Capitalization

Because of the amount of leverage which Forex offers, it’s easy to get in over your head, and all previous advice about position sizing and limiting your losses should not be disregarded just because you ‘can’. Typically, you can trade with leverage of 100 to 1, which means the standard Forex contracts of 100,000 units, such as $100,000, can be traded with $1000.

The smallest unit of movement in Forex is called a ‘pip’, which is a ‘percent in point’, or percent of a percent. That means it’s the fourth decimal place, so for example with the GBP/USD the quote might be 1.5126, and a fall of 15 pips would make it 1.5111. When you work it out, every single pip change amounts to $10 when you’re trading a standard size, so this fall would be $150. A typical currency pair might swing about 100 pips in a day, although the volatility varies.

You might want to note that this definition of pip holds good for everything except the Japanese yen. This exception is made because most currencies have some sort of parity, even if it is as much as the US dollar being equal to about £1.60. But £1 is equal to about 125 Japanese yen, and there are about 77 Japanese yen in a US dollar at the time of writing. Therefore there is a factor of 100, compared to other currencies, used when the Japanese yen is involved. The pip which is a percent of a percent for other currencies is simply a percent for the Japanese yen, i.e. the second decimal place.

You may be tempted by the idea that you can capture a gain of, say, 60 pips, and with your $1000 contract make a profit of $600. As leverage applies both ways, you must watch your stop loss positions, and never buy more contracts than your capital will allow to fail. If you started your trading with $10,000 and bought 10 contracts, and you rode the loss down 60 pips you would be out $6000, and only have $4000 left in your account. You are losing money far too quickly to look forward to a trading career! You may even lose so much that you are subject to a margin call, and this would involve you finding funds outside of your trading account in a hurry to satisfy your broker’s demands.

If you’re looking to trade on the Forex market there is an alternative that makes starting trading a little easier. You can trade something called the Forex Mini, which is based on $10,000 or 10% of the value of the standard contract. The margin is usually fixed at half percent, which means you only need $50 for each lot you trade. This is a good way to get your feet wet in the markets, but being subject to high leverage as with the bigger lots, you still have to take care not to overcommit your funds. If even this is too much for your funds, the the brokers also offer micro-lots, which are even more affordable. Just make sure that your trading cannot quickly decimate your account, by considering the number of contracts and the stop loss position that you will take.

On the other hand, if you are considering spread betting on the currency markets, you can name your own price. This is one of the advantages of being able to spread bet. You certainly do not need to find £1000 simply to open one position, as you would on the Forex markets. While there are minimums that you must use, these are usually very affordable. Even so, the markets are not predictable and you must guard against overcommitting the funds that you have.

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