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IMPORTANT
WARNING:
The contents of this report have been compiled in good
faith by Investorsoffshore.com to provide assistance
to investors, but do not constitute investment advice
or recommendations. Investors should not rely upon the
information given in order to choose types or routes
of investment but should make their own independent
enquiries before making choices. Investorsoffshore.com
has taken reasonable care in researching and presenting
the information herein but makes no representations
as to its accuracy and accepts no liability for actions
taken or not taken as a result.
In an increasing
variety of markets, ranging from spread-betting on stocks
and shares to more exotic futures and derivative markets,
internet technology has made it possible for a growing
number of day traders situated around the globe to bet
on the markets via online platforms from the comfort
of their own home or office. Even the previously off-limits
currency markets, which will be explored in this article,
can now be traded online by the individual investor,
and there is a growing list of banks, brokers and specialist
firms offering these services.
Until
relatively recently the foreign exchange market was
strictly the preserve of institutional investors and
hedge funds. Large minimum transaction sizes and stringent
financial requirements dictated that only the largest
and most capitalised investors could make bets on the
direction of the world's currencies. However, in order
to make any meaningful profits from these 'over the
counter' currency bets, traders and money managers would
frequently have to place positions the equivalent of
millions of dollars, putting the world of forex trading
way out of the reach of individual investors unless
they invested through a currency fund.
But
all that began to change when the internet revolution
of the late 1990s swept through the financial markets
and radically altered the way in which trades were executed
in most markets. When placing a trade on a company's
share or on a futures contract became as simple as a
couple of clicks on the mouse, suddenly, the traditional
broker/client relationship was no longer a pre-requisite
and some of the barriers that prevented many investors
from taking part in the financial markets began to tumble.
This
has had something of a democratising effect on the financial
markets, and in the years that have followed a plethora
of banks and brokerages have extended the range of their
services to a new market by packaging up their online
trading systems for the retail market, enabling the
more modest investor to trade from their own computer
screen - even on the previously out-of-reach currency
markets.
By
offering clients high levels of leverage the banks and
brokers give the small foreign exchange trader the opportunity
to make some impressive gains for relatively little
outlay. Of course, it also gives them a chance to make
some pretty impressive losses. Therefore, any foreign
exchange virgins who are considering making their next
fortune via an online trading platform must understand
the implications of leverage and the risks associated
with these types of margin account.
Whilst
leverage ratios can vary, typically brokers offer levels
of anything up to 100:1, (far in excess of the leverage
even the most experienced institutional investment managers
are permitted) enabling traders to buy or sell foreign
currencies in 'lots' of US$100,000, (or whatever the
base currency of the trade happens to be). It means
that the trader only has to put down $1,000 as margin
to control $100,000 in the market place. The rest is
effectively borrowed from the broker or market maker.
Without this degree of leverage, it would be almost
impossible for smaller traders to make any worthwhile
gains in the currency markets.
So,
by way of illustration, suppose a trader anticipates
a rise in the US dollar against the Swiss Franc and
buys 1 'lot' ($100,000) of USD/CHF at 1.2950 (thus controlling
CHF129,500.) As expected, the USD/CHF rate rises to
1.3050, meaning the trader now controls CHF130,500 so
the trade is closed out with a profit of CHF1,000. When
converted back into dollars by dividing this profit
with the rate at which the position is closed, the trader
has realised a gain of $766.
Until recently many trading firms have required that
clients maintain a minimum balance of $10,000 in their
accounts to ensure adequate protection against sudden
swings, putting forex trading out of the reach of those
without HNWI status. However, it is now common for clients
to open trading accounts with many firms for as little
as $500, although minimum opening balances of $250 are
not unheard of. For these 'mini' accounts, smaller lot
sizes of $10,000 have been created, and leverage ratios
are often as high as 200:1. Many firms consider such
products are too risky to offer.
In
spite of the inherent risks of the foreign exchange
trading, one of the major bonuses of currency trading
is the sheer volume and liquidity of the market place.
It is estimated that the average daily volume of transactions
in the global currency markets is in the order of $1.5
trillion. Therefore, in theory, traders should face
little difficulty having their trades filled at their
desired price. Also, the vast majority of online forex
platforms offer commission-free trading, although bid/offer
spreads may be somewhat wider than the big players are
used to getting.
The
trading interfaces themselves are not so different to
those used by money managers, and the live prices displayed
on the client's user interface are said to be the same
as those shown on the terminals of professional currency
traders. The systems also enable users to place a variety
of different market orders that are standard in the
industry, such as stop losses (advisable in the often
volatile currency markets) and limit orders.
Most
trading platforms are also packed with a variety of
other features to help the trader formulate his or her
strategy, including charts with basic technical analysis
features, live news feeds and reporting tools permitting
the user to analyse trading performance. Many firms
have also incorporated chat rooms into their platforms
enabling one to share tips and experiences with fellow
traders or seek advice from a company broker or expert.
While
the currency markets have the potential to make traders
quick and substantial profits they can be a high risk
financial instrument. An increasing level of regulatory
supervision of the financial markets designed to prevent
the mis-selling of unsuitable investment products means
that opening an online trading account will require
at least some degree of investment experience. This
ranges from about six months upwards, although accounts
aimed at the HNWI will often stipulate a minimum of
two years' trading experience. Money laundering and
fraud regulations also make it necessary for providers
to ask for proof of identity, most commonly a passport.
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