Forex Trading Explained: A Beginner’s Guide

Have you ever exchanged your currency for the local currency while travelling abroad? That simple act is one of the most basic forms of forex trading. Forex – short for foreign exchange but also commonly referred to as “FX” – is the trading of one fiat currency for another.

In the forex market, currencies are traded in pairs which can be categorised into major, minor, and exotic forex pairs. Major pairs consist of currencies from leading global economies, like GBP/USD, while Minor pairs involve currencies from smaller economies, and exotic pairs involve currencies from emerging economies. In the example of GBP/USD, GBP is the "base currency" and USD is the "quote currency". So, the FX rate shows how much of the quote currency is needed to buy one unit of the base currency.

What if we said it was possible to begin trading forex multiple times a day and take small, consistent profits from the forex market? Read on to discover the basics of forex trading and how to become a retail forex trader yourself.

What Is Forex Trading?

Forex trading is the simple conversion of one fiat currency into another with the aim of profiting from changes in the currencies’ values. Forex traders often use contracts for difference (CFDs) to buy and sell forex pairs. These forex CFDs track the spot price of forex pairs, allowing traders to speculate on price movement without the need to physically own and hold the base currency.

Let’s go back to the GBP/USD pair as an example. A trader aims to take as many “pips” as possible before closing the trade at a higher price. Pips, short for “points in percentage”, represent the smallest price move in a forex quote, typically the fourth decimal place. Some currency pairs also feature a fifth decimal place is known as a “pipette”.

What Influences Currency Prices In The Forex Market?

The value of a currency is fundamentally tied to the global demand for the nation or market’s goods and services. Some currencies are even adopted by multiple countries in an economic bloc, such as the euro. As such, currencies will strengthen and weaken in value constantly, and there are many other factors which can also influence the demand and price, such as:

• Geopolitical Stability

  Governments that are stable and follow sound fiscal policies tend to have stronger currencies. On the other hand, political turmoil or decisions that detract from investor confidence (such as tax changes or unfunded spending) can place pressure on the value of a nation’s currency, which may lead to it weakening.
  
  One example of this was the United Kingdom’s (UK) decision to leave the European Union (EU) in 2016, which saw the pound immediately falling over 10% against the United States (US) dollar, driven largely by the negative investment outlook of the UK economy post-Brexit.

• Economic conditions

  Countries with strong economic indicators such as high Gross Domestic Product (GDP) growth, low unemployment, and robust manufacturing outputs will typically also see its currency strengthen. Conversely, poor economic performance may lead to the opposite effect.
  
  This was most recently seen in July 2024, when a weaker-than-expected jobs creation figures in the US led to a decline of the dollar’s value against other currencies. As such, savvy forex traders will typically follow these economic data point releases keenly, and top forex trading platforms such as TMGM will feature detailed and intuitive economic calendars that include data projections and announcement schedules.

  

• Inflation and Central Bank Policy

  In simple terms, inflation reduces the purchasing power of a currency, and high inflation often leads to the depreciation of a currency. Central banks play a very crucial role in managing inflation through monetary policy, such as through setting interest rates. On the other hand, countries struggling with inflation can see their currencies depreciate significantly.
  
  Turkey’s inflation problem is a prime example. The persistently high inflation rate of 61% in July 2024 has caused the Turkish Lira to plummet against the US dollar.

About $6.6 trillion in forex trading transactions are said to be completed every single day, making foreign currencies some of the most actively traded assets worldwide. Now that you know what currencies are, and how they are affected, let’s take a look at how to participate in the massive forex market.

How Does Forex Trading Work?

Online forex trading with CFDs allows traders to profit from currency price changes in either direction, so with the right forex strategies and signals, traders can benefit from both rising and falling forex markets.

Going Long

If you expect a currency to rise in value against another, you can go long on the base currency/quoted currency and open a buy position on that pair. Should the base currency’s value rise against the quoted currency, this position will yield a profit when it is closed.

Example: Going long on GBP/USD (expecting GBP to rise against the USD).

Opening a buy position for the GBP/USD pair at $1.26850, and selling once it rises to $1.26910 will yield a 6-pip profit.

Going Short

If you expect a currency to fall in value against another, you can go short on the base currency/quoted currency, and open a sell position on that pair. Should the base currency’s value fall against the quoted currency, the position will yield a profit when it is closed.

