trade is determined by the process called trade sizing.
The calculation is a bit of fun, with 10,000 British pounds, wanting to buy Euros using US Dollars, without taking on too much risk. Delegates on Plan B’s Trading 101 training course receive an Excel spread sheet which shows exactly how much to purchase. I input the price at which I am going to buy the currency and keep my risk to just 1% of my capital, or £100. At the current exchange rate, where £1 is $1.5820, the spread sheet suggests I buy 0.79 lots. As I buy the currency, my position is shown along with the original purchase price, 1.2521. The current price is shown, 1.2519, which is the price I would receive for these Euros if I sold them now. A running profit and loss is shown too. I’m currently down 2 pips. With 79,000 Euros, this translates back to £9.98. Let’s watch this as the price changes.
Notice as the price increases, my P&L position improves. Now the price has moved 2 pips, I’m breaking even. Each pip of price movement is worth £4.99 at this trade size. As the price continues to move in my favour, the profit on the transaction grows. The price has moved 7 pips above my entry price now. The running P&L total is shown in pounds sterling, my account currency. The transaction has reached my target of 20 pips profit.
I’ll close the trade now and bank the profit. 20 pips of price movement didn’t take long in this video. There will be times when the market is even quicker than this video. Let’s run through the trade. When I closed the trade, there was 20 pips of profit, the price having risen in my favour as I’d bought the currency. This adds up to £99.87, as I bought 79,000 Euros. Had I bought more, my profit would have been higher. If you really want to do the maths, it goes along these lines. Buying €79,000 required $98,915.90 US Dollars on opening the trade.
Closing the trade and selling €79,000 created a sum of $99,073.90 US Dollars. The difference between the two leaves a profit of $158. The profit is exchanged into the account currency of British pounds at the current exchange rate of 1.5820, which means a profit of 99.87 British pounds. This trade is the equivalent trade to the one in the video “What is spread betting”, which means you can compare spread betting and Forex accounts.
It is possible to make losses in a Forex account when prices move against you. You need to understand risk management fully, plus the use of stop losses and targets. It’s not just when prices are rising that you can make a profit, you can profit just as easily from falling prices by short selling.