Example: Going short on EUR/USD (expecting EUR to fall against the USD).

Opening a sell position for the EUR/USD pair at $1.08450, and closing it once the price moves down to $1.08320 will yield a 13-pip profit.

Popular forex pairs to trade include:

• EUR/USD
• USD/JPY
• AUD/USD
• USD/CAD
• USD/CNY
• USD/KRW

Managing Forex Positions

Use advanced trading platforms like TMGM with tools like stop-loss and take-profit orders to manage your risk. Stop-loss orders allow you to define a maximum loss per trade and take-profit orders can also automate closing out a profitable forex trade.

For instance, if you expect the GBP will strengthen against the USD, you might go long (buy) GBP/USD at $1.2850 with a stop-loss order at $1.2800 and a take-profit order at $1.2900. This setup essentially has a 1:1 risk-reward ratio and risks 50-pips for a potential profit of 50-pips.

Key Considerations in Forex Trading

• Spread

  Forex spread is the difference between the bid (buy) and ask (sell) price of a forex pair. Narrow spreads mean lower trading costs, and your trades will require less pip movements to be profitable.

• Leverage

  Leverage, also known as margin, allows traders to open larger forex positions with a smaller upfront cost. At TMGM, leverage can go up to 1:30, effectively borrowing the rest of the capital for your trade from the broker. The profit or loss of this trade is determined using your leveraged position size rather than your initial deposit. That’s why traders should familiarise themselves with how to use leverage wisely to effectively manage risk.

Now that you have some understanding of how forex works, let’s take a look at some of the reasons so many traders have chosen to participate in the vibrant forex market.

Advantages of Forex Trading

Flexibility

Forex CFDs give traders the flexibility to take both long and short positions, so depending on whether the trader is bullish or bearish on currency pair, there’s always multiple avenues to explore.

Liquidity

Forex markets are highly liquid, with $6.5 trillion traded daily, allowing for quick position opening and closing. In contrast, the New York Stock Exchange only has a trading volume of $20 billion daily, for some perspective!

Impressive 24/5 Market Access

Forex CFDs are traded 24 hours a day, five days a week, granting easy access and trading opportunities, no matter where in the world the trader resides.

Suitable for Short-Term Trading

The highly liquid yet volatile forex markets make them well suited for various trading styles, including scalping (i.e. opening and closing positions fast, with the goal of taking small but frequent profits) and swing trading (keeping forex positions open from the start of a trading day and closing them at the end of the same day, with the aim of completing a swing trade such as a price reversal or correction).

Hedging Opportunities

Forex pairs can also act as a strategic hedge against losses in other tradeable markets like commodities. One example of this is the crude oil market, which typically moves inversely to the USD/CAD forex pair. If you have a long position on crude oil and there’s a growing risk of oil prices falling, you could take a long (buy) position on USD/CAD, since the US dollar will usually strengthen in such a scenario.

Is Forex Trading Right for You?

Evidently, forex trading offers many advantages, including extended trading hours, high liquidity, and multiple avenues to trade from. As such, it’s crucial to understand and be aware of the volatility and leverage risks involved and align the nuances of forex trading with your personal goals and risk tolerance. If you’re ready to tackle this challenge, read on!

How to Become a Forex Trader

• Explore TMGM’s library of resources: Access free trading resources, including Daily Analyses and ebooks, available at TMGM Market.
• Choose a Platform: Find a forex trading platform that suits your needs, be it MetaTrader 4, MetaTrader 5, or the TMGM app.
• Practice: Take advantage of TMGM’s demo account to hone your forex trading strategies, or open a TMGM Live Account and start trading forex with a smaller bankroll to gain some trading confidence.

What Is a Forex Broker?

A forex broker facilitates trades by providing liquidity and executing orders at the best market prices. TMGM partners with over 10 Tier 1 liquidity providers to ensure optimal trading conditions, while providing traders with state-of-the-art trading platforms, signals, and tools.

With liquidity for over 50 forex pairs and razor thin spreads from 0.0 pips, TMGM is a trusted and regulated Forex broker, with reputable licenses from the Australian Securities and Investment Commission (ASIC), the Vanuatu Financial Services Commission (VFSC), and the Financial Services Commission, Mauritius (FSC). Start your forex trading journey with TMGM today, with deposits as low as $100!